It is no secret that the corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. is one of the most complex taxes that states levy. It requires apportioning profits across several states and allocating expenses across multiple years, and usually involves more state department of revenue personnel to administer than any other state taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. .
In Louisiana, they have even more complexity than most states, though, because they have a highly unusual provision which allows corporations to deduct the cost of their federal taxes against their state tax burden, a provision which is enshrined in the Louisiana state constitution. On November 8, voters will face Amendment 3, a ballot question which would repeal that provision.
Repealing federal deductibility would mitigate three main disadvantages of the policy, which are listed below. Paired with a rate cut (as the Louisiana ballot initiative is), repealing the deduction has the potential to make Louisiana more economically competitive, while enhancing revenue stability.
Federal deductibility drives up corporate tax rates unnecessarily
As with any deduction, the federal deduction lowers taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. (the tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. ), meaning that a higher rate is necessary to raise the same amount of revenue.
Having this deduction is one of the main reasons Louisiana’s corporate tax rate is 8 percent, the highest corporate tax rate in the South. If Amendment 3 is passed, companion legislation which already passed the legislature last session would lower the Louisiana corporate income tax rate to 6.5 percent, tying the state with neighboring Arkansas’s corporate tax rate.
Federal deductibility results in more volatile revenue
Allowing corporations to deduct their federal tax liability against their state taxes ties state revenue collection to federal tax changes in an unnecessary way.
For example, if the federal government passed a corporate tax hike, that would make the Louisiana federal tax deductionA tax deduction is a provision that reduces taxable income. A standard deduction is a single deduction at a fixed amount. Itemized deductions are popular among higher-income taxpayers who often have significant deductible expenses, such as state and local taxes paid, mortgage interest, and charitable contributions. more generous as companies pay greater federal tax bills. That would unintentionally drive down Louisiana state corporate tax collections without Louisiana policymakers even passing any legislation.
The opposite is also true: if the federal government passed a corporate tax cut, that would decrease the generosity of the federal deduction, and Louisiana corporate tax collections would then swell without any legislation being passed by Louisiana policymakers. Most other states do not even subject themselves to this revenue volatility, instead only making changes to corporate taxes when their own state legislators vote to do so.
Federal deductibility is not protection against a “double tax”
At the Tax Foundation, we are always on the lookout for ways to eliminate double taxation. However, the argument that having a deduction for federal taxes paid is a protection against double taxationDouble taxation is when taxes are paid twice on the same dollar of income, regardless of whether that’s corporate or individual income. is not accurate.
Taxpayers exist simultaneously within the United States, and within their home state. Both of those governments provide services to you as a taxpayer, and so both can levy taxes against the same tax base. Having similar tax bases at the federal and state levels actually makes the tax code simpler by reducing the number of calculations necessary to fill out tax forms.
Is it a pain that both the federal government and the state government get to take a bite out of corporate profits? Yes. But those revenues go to different functions, and both ostensibly benefit the taxpayer, who is a resident under both the federal and state government.
It is for these reasons that only three states allow for the full deductibility of federal income taxes against a state tax return.
In 2015, our team reviewed Louisiana’s tax code from top to bottom and made comprehensive recommendations for tax reform across all tax types. In the corporate tax, we recommended moving from federal deductibility for these reasons. Time will tell what the voters of Louisiana decide.
More entries in our series on Top Ballot Initiatives to Watch in 2016.
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