Thirteen Priorities for Pro-Growth Tax Modernization in Nebraska

Executive Summary

Nebraska’s motto promises “Good Life. Great Opportunity.” It is a promise on which policymakers have long worked hard to deliver, and residents take great pride in hailing from the Cornhusker State. Many, however, are frustrated by the economic challenges the state has faced for years, including high taxes, modest economic growth, and out-migration of its educated workforce—economic challenges in tension with Nebraska’s pursuit of being a state of opportunity.

The state’s tax code remains the product of a 20^th century economy. The individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. , 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. , and sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. were all adopted in 1967 and have seen relatively few changes over the past five decades. Three of the major taxes—the corporate income tax, individual income tax, and property taxA property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services. —are distinctly high in Nebraska compared to many neighboring states and states across the country, while the sales 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. is narrow and continues to erode over time.

On the Tax Foundation’s State Business Tax Climate Index, a measure of tax structure, Nebraska ranks slightly below-average, signifying significant room for structural improvement. A comprehensive reexamination and modernization of Nebraska’s tax code would relieve tax burdens for existing residents while making the state more attractive as a destination for business investment, which could unlock significant job and wage growth potential for the state for years to come.

This report identifies 13 of the highest tax reform priorities Nebraska policymakers should consider in their effort to create a more growth-friendly tax code. Near the end of this report, a sample comprehensive tax reform plan is offered to show one way policymakers could begin tackling these objectives over the next couple legislative sessions, with further progress to be made in the years ahead.

If the sample tax reform proposal were adopted, Nebraska would improve from 28^th to 18th overall on the State Business Tax Climate Index and from 32^nd to 23^rd on corporate taxes, 21^st to 20^th on individual income taxes, 15^th to 12^th on sales taxes, and 41^st to 29^th on property taxes respectively.

The 13 tax reform priorities that are outlined in this report are summarized here.

Corporate Tax Solutions

Reduce the corporate income tax rate. Nationwide, only 15 states and the District of Columbia have a top marginal corporate income tax rate higher than Nebraska’s, and two of the states bordering Nebraska—South Dakota and Wyoming—have no income tax at all. While the corporate income tax generates a relatively small share of the state’s total tax revenue, it is one of the most economically harmful taxes the state levies, as it reduces in-state investment and is borne in large part by a firm’s employees, shareholders, and consumers. Reducing the corporate income tax would greatly improve Nebraska’s economic competitiveness regionally and nationally.

Shift from a graduated-rate to a single-rate corporate income tax structure. Nebraska is one of only 14 states that uses a graduated-rate corporate income tax structure. A graduated-rate structure makes the tax code more complex, and there is little justification for maintaining a progressive corporate income tax structure, as a corporation’s size bears no relation to the income of its owners.

Remove Global Intangible Low-Taxed Income (GILTI) from the corporate income tax base. As a byproduct of its rolling conformity with changes to the federal tax code made by the 2017 federal tax reform law, Nebraska automatically taxes certain international income. As a result, some firms could face significant in-state liability for the activities of their foreign subsidiaries, making Nebraska less attractive to multinational corporations. States were never meant to tax international income, and taxing GILTI makes the tax code significantly more complex while raising constitutional issues. Nebraska policymakers should prioritize removing GILTI from the corporate tax base.

Reduce reliance on targeted business incentives. Nebraska forgoes substantial amounts of revenue each year by offering targeted business tax incentives under the Nebraska Advantage and, as of 2021, the ImagiNE Nebraska program. These tax incentives mitigate some of the harmful aspects of Nebraska’s tax code—including income taxes, tangible personal property taxes, and sales taxes on business inputs—for firms that qualify for them, but only about two of every 1,000 Nebraska businesses benefit from this tax relief. Moving forward, Nebraska policymakers should prioritize permanent structural reforms that benefit all firms. A lower income tax rate and fewer taxes on tangible personal property and business inputs would make the state more attractive to businesses of all sizes and types.

Individual Tax Solutions

Reduce individual income tax rates. Nationwide, only 15 states and the District of Columbia have a top marginal individual income tax rate higher than Nebraska’s. Of the states bordering Nebraska, only Iowa currently has a higher top marginal rate, while South Dakota and Wyoming do not levy income taxes at all. While the effective tax rate in Nebraska for low- and moderate-income taxpayers is low compared to neighboring states with an income tax, the effective rate for middle- and higher-income taxpayers is higher than in any neighboring state. High top marginal rates are associated with state net out-migration. Pass-through businessA pass-through business is a sole proprietorship, partnership, or S corporation that is not subject to the corporate income tax; instead, this business reports its income on the individual income tax returns of the owners and is taxed at individual income tax rates. es pay under the individual rather than the corporate income tax, so high individual income tax rates impact businesses and households alike.

Consolidate individual income tax bracketA tax bracket is the range of incomes taxed at given rates, which typically differ depending on filing status. In a progressive individual or corporate income tax system, rates rise as income increases. There are seven federal individual income tax brackets; the federal corporate income tax system is flat. s. Nebraska’s four-bracket individual income tax structure penalizes upward mobility by taxing individuals at increasingly higher effective rates as their income rises. Under Nebraska’s current structure, the first seven deciles of income earners pay only 15 percent of the state’s total income taxes, while the top three deciles pay the other 85 percent. Studies have shown that higher marginal income tax rates reduce gross state product growth. An income tax structure with fewer brackets and lower rates could help reverse Nebraska’s out-migration problem and create a tax environment that is more hospitable for all current and prospective Nebraska taxpayers.

Sales Tax Solutions

Modernize the sales tax base. A well-structured sales tax applies to all final personal consumption—both goods and services—while exempting business inputs to prevent tax pyramidingTax pyramiding occurs when the same final good or service is taxed multiple times along the production process. This yields vastly different effective tax rates depending on the length of the supply chain and disproportionately harms low-margin firms. Gross receipts taxes are a prime example of tax pyramiding in action. . Nebraska’s sales tax falls short of this ideal, as it exempts many consumer services and goods that ought to be taxable, while applying the sales tax to many business inputs that ought to be exempt. Right-sizing and modernizing the sales tax base should be a priority for lawmakers, as this would make the tax code more neutral while generating additional state and local revenue that can be used to reduce reliance on more economically harmful taxes.

Property and Wealth TaxA wealth tax is imposed on an individual’s net wealth, or the market value of their total owned assets minus liabilities. A wealth tax can be narrowly or widely defined, and depending on the definition of wealth, the base for a wealth tax can vary. Solutions

Tighten the property tax levy limit. Nebraska has property tax rate and levy limits, but these limitations are relatively permissive and do little to restrain property tax growth. The current levy limit can be easily overridden with a public hearing and a vote of the local political subdivision’s governing board. A stricter levy limit that requires a vote of the people would better restrain property tax growth. As an alternative, policymakers could consider enhancing transparency surrounding property tax increase proposals by adopting policies similar to those found in Utah’s Truth in Taxation law, which enhances taxpayer notification regarding proposed property tax increases without otherwise restricting local political subdivisions’ ability to raise revenue.

Convert property tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly. s into direct local aid. Each year, Nebraska spends millions of dollars on tax credits designed to offset local property taxes paid, but this spending does nothing to prevent local property tax increases. In fact, local property tax collections have continued to increase at a faster rate than offsetting state credit amounts have increased. To ensure state dollars spent on property tax relief truly help replace local property tax dollars that would otherwise be collected, Nebraska policymakers should consider converting the existing credit system into a direct local aid system in which state aid is contingent upon reductions in local property taxes collected.

Phase out taxes on tangible personal property (TPP). Taxes on tangible personal property are a significant impediment to business investment in Nebraska. These taxes fall especially heavily on capital-intensive industries such as agricultural producers and manufacturers, and they are complex to administer and comply with. Compared to real property taxes, which are relatively neutral, TPP taxes significantly distort economic decision-making. As other states have modernized their tax codes, many have phased out their TPP taxes, and Nebraska would benefit by doing the same. Nebraska can begin phasing out its TPP tax by either exempting property acquired after a certain date or exempting additional classes of property over time.

Restore the TPP tax de minimis exemption. Until policymakers can fully phase out the TPP tax, they should make every effort to restore—and preferably increase—the $10,000 de minimis exemption that was repealed in 2020. In restoring a de minimis exemption, it should become both a payment threshold and a filing threshold to mitigate compliance costs for those small businesses that have historically had to file every year despite having less than $10,000 in TPP tax liability.

Phase out the inheritance taxAn inheritance tax is levied upon an individual’s estate at death or upon the assets transferred from the decedent’s estate to their heirs. Unlike estate taxes, inheritance tax exemptions apply to the size of the gift rather than the size of the estate. . Nebraska remains one of only six states that continues to levy an inheritance tax, and its top inheritance tax rate of 18 percent is the highest in the nation. Inheritance and estate taxAn estate tax is imposed on the net value of an individual’s taxable estate, after any exclusions or credits, at the time of death. The tax is paid by the estate itself before assets are distributed to heirs. es create significant economic distortions and can cause high-net-worth individuals to either move out-of-state or use costly tax planning strategies to avoid or reduce liability. Nebraska should work to repeal its inheritance tax and can start by increasing its de minimis exemptions and reducing the exorbitantly high rate on bequests to non-relatives.

Repeal the capital stock tax. Nebraska is one of only 15 states still levying a capital stock tax, or a tax on net worth or capital accumulated in-state. These taxes—which are levied in addition to the corporate income tax—penalize in-state investment despite generating a relatively small amount of revenue. Nebraska’s capital stock tax generates very little revenue and is thus more of a nuisance tax than a valuable source of revenue. As such, the benefit to taxpayers in repealing this tax likely outweighs the revenue impact to the state of repealing it.

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