Fiscal Fact No. 36
As the nation prepares for a massive rebuilding effort in the Gulf Coast region, policymakers in Mississippi should also consider rebuilding their 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. system. While federal incentives may encourage companies to invest in the region in the short term, Mississippi’s state and local business climates will be considerably more important for economic development in the long term.
Congress has already passed an aid package worth over $60 billion for the afflicted areas, in addition to $6.1 billion in federal tax incentives for the disaster zone. Ideally, reforms should focus on creating an environment where capital formation is encouraged and entrepreneurship is allowed to flourish. Mississippi should focus on encouraging companies to invest in the state for the long-term, not just during the immediate aftermath and rebuilding period.
The State Business Tax Climate Index
Promoting long-term business investment requires fiscal policies that recognize the importance of a competitive tax system. Each year the Tax Foundation publishes its State Business Tax Climate Index. This comprehensive study of the 50 state tax systems is designed as a guide to lawmakers who wish to make their state’s business tax climate more competitive in the regional, national and international marketplace. The Index compares the states in five general areas of taxation: business taxes, 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. es, sales and gross receipts taxA gross receipts tax is a tax applied to a company’s gross sales, without deductions for a firm’s business expenses, like costs of goods sold and compensation. Unlike a sales tax, a gross receipts tax is assessed on businesses and apply to business-to-business transactions in addition to final consumer purchases, leading to tax pyramiding. es, unemployment insurance taxes, and taxes on assets.
Mississippi Ranks 25th Overall
In 2004, Mississippi was in the middle of the pack overall, but among the five states of the Gulf Coast, only Louisiana ranked lower (see Table 1).
Table 1. State Business Tax Climates in the Gulf Coast
Source: Tax Foundation’s 2004 State Business Tax Climate Index.
Analysis of Mississippi’s Tax System and Recommendations for Reform
When we look at the five sub-indexes that rank each type of tax, we see considerable room for improvement in Mississippi’s taxation of businesses, and in its 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. .
The Mississippi Legislature should abolish the state’s franchise tax and move toward taxing corporations through a unified 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. . This would be a bold and innovative step and would send a signal to investors that Mississippi is open for business.
Mississippi’s franchise tax is certainly one of the most economically damaging provisions in the state’s code, imposing a $2.50 levy for every $1,000 of capital that is used, invested, or employed by an organization. Unlike a corporate income tax that only taxes profitable companies, the franchise tax hits firms when they’re down. Its abolition would give business a huge boost, even if most of the lost tax revenue were made up elsewhere.
Mississippi’s corporate income tax could also stand some reform. Its rates are reasonable, but the brackets are not indexed for inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spending power. and have no exemptions for foreign, federal or local taxes paid. Mississippi’s tax system is in the small minority that does not conform to the federal income 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. . Lawmakers should consider that making it conform would considerably reduce the cost of tax compliance for businesses.
Mississippi levies a 7 percent general sales tax on consumers. This is the second highest state-level statutory sales tax rate in the nation, and it results in collections of approximately $814 per person per year. That is the 8th highest sales tax burden in the nation.
The state should consider exempting business inputs from the state sales and use tax, and it should remove exemptions for all end-user goods and services. The exemption for business-to-business transactions is critical because when business inputs are taxed, the higher costs accumulate and are passed on to consumers as a tax on a tax. Business input taxes also create distortionary incentives for firms to vertically integrate and produce their own inputs to avoid the tax.
Specific Policy Recommendations for Sales Taxes
- Reduce or eliminate the 3.5 percent tax on contractors for the construction of commercial improvements. This not only diminishes an administrative burden, but also frees up money to be spent on crucial rebuilding efforts (MS Code § 27-65-21).
- Suspend the requirement that contracts in excess of $75,000 either pay the contractors tax up front or post a bond with the state (MS Code § 27-65-21(3)).
- Reduce or eliminate the 1.5 percent sales tax on machinery used in ports and harbors. This will be important for rebuilding commercial infrastructure in the Gulf Coast region (MS Code § 27-65-24).
- Provide a sales and use tax exemptionA tax exemption excludes certain income, revenue, or even taxpayers from tax altogether. For example, nonprofits that fulfill certain requirements are granted tax-exempt status by the IRS, preventing them from having to pay income tax. for the following business inputs: office equipment, repair services, custom software, and modified “canned” software.
- Consider removing the lower 3 percent rate for “publicly owned enclosed coliseums and auditA tax audit is when the Internal Revenue Service (IRS) conducts a formal investigation of financial information to verify an individual or corporation has accurately reported and paid their taxes. Selection can be at random, or due to unusual deductions or income reported on a tax return. oriums (except admissions to athletic contests between colleges and universities)” and instead levying tax at the general rate of 7 percent (MS Code § 27-65-22(1)).
- Consider eliminating some or all sales and use tax exemptions for amusements (MS Code § 27-65-22(3)(a)-(k)).
- Consider permanently or temporarily suspending the bonding requirement for out-of-state sellers of mobile homes (MS Code § 27-65-27(3)).
- Ensure proper enforcement of the governmental sales tax exemption in MS Code § 27-65-105(a) by requiring a purchase order or other validation of a purchase by a governmental entity.
- Consider eliminating the following exemptions in MS Code § 27-65-111 and dedicating the revenue to lowering the sales tax rate: daily or weekly newspapers and other periodicals [111(b)], medicines [111(h)], retail sales of autos exported within 48 hours [111(i)], alcohol blended fuel [111(j)], food from vending machines [111(m)], sales to alumni associations [111(r)], and sales made through certain types of car washing equipment [111(x)].
- Apply the same sales and use tax rate to motor vehicle sales as other sales of tangible personal property or services (MS Code § 27-65-201).
Specific Policy Recommendations for Income Taxes
- Ideally, repeal the franchise tax. Alternatively, levy the tax at a lower rate than the current $2.50 per $1,000 of capital. Make up the revenue and eliminate complexity by repealing special 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 and economic development plans so that all businesses in Mississippi pay one low franchise tax rate (MS Code § 27-13-5).
- Consider combining the tax on C corporations and S corporationAn S corporation is a business entity which elects to pass business income and losses through to its shareholders. The shareholders are then responsible for paying individual income taxes on this income. Unlike subchapter C corporations, an S corporation (S corp) is not subject to the corporate income tax (CIT). by eliminating § 27-8 and instead taxing S and C corporations equally through the income tax law.
- Consider indexing the 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 for inflation.
- Consider reducing or eliminating the tax credits for qualified businesses and using the savings to lower the income tax rate (MS Code § 27-7-22).
- Consider reducing or eliminating the tax credit for net employment gains for financial institutions and using the savings to lower the income tax rate (MS Code § 27-7-22.13).
- Consider reducing or eliminating the credit for approved reforestation practices and using the savings to lower the income tax rate (MS Code § 27-7-22.15).
- Consider reducing or eliminating the credit for brownfield development and using the savings to lower the income tax rate (MS Code § 27-7-22.16).
- Consider reducing or eliminating the credit for producing at least 3,000 jobs and using the savings to lower the income tax rate (MS Code § 27-7-22.17).
- Consider reducing or eliminating the credit for producing at least 450 jobs in certain enterprises and using the savings to lower the income tax rate (MS Code § 27-7-22.18).
- Consider reducing or eliminating the credit for integrated suppliers and using the savings to lower the income tax rate (MS Code § 27-7-22.19)
- Consider reducing or eliminating the credit for certain enterprises making a $600 million investment and using the savings to lower the income tax rate (MS Code § 27-7-22.20).
- Consider reducing or eliminating the credit for conservation land donations and using the savings to lower the income tax rate (MS Code § 27-7-22.21).
- Consider reducing or eliminating the credit for investing in economically distressed areas and using the savings to lower the income tax rate (MS Code
- Consider reducing or eliminating the credit for alternative energy definitions and using the savings to lower the income tax rate (MS Code § 27-7-22.28).
- Consider reducing or eliminating the credit for manufacturers in Mississippi for more than two years and using the savings to lower the income tax rate (MS Code § 27-7-22.30). This will be particularly important as Mississippi attracts new investors in the wake of Katrina.
- Tie the Mississippi state income tax base to the federal base. This will greatly simplify tax compliance for corporations.
- Consider reducing or eliminating the individual income taxation of interest, dividends, and capital gains.
Conclusion Rebuilding in the wake of Hurricanes Katrina and Rita provides policymakers in the Gulf Coast region with an opportunity to rebuild their tax systems as well. When federal aid ends, Mississippi should have a plan in place for promoting long-term economic growth. Ireland, once a poor country, has successfully used its newly lowered corporate tax rate to attract massive amounts of new capital investment and transformed itself into the “Celtic Tiger.” Likewise, Mississippi can rebuild itself by attracting new capital and providing incentives for enterprising individuals to locate within the borders of the Magnolia state.
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