The West Virginia Department of Revenue announced earlier this year that it will be implementing a reduction in the state 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. rate in January 2014 from the current 7 percent to 6.5 percent. The decrease is part of previously-enacted legislation that would annually lower the rate through 2014 on the condition that the state’s previous year Rainy Day Fund balance is at least 10 percent of the state’s General Fund (see page 13 of this document for more info).
This is a good example of responsible, pragmatic 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. policy because it ensures the state can afford to implement the rate reduction. It makes sure that in the event of an economic contraction, the state has adequate back-up funding if overall revenues are depleted. We’ve discussed the importance of having strong rainy day funds in the past. This strategy is also politically palatable because it eases the concerns of tax reduction opponents who cite funding shortfalls (and feared future cuts to public services as a result) as a reason not to reduce taxes.
There are obvious merits to reducing state corporate income tax rates. Corporate income tax revenues are shrinking as a state revenue source because states like to tinker with apportionment formulas and dole out incentives to convince companies to set up shop in the state. Additionally, the traditional C-corporation is becoming a less common business organizational form as firms move more toward “pass-through” forms that file through 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. .
The rate cut may seem small, but it will have far-reaching effects on the state’s business tax climate. West Virginia currently scores 23rd overall on our State Business Tax Climate Index, with a subscore of 25 in the corporate income tax category. A reduction in rate will help improve the state’s ranking (but so would the elimination of limits on loss carry-backs–something West Virginia should address in the future).
More on West Virginia here.
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