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Iowa Sales-Tax Sleight of Hand

POLICY BRIEF

Proposals test limits of authority, defy voters’ intent and expectations

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By Mike Owen

Recent proposals and actions on Iowa’s sales tax would directly cost Iowa schools funding for both facilities and general operations, and most critical services could expect less as well. Aside from fiscal impacts, these proposals ignore existing law or voters’ directives, and long traditions in the way we govern ourselves. To many, this is a low road — of lower revenues, services and commitment. We map that road below.

Here we do not review in detail the impact of the sales tax on various types of Iowa households, though we examine Iowa’s significant shifts toward regressive taxation (particularly the sales tax) in greater depth elsewhere.[i] Rather, we focus on the revenue and governance issues raised by a recent unilateral action by the Branstad administration for a special sales-tax break, and pending proposals by the Governor and legislators to change intended spending from sales taxes now in place. Each represents a sleight-of-hand either in defiance of existing laws that have not been duly changed, or of promises made to voters who years ago authorized specific tax policy changes with clear expectations on the use of new revenue.

These new, opportunistic approaches are suddenly possible because of Iowa’s polarized political landscape. Ironically, they capitalize on what education and environmental advocates had seen as opportunities to progress despite a general lapse of the state’s commitment of funding. Only an expectation that lawmakers will not agree to stop the Governor permits him to act unilaterally on a sales tax exemption, a reinterpretation of longstanding existing law to grant manufacturers a special break without prior legislative approval. Only the looming expiration of­­ the school infrastructure sales tax gives the Governor an opportunity to attempt a diversion of that funding from school districts to water programs — an immediate loss to schools in the near term, and insufficient resources for schools and the full range of environmental priorities for the long term.

Meanwhile, policy makers do not follow the dictates of law for school funding, nor the direction of voters on environmental funding. Legislators already routinely dismiss their annual legal deadline for setting state school aid levels 14 months ahead of schools’ own budget certification deadlines. And we now see attempts by both the Governor and some legislators to come up with proposals that divert revenue and change the rules for funding of school facility needs. While education advocates have voiced concerns for several years about the state’s commitment to funding of public schools, environmental advocates have done the same through five-plus years of legislative inaction following a 2010 electoral victory. That year, voters statewide approved a constitutional amendment directing the first three-eighths-cent sales-tax increase to a trust fund to enhance stewardship of Iowa’s land, air and water resources — not all of which are in the Governor’s plan. 

 

The Sales Tax Under Current Law

Iowa’s state sales tax is part of a three-pronged funding structure to support state and local services and infrastructure: state and local sales and excise taxes; state income tax and local income surtax; and local property tax. State law governs all of these. The state sales tax is 6 percent on applicable purchases and services, with exemptions set by state law. The first five pennies of sales tax per dollar go to the state general fund; the sixth penny is dedicated to school infrastructure or school property tax replacement. That penny is worth about $435 million to Iowa schools in Fiscal Year 2016.[ii]

New Proposals Reduce Revenues for Services, Either Directly or Indirectly

Each of the imminent or proposed actions summarized below provide less revenue for public education than is provided under current law. These come at a time when the Legislature and Governor have settled Iowa into a trend of holding down the basic building block of school budgets — per pupil cost — in a formula designed to produce equitable funding for a student regardless of his or her school district. These actions give local school districts scant ability to sustain funding over time.

Administrative Change in Sales-Tax Law Without Legislative Approval

The first policy change, an administrative order to be implemented July 1 unless blocked by a veto-proof majority in the Legislature this spring, unilaterally reinterprets existing sales-tax law governing purchases by manufacturers. The Iowa Department of Revenue (DOR) preliminarily estimated the cost of this change to be $35 million or more in FY2017, which begins July 1. While there has been no official update of that estimate, many have projected it to be higher.[iii]

The governance issue may be of even greater importance than the fiscal impact. One observer with experience in the world of administrative rules, in testimony to the DOR on the proposed rule change, called it “an unprecedented potential shift of institutional, constitutional forces.”[iv] James C. Larew, an Iowa City attorney and former general counsel to Governor Chet Culver, stated:

“The balance of political power changes from one election to the next. 

“The balance of constitutional power — the relationship between the Iowa General Assembly and executive departments of our state government — is more serious and more lasting. 

“Broad statutory interpretive powers given up by the legislature to an executive agency, in one moment of time, concerning one issue, are not easily later recovered.”

The sharp partisan divide between the Iowa House and Senate appears to be weighing against a reversal of the Governor’s new interpretation of longstanding tax law, though about two months into the session there are indications that lawmakers may agree on a compromise that lessens the fiscal impact.[v] If the Governor’s change stands, it leaves an open question of how many other executive-branch reinterpretations of other tax laws may occur with this precedent, and with fiscal impacts of their own.

The following proposals stem in part from pressure for greater environmental funding, and capitalize on school districts’ interest in extending a statewide sales tax currently designated for school infrastructure funding but set to expire in 2029. Each proposal would cut into schools’ exclusive use of those funds even before the deadline.

Diverting the “Statewide Penny” from School Infrastructure for Other Uses

The so-called “statewide penny” is the sixth cent of Iowa sales tax — the sixth cent per dollar in sales on goods or services, added in 2008. After Governor Branstad first took office in 1983, he proposed and passed an increase in the sales tax from 3 percent to 4 percent. Again, in 1992, he approved an increase in the state sales tax to 5 percent. Meanwhile, beginning in 1998, local school districts were permitted to seek, through authority granted countywide, a 1 percent sales-tax increase to fund school infrastructure. This was known as the School Infrastructure Local Option, or SILO, tax. Frequently, these local referendum campaigns included assurances to voters by school administrators and school board members that the penny would be used for school facilities — and could not be used for salaries or other purposes. In 2008, these local SILO taxes were converted to a statewide tax, with an expiration date of Dec. 31, 2029. The stated legislative intent in the law is that the 1 percent tax “shall be used solely for purposes of providing revenues to local school districts under this chapter to be used solely for school infrastructure purposes or school district property tax relief.”[vi] Further, local districts must follow a voter-approved “revenue purpose statement” governing how the funds — from what is called the Secure and Advanced Vision for Education, or SAVE, fund — will be used within the bounds of the state law.

School officials across Iowa have been seeking an extension — or removal — of that sunset provision because they are allowed to borrow money against those anticipated SAVE revenues. The closer they get to that 2029 date, the more they are limited in long-term borrowing against that revenue source for school infrastructure projects. Schools also have been concerned about the possibility of attempts to scoop revenues from that source for other purposes. The Iowa Association of School Boards made “preserving the integrity of the statewide penny sales tax for school infrastructure,” along with repeal of the 2029 sunset, one of its four priorities for the 2016 legislative session.[vii] Proposals under consideration offer a nod to the latter — extending the law rather than repealing the end date — only by losing the “integrity of the statewide penny.”

Governor’s Plan — Diversion for Water Programs

While the question of school infrastructure is one of many funding challenges for schools as operational budgets have been held down by lawmakers in recent years, environmental advocates have sought more resources to deal with land and water management at a time of serious pollution issues. The latter have been highlighted by a 2015 lawsuit by the Des Moines Water Works against three counties whose ag-based pollution has driven up water treatment costs for their urban and suburban neighbors downstream.

The Governor’s proposal amounts to a bait-and-switch tactic to voters who passed local school infrastructure sales taxes, and to legislators who converted them into a statewide tax in 2008. Iowa Code Chapter 423F, with the same restrictions on the use of revenue.

Voters had approved strategies to address both challenges, for schools and the environment. While the Governor purports to do the same with a different approach, the changes weigh heavily against schools, when compared with current law for the near term and educator-backed proposals for the long term. While he would extend the school facilities sales tax from 2029 to 2049, he would reduce the share of that tax going to schools for the next 13 years, and limit growth to only $10 million a year statewide — a net loss to schools of $425.9 million through 2029.[viii] At the same time, he would divert increasing shares of the growth in those revenues through 2049 to water programs — an estimated $4.7 billion. See Figure 1 below.

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The history of this sixth penny of the state sales tax is important, as it established a level of political legitimacy for a tax increase among legislators who have not typically been out front in favor of tax increases. Its roots are in local votes across Iowa, where voters were asked to add a penny per dollar in sales tax to fund improvements to school facilities and equipment. This purpose was expressly stated for those elections. The Legislature in 2008 — following those local, carefully focused ballot issues — converted the local taxes to a statewide sales tax with a common expiration date and the same purpose as that used to sell voters on the tax increases from the outset. It is quite likely that without the local taxes in place, there would have been no political vehicle for establishment of the statewide tax that replaced them.

At the same time the Governor’s plan ignores the historical justification for the sixth penny of sales tax, he has rejected implementation of an alternative for water-quality funding that Iowa voters have given him. The 2010 referendum — passed in the same election that returned the Governor to his office after 12 years away — did not require the passage of a sales tax, but it did designate the first three-eighths of a penny of the next sales tax increase to be used for environmental stewardship. Voters said “yes” to a penny for school infrastructure, and said “yes” to three-eighths of a cent for water and land improvements. Voters have not granted authority for the Governor’s hybrid approach.

House Alternative Proposals to Divert School Revenue

Proposals in the Iowa House offer other ways in which the sales-tax increase is extended, but for uses different from those in the 2008 legislation that created the sixth penny of sales tax and different from those in the local option votes that set up the statewide tax. One, HF2382, builds on the Governor’s proposal for water quality funding, but also includes provisions to permit use of the funds to ease statewide inequities in per-pupil spending[1] — with restrictions that do not exist for other general spending — and inequities in transportation spending. The funds could not be used for teacher pay, for example, which is a major share of the cost of educating students. The legislation also carries new requirements for a voter referendum on any school facility project costing over $1 million, and approval by a supermajority of at least 60 percent. Already, a supermajority is required for a general obligation bond issue against property tax. Adding this requirement for use of the sales tax would further institutionalize minority rule against school facility improvements, even for relatively small-scale construction projects. Other proposals in the House — HF2260, HSB549 and HSB548 — also would impose new limits on spending and divert funding currently designated for school facility improvements under long-accepted restrictions that schools have not contested. HF2260 includes a provision to allow for the use of the funds to help address inequities from district to district in the share of their budgets that go to transportation costs — one issue raised by education advocates about reforms needed in the school funding formula.[ix]

The desire of school districts to extend the tax for its currently authorized use is the opening, as noted above, for a host of new restrictions that lawmakers have sought to impose on public school spending authority in the state — with window-dressing solutions for other concerns schools have raised about statewide equity.

Property Tax Impact of Branstad Plan

A notable consequence of this change may well be property-tax increases — in two ways —because less funding would be available in real terms through the SAVE disbursement. First, districts looking for resources will be more likely to increase their Physical Plant and Equipment Levy, if they are not already at the maximum $1.67 per $1,000 levy rate. Second, where SAVE funding can reduce the need for, or size of, property tax-based bond issues for facilities, districts might be left with no other option, provided they have the bonding capacity to do so. In both cases, these could cause property-tax increases — even though reductions in property tax have been the driving message behind tax changes by both the Governor and legislators in recent years.

In addition, the sales tax for school infrastructure already provides some property-tax replacement funding, to the Property Tax Equity and Relief (PTER) Fund.[x] The Governor’s proposal would reduce that by a total of about $9 million through 2029 compared to current law, and by about $102 million overall compared to a simple 20-year extension of the current law.[xi]

Constitutional Amendment Remains in Place

One of the problems with setting tax policy through a constitutional amendment is that policy makers lose flexibility. Diverting other funds now for the purpose designated by the 2010 constitutional amendment may well tie lawmakers’ hands in raising revenue in the future. The next three-eighths of each penny raised by a sales-tax increase will go to environmental programs, regardless of action amending the use of the school infrastructure sales tax. In the event of a sales-tax increase in the next five-10 years, it is inevitable that this would set up new competition for revenues between environmental advocates and advocates for other critical services left out of the Governor’s plan. Would there be a move to redirect the diversion from the school infrastructure tax? How might this affect bonding arrangements for projects for either water quality or schools? It would be best for lawmakers to address such scenarios before, rather than after, passage of anything along the lines suggested by the Governor.

Conclusion

Transparency is essential for Iowans to understand how and why they are being taxed, and how the revenues will be used. Whatever their perceived merits, the tax policy changes that we examine here are being pursued in defiance of understandings and expectations that exist by both tradition and law. The precedents they offer raise uncertainties for future governance of our state.

Ultimately, the Governor’s proposed diversion of school funding to water programs is a response to a short-term challenge in both areas with, at best, long-term uncertainties. More likely it poses a long-term hindrance to school districts’ ability to meet facilities needs, and to the funding choices of future legislators and governors.

Finally, while we do not delve deeply with this paper into the tax fairness issues posed by an enhanced focus on the sales tax where revenues are needed, it is well established that Iowa’s sales taxes disproportionately affect poorer households. To put even more reliance on this most regressive piece of Iowa’s state and local tax structure, which overall is regressive, means policy makers should be looking at offsets to assist low-income families in conjunction with sales-tax increases. None of these proposals make an attempt to balance out fairness issues, which also is true of the solution offered by the 2010 constitutional amendment. Some proposals in the House, in fact, would exacerbate fairness problems, by encouraging local school districts to buy down property taxes with sales-tax revenues.

 


[1] Iowa school budgets are built based on a per-pupil cost, which varies by as much as $175 per student from the highest to lowest district. About half of Iowa school districts are at the lowest level, and in recent years this has prompted calls for a legislative solution. For more on this issue, see “Building blocks of inequity,” Iowa Policy Project blog post, February 2016, http://iowapolicypoints.org/2016/02/10/building-blocks-of-inequity/


[i] Cementing Inequity: Richest Iowans Pay Lower Tax Rate, Iowa Fiscal Partnership, January 14, 2015. http://www.iowafiscal.org/cementing-inequity-richest-iowans-pay-lower-tax-rate/
[iv] Testimony of James C. Larew, Iowa City attorney and former administrative rules advisory and General Counsel to Governor Chet Culver, Dec. 1, 2015. Available here: http://www.iowapolicyproject.org/2015docs/151201-Larew-DOR_RulesTestimony.pdf.
[v] The Gazette, Cedar Rapids, March 9, 2016: Iowa legislators move forward with compromise on taxes. http://www.thegazette.com/subject/news/government/iowa-legislators-move-forward-with-compromise-on-tax-policy-compromise-20160309
[vi] Code of Iowa, Chapter 423F.1 Legislative intent: https://www.legis.iowa.gov/docs/code/423F.pdf
[viii] Calculations by Shawn Snyder, Finance Support Director, Iowa Association of School Boards.
[ix] See December 2015 testimony to Iowa Legislature School Finance Inequities Committee, https://www.legis.iowa.gov/committees/meetings/documents?committee=24164&ga=ALL, and the committee’s final report, Jan. 1, 2016: https://www.legis.iowa.gov/docs/publications/IP/765872.pdf
[x] Iowa Code Chapter 423F https://www.legis.iowa.gov/docs/code/423F.pdf, Iowa Code Chapter 257.16A https://www.legis.iowa.gov/docs/code/423F.pdf. The Property Tax Equity and Relief (PTER) Fund receives a state appropriation, plus funds from the Secure an Advanced Vision for Education (SAVE) Fund, after per-pupil allocations are made as a result of the statewide 1 percent sales tax for school infrastructure.
[xi] Calculations by Shawn Snyder, Finance Support Director, Iowa Association of School Boards.

 

IPP-Owen-2013-5464Mike Owen is executive director of the Iowa Policy Project (IPP) in Iowa City. A former journalist in Iowa and Pennsylvania, he has been a member of the West Branch Community School District Board of Education since 2006.

 

110929-ifp-newlogo10IPP and the Child & Family Policy Center in Des Moines are two nonpartisan, nonprofit Iowa-based organizations that formed the Iowa Fiscal Partnership, to make public policy analysis available to all Iowans. Reports are at www.iowafiscal.org. The Iowa Fiscal Partnership is part of the national State Priorities Partnership, with IFP research supported in part by the Stoneman Family Foundation and the Annie E. Casey Foundation, as well as individual and organization donors in Iowa. IFP analysis is solely the responsibility of the authors and may not reflect the views of supporting funders.

IFP Statement: Governor diverts revenue — and attention from choices on water and schools

IOWA CITY, Iowa — The Iowa Fiscal Partnership today issued this statement regarding Governor Branstad’s promotion of a study claiming economic benefits of his proposed diversion of sales-tax revenue to water projects:

The Governor’s office today asserted that his proposal to divert revenue from the school infrastructure sales tax to clean water initiatives “would mean more jobs for Iowa families.” This assertion is quite misleading, because the Governor puts his plan in a vacuum.

In fact, there are alternatives to the Governor’s plan, both in funding of water strategies and in the use of an already established statewide penny sales tax that he would divert from its intended purpose: school infrastructure. The study the Governor relied on makes it clear that researchers could not say whether the Governor’s diversion would create more jobs or fewer jobs than alternative uses of the funds.

The Governor’s news release cherry-picks the study’s findings, quoting a line from its executive summary, that on an annualized basis, “projected spending under this proposal would generate approximately $690 million in economic activity, 1,150 full-time direct employment positions and 2,800 total full-time positions.”

The statement conveniently ignores the next, and concluding, line of the researchers’ own summary of their findings: “However, it should be understood that alternative projects and proposals are likely to result in similar economic activity and employment.”

We make no conclusion about the researchers’ findings. That there are economic benefits in addressing Iowa’s significant problem with agriculture-induced water pollution will surprise no one.

What also would be no surprise is that economic benefits would result — perhaps more — from increased school infrastructure spending. The Governor’s plan diverts funds from that already designated purpose between 2017 and 2029, and would direct the lion’s share of growth in that revenue source to his preferences for the 20 years following.

The Iowa Fiscal Partnership is a joint public policy analysis initiative of two nonpartisan, nonprofit Iowa-based organizations, the Iowa Policy Project in Iowa City and the Child & Family Policy Center in Des Moines. Reports are at www.iowafiscal.org.

Unspoken budget choices for Iowa

Posted March 2nd, 2016 to Blog

DSCN5662-detail240200There’s a reason we can’t have the things we need. We keep giving money away, often without a good understanding of why we’re doing it.

A good example is the so-called “coupling” legislation now moving through the Iowa Legislature. It would do some sensible things, but others — not so much, and not for the reasons being promoted. Read more about it in this Iowa Fiscal Partnership policy brief.

Most of the cost of the coupling bill is for a business tax break. The Farm Bureau recently quoted one of its local leaders, Washington County Farm Bureau vice president Tye Rinner, that this provision is “really important to us right now.”

“We’re all in limbo right now waiting to see what’s going to happen and that’s keeping us from making the investments in equipment, buildings and other capital purchases, which would also create jobs in our rural communities,” Rinner was quoted.

Unfortunately, that message has little to do with the legislation under consideration. What is missed is that the bill at the Statehouse would make changes for only one tax year — and it’s one already past. The changes are retroactive to tax year 2015.

So if farmers or other business people wanted to make a capital investment that would benefit from the kind of tax provisions being proposed, they would not get the break. They’d be too late.

On the other hand, the bill would reward decisions already made. It’s not an incentive to do something they would not have done anyway — and it’s very costly. It’s about $98 million that was not in the budget for the current year, and would hit the ending balance.

In perspective, this must be seen as a budget choice, put up against other ways to use that $98 million, which would go against the resources on hand for the new fiscal year. You might have noted the difference between the House and Senate on a school aid number is 2 percent in supplemental state aid, whether to set per-pupil cost growth at 2 percent or 4 percent. The difference is about $85 million, according to the Iowa Association of School Boards.

So as you can see, we can subsidize business people to do something they already did without a subsidy, or for less money we can have a 4 percent increase in school aid. The House speaker says we can afford the first choice, but not the second. Both positions cannot be so.

2010-PFw5464Posted by Peter S. Fisher, Research Director for the Iowa Policy Project.
Contact: pfisher@iowapolicyproject.org

High Cost of Conformity

Coupling with Federal Tax Changes Would Dent Iowa’s General Fund

Instead of incentives to invest, the proposals reward decisions made with no subsidy needed

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By Peter S. Fisher

Introduction

Late last year Congress passed a law extending various federal income tax deductions and credits that were set to expire and preserving more generous versions of those deductions and credits. If the State of Iowa chooses to “couple” with these changes in federal law, the more generous provisions would be available on Iowa income tax returns wherever Iowa has a corresponding deduction or credit that is specifically tied to the federal credit. If the state does not couple, then those deductions and credits would be available on Iowa state tax returns either at the old rates or levels, or not at all.

The Iowa House passed a bill (HF2092) that would couple Iowa with all of the federal tax changes (with the exception of something called bonus depreciation) for the 2015 tax year. The changes would be retroactive to January 1, 2015, and so would affect the tax returns that are due this April 30 based on last year’s income. (For farmers, taxes are due March 1 if they want to avoid a penalty for underpayment.) The bill does not couple Iowa law with the federal changes for 2016 or beyond, though of course that could be done later this session or early in 2017.

The Department of Revenue has estimated that HF2092 would reduce current year revenues by nearly $100 million. Because it increases deductions Iowans can take on returns filed this spring, it increases refunds that must be paid this fiscal year and reduces collections. This current-year reduction cuts funds available for the Fiscal Year 2017 budget by nearly $100 million, and thus has an impact on funding for education and other priorities.

By far the most costly provision of the tax change is the so-called “Section 179 expensing” of business assets, where coupling will cost the state $79.8 million, nearly 80 percent of the total cost of the coupling legislation. Six other provisions together produce about $17 million in revenue losses.  We discuss each of these provisions in turn. 

Expensing Business Assets

Normally, when a business purchases assets such as buildings or machinery, the cost of those assets must be spread over a number of years (in theory, over the useful life of the building or machine). A share of the cost is deducted each year as depreciation. Section 179 of the Internal Revenue Code, however, allows businesses to “expense” some assets — that is, to deduct the entire cost in the first year — instead of deducting annual depreciation.  It is usually to a business’s advantage to deduct a cost now rather than later.[1]

Without the federal “extender” legislation, businesses would have been allowed to expense up to $25,000 of assets in 2015. This cap is phased down for businesses with more than $200,000 in total purchases of assets that qualify for 179 expensing. The cap is reduced by $1,000 for every $1,000 in asset purchases above $200,000, so that a business with $225,000 in asset purchases can no longer expense any assets. Though any business can use Section 179 expensing, the cap and phaseout effectively target expensing at smaller businesses, since large businesses will tend to purchase more than $225,000 in assets each year.

The federal legislation extended and made permanent a temporary increase in Section 179 limits to $500,000 in asset purchases in any given year. Furthermore, this limit begins to phase out only when total asset purchases exceed $2 million. By coupling with the federal law, Iowa businesses would be able to expense up to $500,000 in purchases of machinery and equipment, buildings and software for the 2015 tax year, instead of $25,000. Businesses with asset purchases of under $2.5 million would be able to use expensing.

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In the absence of coupling for 2015, Iowa businesses filing taxes this spring can still take full advantage of the federal changes on their Federal returns. The ability to expense a larger share of asset purchases is worth far more in terms of federal tax savings than Iowa tax savings. In the absence of coupling the typical small business[2] still gets over three-fourths of the combined federal-state tax benefit.

coupling-boxIt is also worth emphasizing that this increase in the Iowa expensing provisions has nothing to do with incentives to invest. Taxpayers who would take advantage of it when they file their taxes this spring can do so only for assets purchased last year. Those assets were bought presumably because they were needed at the time and made economic sense for the farm or business, and the purchase decision was made when an enhanced Iowa tax benefit did not exist.

Canceled Home Mortgage

Some homeowners who were unable to make payments on their home during the recent financial crisis had all or a portion of their mortgage debt canceled. If the home was a principal residence and the cancellation occurred after 2006, the amount of principal canceled (up to $2 million) does not have to be added to income for tax purposes. (Normally, a canceled debt is considered a form of taxable income.) The federal bill extended this provision to cancellations that occur through 2016. In the absence of coupling, debt cancellations occurring during 2015 will not qualify for the exclusion in Iowa and the amount of debt canceled will be added to Iowa gross income.

Deductibility of Home Mortgage Insurance Premiums

This provision of the tax law allows the premiums that homeowners pay for mortgage insurance to be counted and deducted as home mortgage interest. The deduction phases out as a taxpayer’s adjusted gross income reaches $110,000. This is of benefit only to taxpayers who itemize deductions. The 2015 federal law extended the deduction through 2016. In the absence of coupling, Iowa taxpayers who itemize would not be able to include mortgage insurance premiums paid in 2015 as deductible interest.

Tuition Deduction

Under this provision, taxpayers can deduct up to $4,000 in higher education tuition and related expenses. The deduction is an adjustment to gross income, so it can be taken regardless of whether the taxpayer uses the standard deduction or itemizes. The federal legislation extended this deduction through 2016.

Deduction for State and Local Sales Taxes

Federal taxpayers have in recent years had the option of claiming an itemized deduction for state and local income taxes, or for state and local sales taxes, but not both. The taxpayer can deduct actual sales taxes paid or use a schedule of deductible taxes specified by the IRS. The sales tax option was set to expire but was made permanent by the 2015 federal law. The Iowa law allowing Iowa itemizers to choose the sales tax deduction instead of an income tax deduction, if they chose the sales tax deduction on their federal return, has expired. HF2092 would extend the provision to 2015. In the absence of this bill, Iowa taxpayers who itemize and who take the federal sales tax deduction instead of the income tax deduction, will not be able to deduct state and local sales taxes on their Iowa return.

IRA Charitable Distributions

Individuals who are at least 70½ years of age and who have a distribution from an IRA go directly to a charitable organization can avoid paying any income taxes on that distribution. The distribution, up to $100,000 per taxpayer, is excluded from income. The 2015 federal legislation extended this provision permanently. Coupling would allow Iowa taxpayers to exclude the distribution from Iowa taxable income. It should be noted that the advantage of this provision is not as large as it may appear; a taxpayer may still take the IRA distribution personally, and then use the proceeds to contribute to a charitable organization and deduct that when itemizing Iowa deductions.

Deduction for Classroom Expenses

Elementary and secondary school teachers may deduct up to $250 in classroom and professional development expenses. This is an adjustment to gross income, so it is of benefit whether or not the teacher itemizes deductions.  This deduction was set to expire, but the 2015 federal legislation made it permanent. In the absence of coupling, Iowa teachers would not be able to take this deduction on their 2015 Iowa return.  Note that the maximum effect, for a teacher in the 8.98 percent tax bracket with $250 in deductible expenses, is $22.45.

Bonus Depreciation

Federal bonus depreciation has allowed business with larger asset purchases that are unable to take full advantage of Section 179 expensing because of the phaseout, to take additional first year depreciation on qualified asset purchases. Iowa has not coupled with bonus depreciation in the past, and this bill excludes it from coupling. In the absence of the bill, Iowa taxpayers would still not be able to use bonus depreciation on their Iowa returns. For that reason, there is no fiscal impact associated with the bonus deprecation provision of HF2092.

Fiscal Impacts Beyond FY2016

Should Iowa couple with all of the federal changes (except bonus depreciation) in future years, we can expect the fiscal impact to be similar. However, HF2092 couples only for tax year 2015. As a result, the fiscal effect of the bill for 2016 and beyond is positive rather than negative. This is because the additional Section 179 expensing that will occur for 2015 as a result of coupling will automatically increase state revenue over the next several years. A business can deduct the cost of a business asset only once; any asset expensed in 2015 does therefore not generate a depreciation deduction in 2016 or later. In the absence of coupling, the business would be depreciating that asset over several years, spreading the reduction in its tax liability (and the state revenue loss) over those years.

An Alternative Approach to Coupling

The Department of Revenue has drafted a bill that would couple with most of the tax credits extended by the 2015 federal legislation.  A major difference with HF2092 is that this bill (SSB3107) would not couple with those changes retroactively, but would start in 2016. The changes would be permanent. Most importantly, this bill does not couple with either bonus depreciation or the enhanced version of section 179 expensing.

The Department of Revenue has not produced a fiscal impact estimate for this bill. However, the overall cost in FY2017 would be just a fraction of the FY2016 estimate for HF2092 because the most costly component of the House bill — section 179 expensing — is not included in SSB3107.

Conclusion

Federal coupling legislation has been portrayed as little more than an accounting change designed to make it easier to file taxes this spring, and to encourage new investment, but that is not really the impact of the federal coupling legislation that has been proposed in the House. The bulk of the benefits are essentially bonuses to specific taxpayers for decisions they already made, with a significant cost that affects revenues available for the coming fiscal year.

Legislators must decide if the boon to specific Iowans is more important than improving the lives of Iowans in general by doing such things as funding schools and other General Fund items with the revenue otherwise lost.


[1] To see why this is so, imagine that expensing a $1,000 machine reduces taxes by $300 this year. (By taking the deduction the business saves the taxes on $1,000 worth of income, so if the marginal tax rate were 30 percent, it saves $300). In future years, the firm will not have depreciation deductions because they were in effect all used up by expensing this year. So future taxes will be higher by the same amount: $300. However, the $300 taken now could be invested and earn interest, with the principal used up gradually to pay the higher taxes in the future. This still leaves the firm ahead by the amount of interest earned.

[2] An Iowa small business or farm with taxable income (after all deductions and exemptions) of $50,000-$65,000, for example, would be in the 7.92 percent Iowa tax bracket but the 25 percent federal bracket. The new federal expensing provision is thus worth over three times the Iowa provision.

 

 

2010-PFw5464Peter S. Fisher is Research Director for the Iowa Policy Project. He holds a Ph.D. in economics from the University of Wisconsin-Madison and is professor emeritus of Urban and Regional Planning at the University of Iowa. A national expert on public finance, Fisher is frequently quoted in the Iowa and national media on issues involving tax policy and economic development strategies. His two published critiques of various state business climate rankings have resulted in a new website, Grading the States, at www.gradingstates.org.

 

Big Money, Big Companies — But Whose Benefit?

IFP BACKGROUNDER

Official Report Exposes Continuing Issues with Iowa Research Activities Credit  

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160224-RAC-boxIowa’s most lucrative business tax credit program is the Research Activities Credit (RAC). Through the RAC, some big companies receive big dollars from the state of Iowa, some as credits — effectively, discounts — on their taxes. But some as well (186 in 2015) either owe no income tax or reduce it to zero with the RAC, and have tax credits left over. In those cases they can receive state checks as a “refund” — $42.1 million in state spending last year.

As the Iowa Fiscal Partnership has noted, Iowa’s RAC is far different from what was envisioned when it originally passed, in 1985. Designed to support start-up companies to do research, this program primarily benefits very large companies, with little scrutiny. More information has been available about the RAC since 2009, when state legislators ordered the Iowa Department of Revenue to provide an annual report by February 15 on both individual and corporate claims against income tax for the previous calendar year.[1]

As illustrated in Table 1 below, little of this tax credit is used to reduce taxes for its recipients. Rather, the credit is used mostly to provide subsidies, in state checks worth sometimes millions of dollars, to corporations that pay little or no income tax.

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The amount of the corporate claims under the RAC has ranged from about $45.2 million to $53.3 million over the six years covered by the full-year annual reports, from 2010 through 2015. The 2015 report showed 246 corporations claimed a total of $50.1 million from the RAC — covering both the regular RAC and the supplemental credit.

160224-RAC-Fig1The share of those claims provided as “refund” checks to corporations — meaning they had no corporate income tax in Iowa — has ranged from about two-thirds of the benefit to as much as 95 percent. After dipping below 70 percent in the previous two years, the share of research credits paid out as checks rose to 84 percent in 2015, with a cost to the treasury of $42.1 million. (Table 1.)

The number of companies claiming the credit has risen sharply — by 55 percent to 248 claims in each of the last two years compared to the 160 corporate claims in 2010. (Figure 1) Likewise, the share of claimants receiving checks has risen over that time from 133 to 186 — a 40 percent increase.

Another trend that has remained strong is that large claimants have taken $8 or $9 out of every $10 from the corporate credit. This is illustrated in Table 2 below. These are companies that have over $500,000 in corporate claims. Recalling that the credit represents 6.5 percent of the increase in Iowa research spending above an established base level (box, page 1) this effectively means a company with $500,000 in claims has Iowa research expenses of at least $7.7 million —not a small company. It is reasonable to ask whether the subsidy is necessary for a company already devoting such sizable resources to research.

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The annual reports by law must identify the largest corporate claimants, those with claims of more than $500,000. The largest claimants have looked similar at the top year to year, but the number of large corporate claimants has grown, from nine in 2010 to more than twice that — 20 — last year. Table 3 provides information from the six full-year annual reports disclosing big claimants and amounts claimed. A stronger law would disclose how much of each of those large claims was paid as a “refund,” or check, illustrating which companies received state assistance but did not pay Iowa income tax. It also would require corporations to report on their economic activities and investments in the state.

A Special Tax Credit Review Panel appointed by Governor Chet Culver in 2009 examined all Iowa tax credits in the wake of a scandal in the Film Tax Credit Program. That committee came back in January 2010 with a report making several recommendations, including a five-year sunset for all tax credits so that lawmakers would have to review them and affirmatively vote to continue them, and specific recommendations on the Research Activities Credit. Among those recommendations: eliminate refundability of the RAC for companies with gross receipts in excess of $20 million yearly, but permit a five-year carry-forward. “It seems unreasonable for the State to be providing successful, larger corporations refund checks for amounts of the Research Activities Tax Credit over its tax due to the State.”[2]

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These large claimants are highly profitable companies. The biggest recipient of the Iowa credit in 2015, Rockwell Collins, reported $686 million in profits in fiscal 2015.[3] Deere & Co., had $7.5 million in research costs offset —yet reported over $1.9 billion in 2015 profits.[4] DuPont reported almost $2 billion in profits in 2015, but claimed $7.5 million from Iowa taxpayers for research.[5] As Table 3 indicates, Rockwell Collins and Deere have both benefited from more than $67 million in RAC claims over the last six years, and Dupont from more than $45 million. These figures raise serious questions about the need for state help to cover what may be considered normal expenses. After all, what keeps these companies competitive in their fields is their research and development work. Where there might be a benefit to company stockholders, there is no demonstration to Iowa taxpayers about a return on their investment in these companies’ operations.

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State fiscal experts predict will be a growing subsidy outside the budget process (Figure 2). The Department of Revenue projects the cost of this program to rise from about $54.9 million for individual and corporate claims in FY2013 to $64.4 million this year and more than $75 million by FY2020.[6]


[1] All annual reports filed as a result of the 2009 law are on the Department of  website, at https://tax.iowa.gov/report/Reports?combine=Research Activities. Reports for calendar year 2010 and after offer full-year information; the 2009 report was for a partial year. Our tables summarize the corporate claims in those full-year reports.
[2] State of Iowa Tax Credit Review Report, Jan. 8, 2010, p. 8, http://iowapolicyproject.org/2010docs/1001-TaxCreditReview.pdf
[3] Rockwell Collins Annual Report 2015, http://s1.q4cdn.com/532426485/files/doc_financials/annual/2015/COL-ANNUAL-REPORT-FINAL.pdf
[4] Deere & Co. news release, https://s2.q4cdn.com/329009547/files/doc_financials/quarterly_earnings/2015/Q4-2015/Q4_2015_Media-Release-and-Financials.pdf
[5] DuPont news release http://investors.dupont.com/investor-relations/investor-news/investor-news-details/2016/DuPont-Reports-4Q-and-Full-Year-Operating-EPS-of-027-and-277/default.aspx
[6] Iowa Department of Revenue,Tax Credits Contingent Liabilities Report, December 2015, https://tax.iowa.gov/sites/files/idr/Contingent Liabilities Report 1215.pdf; Table 9. Note: These figures are fiscal-year costs and projections in reports provided by the Department for use by the Revenue Estimating Conference, as opposed to the calendar year reports provided by the Department as required by the Research Activities Credit disclosure law passed in 2009. They also include individual claims as well as corporate claims, while the Tables 1-3 in this report only show corporate claims. (Corporate claims have represented 90 percent of the amount of all claims in the six years covered by the full-year RAC reports under the 2009 disclosure law.)

News Release (Feb. 15, 2016)
Special Tax Credit Review Panel Report (Jan. 8, 2010)

Iowa Fiscal Partnership

The Iowa Fiscal Partnership (IFP) is a joint budget and tax policy initiative of two nonpartisan, Iowa-based organizations, the Iowa Policy Project in Iowa City and the Child & Family Policy Center in Des Moines. IFP is part of the State Priorities Partnership, a network of nonpartisan organizations in 41 states and the District of Columbia that share a commitment to rigorous policy analysis, responsible budget and tax policies, and a particular focus on the needs of low- and moderate-income families. IFP research is supported by the Stoneman Family Foundation and by the Annie E. Casey Foundation. Policy conclusions are the responsibility of the Iowa Policy Project and the Child & Family Policy Center and not necessarily the view of either the Stoneman Family Foundation or the Annie E. Casey Foundation. Iowa Fiscal Partnership reports are available to the public at http://www.iowafiscal.org.

A good deal if you can get it

Posted February 19th, 2016 to Blog

But research credit refund checks are poor fiscal stewardship

The millions Iowa gives to companies that do not pay state income tax is about the same amount of 1 percent in state school aid.

That’s one takeaway from the latest annual report from the state on Iowa’s Research Activities Credit (RAC). That tax credit is used far less to ease taxes than to shovel subsidies to big corporations outside the budget process, whether they pay taxes or not.

The report shows that in 2015, 248 companies had $50.1 in claims from this tax credit. Because the credit is refundable, companies get the full benefit no matter how much they owe (or don’t owe) in taxes. And the report shows that of those claims, 75 percent, or $42.1 million, were paid as checks to 186 companies that paid no corporate income tax to the state.

As we note in a summary by the Iowa Fiscal Partnership, each percentage-point increase in Supplemental State Aid for schools costs about $41 million to $43 million (Iowa Association of School Boards estimate).

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What’s more, the largest claimants — 20 corporations receiving over $500,000 from this credit — took the lion’s share of the benefit with $43.9 million overall (about 88 percent).

Many millions are spent this way every year, outside the budget process. These companies don’t have to compete for what are supposedly scarce public dollars needed for critical public services such as education, health care, environmental protection and public safety. The latter types of spending must compete in the budget process.

The Research Activities Credit is only an entitlement. And except for the occasional lawmaker willing to stand up to restore some accountability, there is silence from the General Assembly.

This is perfectly legal. In fiscal policy terms, however, it’s a scandal, because it is legal. Lawmakers refuse to even consider whether to take this spending off autopilot.

When they claim the state is too strapped for money to provide more for school aid or human services, lawmakers should admit they let corporations take what they want first.

Owen-2013-57Posted by Mike Owen, Executive Director of the Iowa Policy Project
Contact: mikeowen@iowapolicyproject.org
For more information about the Research Activities Credit, visit www.iowafiscal.org

No taxes, big checks

Iowa has choices: Keep giving millions to companies that don’t pay Iowa state income tax — OR add 1 percent in school aid.

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FOR IMMEDIATE RELEASE MONDAY, FEB. 15, 2016

Big companies erase taxes — take millions in state checks

Research Credit annual report shows big companies keep gaining

IOWA CITY, Iowa (Feb. 15, 2016) — A lucrative tax subsidy is providing as much in checks to companies that don’t pay income tax as the state could use to pay for 1 percent in state aid to schools.

A new annual report from the Department of Revenue outlines the use of the Research Activities Credit (RAC), which in 2015 provided $42.1 million — about the cost of an additional percentage point in school aid — to companies that paid no state income tax. Most of that went to very large companies.

The state report, released Monday, shows that in 2015:

  • Claims by 248 companies totaled $50.1 million for the RAC and the related supplemental RAC for which some claimants are eligible.
  • Of those, 186 (75 percent) are companies that not only owed no state corporate income tax after applying the credit, but received state checks in return.
  • Eighty-four percent of the tax credits were paid as checks to the companies.
  • Very large claimants — companies with over $500,000 in RAC claims — had at least 85 percent of those checks ($35.8 million) while paying no income tax.
  • Rockwell Collins, Dupont, Deere & Co., John Deere Construction and Monsanto were the largest corporate claimants, as they have been for the past six years. Together, those five companies have claimed nearly $218 million from the RAC program from 2010-15. (See table below.)

“This spending outside the budget process is distorting the choices now on the table as state lawmakers consider what is available for schools, clean water, human services and public safety,” said Mike Owen, executive director of the nonpartisan Iowa Policy Project.

“Is it a better use of taxpayers’ money to send millions in checks to profitable companies to do research they would do anyway, or to make sure schools can hire enough teachers next fall? That is the question that should be raised by this automatic spending on business tax breaks. To ignore it is a fiscal scandal.”

Overall, the credit program cost $57.1 million in calendar year 2015, with $50.1 million of that in claims by corporations and the rest by individuals. The credit is refundable, which means that if a company has more tax credits available than it owes in taxes, the state makes a payment for the difference. These so-called “refunds” — not of taxes owed but of credits in excess of taxes owed — accounted for 84 percent of all of the corporate research credits in 2015, according to the new report from the Department of Revenue.

The report is available on the Department of Revenue website at https://tax.iowa.gov/sites/files/idr/RAC Annual Report 2015.pdf

The Iowa Fiscal Partnership (IFP), a joint initiative of the Iowa Policy Project and another nonpartisan organization, the Child & Family Policy Center in Des Moines, has reported on the RAC for many years.

Owen noted that Iowans have access to more information about this credit than they did years ago because of the annual report, which was ordered by the Legislature in 2009.

All of the state annual reports on the RAC are available on the Iowa Department of Revenue website at https://tax.iowa.gov/report/Reports?combine=Research%20Activities.

Those reports show that the number of corporate claimants has grown from 160 in 2010, the first full year covered by the annual reports, to 248 in both 2014 and 2015. The number of claimants receiving the credit as checks, rather than to only erase tax liability, rose from 133 in 2010 to 181 in 2014 and 186 in 2015.

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Basic RGBAn IFP report last month showed that Department of Revenue forecasts indicate business tax breaks will grow by 13 percent from this budget year to the next, even though the debate over school aid focuses on numbers between 2 percent and 4 percent.

According to the Iowa Association of School Boards, each percentage point increase in Supplemental State Aid (SSA), costs about $41 million to $43 million.

“There is at least a legitimate question, one that lawmakers are refusing to consider, of why large, profitable corporations do not have to defend these millions of dollars in tax breaks and subsidies, when teachers and children’s advocates are going hat in hand to the Capitol for enough to keep up with basic costs,” Owen said.

A special tax credit review panel recommended in 2010 that the state curtail some spending on business tax credits. Among its proposals were to scale back “refunds” of the research credit, and to impose a five-year sunset on all tax credits to assure that the Legislature would have to vote to continue them.

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For more information about the Research Activities Credit and other Iowa tax credit issues, see the Iowa Fiscal Partnership website at www.iowafiscal.org.

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The Iowa Fiscal Partnership is a joint public policy analysis initiative of two nonpartisan, nonprofit Iowa-based organizations, the Iowa Policy Project and the Child & Family Policy Center. Reports are at www.iowafiscal.org.

Building blocks of inequity

Posted February 10th, 2016 to Blog

Iowa’s school funding process is broken.

Consider:

  • The Legislature repeatedly violates the law by failing to set state aid in time for districts to adequately plan their budgets.
  • The levels of funding lawmakers set — averaging less than 2 percent growth over the last six years — are routinely below the growth in costs that schools face.

As if those two things are not bad enough, inequities grandfathered into the school funding formula have not been corrected. While the four-decades-old formula was designed to reduce inequities between districts of higher and lower property values by augmenting property tax revenues with state aid, a gap persists.

Long and short: There is a $175 range in the “cost per pupil” that school districts must use as the building block of their annual budgets. While the minimum cost for this year is set at $6,446 per student, six districts are as high as $6,621.

The inequities have been known for some time. When combined with chronic underfunding, these inequities are magnified. In one case, Davenport school officials are defying state limits on use of their own resources to make sure their students have the same opportunity as students in other districts.

For example, as school budgets are based on enrollment, a district with 1,000 students and operating at the minimum — the state cost per pupil — is losing out on $175,000 per year in comparison with a district at the maximum. In a district the size of Davenport, that’s about $2.8 million a year.

What many Iowans might not realize is that their own school district may be in a similar situation to that of Davenport.

Few districts (only six) are at the maximum per pupil cost; most districts (84 percent) are $100 or more below the maximum per pupil cost. Nearly half of all districts (164 of 336) are at the minimum.*

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The more you look at this, you can see it is not a Davenport issue, but an Iowa issue, and a failure of public policy.

Owen-2013-57Posted by Mike Owen, Executive Director of the Iowa Policy Project

 

*Iowa Department of Management, www.dom.state.ia.us/local/schools/files/FY16/DistrictCostPerPupilAmountsAllFY2016.xls

State aid up 13 percent — for business breaks

Posted January 28th, 2016 to Blog

What do you expect would be the outcry if Iowa’s public schools asked for 13 percent growth in state aid?

Yet few bat an eye when this happens with business tax breaks, as we can expect for FY2017.*

The early scorecard gives business tax breaks the big edge, a 13 percent increase, vs. between 2 and 4 percent for schools.

The Senate approved 4 percent for FY2017 (covering next school year), but the Iowa House on Monday approved 2 percent — even though schools have averaged less than 2 percent for six years, from FY2011-16.

In fact, the Iowa Association of School Boards this year did not even ask for a specific growth number, but rather, that it be set in a timely manner (it’s almost a year late already), and “at a rate that adequately supports local districts’ efforts to plan, create and sustain world-class schools.”

That hasn’t happened for some time. Over the last six budgets, per-pupil growth has been held to 2 percent or below in all but one year. Depending on enrollment trends, some districts even see less.

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Business tax breaks do not face the same budget constraints — ironic, since the cost of those breaks limits what lawmakers permit themselves to spend on services that their constituents demand, not the least of which is education. Other areas — environmental quality, child care, health care and public safety — also are constrained.

A much greater percentage increase in business tax breaks is set in place, as shown below. The total increase of $71 million from this budget year to the one lawmakers are working on now actually may be understated. The $35 million for a new sales-tax exemption for manufacturers is considered a conservative estimate. Even at $71 million overall, however, it represents a 13 percent increase.

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Spending on business tax breaks is rarely burdened by the public scrutiny and debate that comes with spending on schools and water programs, which must be approved annually.

Most business tax breaks, once passed, are never touched again unless they are expanded. And as shown by the sales-tax break for manufacturers scheduled to begin this summer, a break may never receive legislative approval but still become law. The Governor is implementing this one on his own, with a split legislature unable to stop him.

Budget choices? Instead of that $35 million in FY2017 for the new sales-tax break, the Legislature could provide about 1 percent growth in per-pupil school funding. We can expect to find another 1 percent in what we’ll spend in checks to companies that do not pay any state income tax, but have more research tax credits than they owe in taxes.

Perhaps one day we will treat all spending the same, whether the spending comes before or after revenues reach the state treasury. Then the wealthy corporations can compete directly for their tax breaks against education for the skilled people they want to work for them.

Owen-2013-57Posted by Mike Owen, Executive Director of the Iowa Policy Project
Mike Owen is a member of the school board in the West Branch Community School District, first elected in 2006.
* For more about Iowa tax breaks for business, see Peter Fisher’s report for the Iowa Fiscal Partnership, “Here a tax break, there a tax break, everywhere a tax break.” http://www.iowafiscal.org/here-a-tax-break-there-a-tax-break-everywhere-a-tax-break/

Here a tax break, there a tax break, everywhere a tax break

Iowa’s revenue shortfall largely self-inflicted — education, other priorities suffer

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By Peter Fisher

Iowa legislators facing projections of scant revenue growth for next fiscal year will have a difficult time adequately funding education and other priorities, but their dilemma is largely self-inflicted. A penchant for tax cuts over the past 20 years has left the state with a long-term revenue shortfall.

As lawmakers anticipate meager revenue growth for a budget exceeding $7 billion, they face built-in and anticipated spending increases for existing programs, projected to total $269.5 million.[i] Furthermore, these increases assume no boost in per pupil state school aid because the 2015 Legislature failed to set that figure for FY2017 as required by law. The governor has proposed 2.45 percent growth in school aid, which would add another $100 million to the budget. Clearly that cannot be funded without large cuts elsewhere in the budget — or addressing the elephant in the room: rampant spending on business subsidies. 

Business tax credits create part of the problem

Why is revenue growth a problem in a state that has done better than most in recovering from the Great Recession? The answers can be found in the growth in business tax breaks. Business tax credits already on the books drained $178 million from the state treasury in fiscal year 2015, then grew by $94 million to $272 million in FY16, and are expected to remain at about that level next year. The six largest credits (or groups of credits) account for 84 percent of the total (Table 1).

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Spending on business tax credits has grown 263 percent since 2007. Caps on individual credits and groups of credits have done little to slow growth. The cost of credits has far outstripped growth in general fund spending overall.

New tax breaks have worsened the problem

Recent measures have added greatly to the problem. The massive commercial and industrial property tax bill passed in 2013 is responsible for a $268 million cut in funds that otherwise would have been available to adequately fund education, natural resource programs, and other priorities in the current fiscal year, FY16. Next year that figure is expected to grow to $304 million.[ii] The property tax breaks are larger than the sum of all business tax credits.

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To make matters worse, the administration has enacted a rule, without legislative approval, that greatly expands a sales tax exemption for manufacturing. That will cost the general fund another $35 million next year, while depriving schools and local governments of another $13 million.[iii]

Altogether business tax breaks will drain $611 million in revenue from the state general fund next fiscal year. At a time when the state is struggling to fund education at all levels, those business tax breaks take on added importance. And they tell us something about the state’s priorities.

Iowa business taxes are already quite competitive

Iowa did not need these tax breaks, and certainly does not need to add to the damage to state services by enacting more. Iowa has been right in the middle of the pack in how it taxes business for a long time. The most recent study of state and local taxes on business as a percent of state GDP by Ernst and Young and the Council on State Taxation shows that Iowa taxes business at 4.5 percent of GDP, just below the national average.[iv]  A study by Anderson Economic Group in 2015 found Iowa’s effective tax rate on businesses to be 8.7 percent of profits, which placed it 32nd among the states, and again below the national average.[v]

State and local taxes have little effect on business location decisions

State and local taxes are less than 2 percent of total costs for the average corporation.  As a result, even large cuts in state taxes are unlikely to have an effect on the investment and location decisions of businesses, which are driven by more significant factors such as labor, transportation, and energy costs, and access to markets and suppliers.

Tax breaks erode support for public investments in our future

The proliferation of tax incentives and business tax cuts over the past two decades has resulted in several hundred million dollars each year cut from the state budget. This has undermined the state’s ability to support quality education, from preschool through public colleges and universities, which in the long run will have serious consequences for state economic growth and prosperity.

Fixing Iowa’s problem with unsustainable revenues

Long-term sustainability for Iowa revenues should begin with a recognition that business tax breaks have grown to unsustainable proportions. At the very least, the Legislature should reject any proposals for new tax breaks. Any bill to couple with the recently enacted federal tax changes should exclude coupling with the new depreciation rules. There is no justification for piling on additional business tax breaks at a time when basic state services cannot be adequately funded, breaks that will continue to erode revenues on into the future.

In the 10 years from FY2005 to FY2015 state tax revenue actually declined as a share of the Iowa economy. State taxes represented 5.8 percent of state personal income in 2005, 5.6 percent in 2015.[vi] If taxes had grown along with the economy over this period we would have had an additional $279 million in revenue in FY2015. A real long-term solution to sustain Iowa’s critical public services, including education, will require that the state rejuvenate state tax revenues by reducing or eliminating unnecessary and ineffective tax breaks and seeking new sources of revenue. To do otherwise is to shortchange our future.



[i] Figures are based on Legislative Services Agency, Fiscal Services Division. Summary of FY2017 Budget and Department Requests. December 2015, pp. 12-13, with some adjustments for the Revenue Estimating Council report of December 10, 2015 which was released after the LSA report.

[ii] Legislative Services Agency, Fiscal Services Division. Summary of FY2017 Budget and Department Requests. December 2015, pp. 17 and 55. Includes the effect of SF 295 on state school aid as originally estimated.

[iii] Legislative Services Agency, Fiscal Services Division. Summary of FY2017 Budget and Department Requests. December 2015, p. 59.

[iv] Ernst and Young and the Council on State Taxation, Total state and local business taxes: State-by-state estimates for fiscal year 2014. http://www.cost.org/Page.aspx?id=69654

[v] Anderson Economic Group, 2015 State Business Tax Burden Rankingshttp://www.andersoneconomicgroup.com/Portals/0/AEG%20Tax%20Burden%20Study_2015.pdf

[vi] Legislative Services Agency, Fiscal Services Division, Issue Review January 6, 2015.

 

 

 

2010-PFw5464Peter S. Fisher is research director of the Iowa Policy Project, which together with the Child & Family Policy Center formed the Iowa Fiscal Partnership, a nonpartisan initiative focused on helping Iowans to understand the impacts of budget choices and other public policy issues on Iowa families and services. IFP reports are at www.iowafiscal.org.