Coalition Forms to Promote Federal Protection of State Tax Incentives

Published March 1, 2005

More than 60 businesses, business groups, and state and local officials have formed a coalition to back federal legislation to protect the right of states to offer targeted tax incentives for economic development.

The Cuno Coalition, created by the Council on State Taxation (COST), takes its name from last September’s decision of the 6th U.S. Circuit Court of Appeals in the Cuno v. DaimlerChrysler case. That decision struck down part of a $281 million package of state and local tax incentives DaimlerChrysler received in 1998 for the construction of a Jeep manufacturing plant in Toledo, Ohio.

Under the “Dormant Commerce Clause Doctrine,” the federal court declared the state’s Investment Tax Credit program violated the U.S. Constitution by penalizing companies that might want to develop business opportunities outside Ohio.

The Dormant Commerce Clause Doctrine is a legal concept the U.S. Supreme Court has inferred from the actual Commerce Clause of the Constitution since the 1940s. As the online Wikipedia encyclopedia puts it, “even when Congress has not acted (i.e. Congress’s power to regulate commerce lies dormant) the Supreme Court may find certain state and local laws unconstitutional if they unduly burden interstate commerce.”

States’ Authority Undermined

The Cuno Coalition has held meetings to consider legislative alternatives, drafted language for those alternatives, and distributed draft legislation to coalition members for review, comment, and dissemination to interested parties. The coalition also has contacted federal, state, and local officials to discuss tax incentive programs.

The value of state tax incentives has always been a matter of vigorous debate. Some economists argue state tax incentives encourage job creation and investment that otherwise would not occur, but others dismiss them as a form of corporate welfare.

Historically, the debate has taken place among elected legislators in state capitols.

Although the 6th Circuit Court’s decision affects only Kentucky, Michigan, Ohio, and Tennessee, it paves the way for other federal courts to dictate state tax policy and thus remove these decisions from the hands of elected state lawmakers.

A petition for review by the U.S. Supreme Court is expected to be filed by at least one of the parties–the State of Ohio, the City of Toledo, or DaimlerChrysler Corp. A formal petition has not yet been filed.

Pro-State Bill Likely

In response to the 6th U.S. Circuit’s opinion, federal legislation was introduced late in the 108th Congress seeking to ensure that state legislatures retain the authority to offer economic development incentives.

“From a federal perspective, the question is not whether economic development incentives work. Rather, the question is whether state legislatures or federal courts should decide state tax policy,” said Doug Lindholdm, president and executive director of COST. “Legislation addressing this issue will be introduced and debated during the 109th Congress.”

The investment tax credit (ITC) is the most common type of state tax incentive. It is given to businesses that meet certain investment thresholds.

In the case of the Ohio ITC, investment in in-state property, the hiring of in-state employees, and the expansion of facilities in the state were different ways a business could qualify. The Ohio regime is similar to programs in many other states.

Opposition’s Theory Untested

Constitutional scholars have questioned whether these incentives are allowable under the U.S. Supreme Court’s Dormant Commerce Clause jurisprudence.

The legal theory is that if a tax incentive favors in-state investment (which all tax incentives do), and the statute implicates use of the “coercive power” of the state (in this case, the state’s power to tax), then the incentive discriminates against interstate commerce and is thus unconstitutional.

That theory had never been tested in court. In the late 1990s, however, a chain of events began that led to the 6th Circuit Court’s adoption of this legal theory.

In 1996, Professor Peter Enrich of Northeastern University School of Law published a law review article in which he outlined his theory that state tax incentives violate the Commerce Clause by distorting economic decision-making concerning the location of business activity. After reading the article, consumer activist Ralph Nader, an outspoken critic of tax incentives, called Enrich and asked him to bring a test case through the courts.

Enrich agreed, and they targeted an incentive package being used by Connecticut in the late 1990s to lure the New England Patriots football franchise from Foxboro, Massachusetts to Hartford, Connecticut.

The case fell apart when the Patriots agreed to stay in Foxboro. Soon thereafter, Enrich and Nader set their sights on the investment tax credit program for DaimlerChrysler’s Toledo Jeep plant.

Congress Retains Final Say

The U.S. 6th Circuit Court’s opinion is subject to Congress’ Commerce Clause authority. The Constitution’s affirmative grant of power to Congress to regulate commerce among the states means Congress can overrule court decisions based on the Commerce Clause.

As a matter of settled Constitutional doctrine, Congress may sanction state legislation that a court has declared unconstitutional under the Commerce Clause; likewise it may prohibit state action that a court has declared Constitutional under the Commerce Clause.

Hence, in response to the 6th Circuit Court decision, Ohio Senators George Voinovich (R) and Mike DeWine (R) introduced S 2881 in the 108th Congress, and Rep. Ben Chandler (D-KY) introduced a similar measure, HR 5427. Both measures seek to exercise Congress’ affirmative power under the Commerce Clause to give explicit consent to certain types of tax incentives, to ensure state legislatures retain the power to structure their tax systems as they see fit.

Similar legislation will be introduced during the 109th Congress, which convened in January 2005.

The Ohio decision, while significant, is part of a larger debate. Legal challenges to tax incentives in Nebraska and Oklahoma have been amended to include the 6th Circuit’s theory, and groups opposing tax incentives in other states, such as North Carolina, are currently amassing resources to mount similar challenges.


Kevin Thompson ([email protected]) is legislative counsel for the Council on State Taxation, a nonprofit trade association based in Washington, DC.


For more information …

on the Cuno decision, see “Federal Appeals Court Strikes Down Targeted Tax Incentive in Ohio,” in the November 2004 issue of Budget & Tax News.