Study: Massachusetts Business Taxes Should Be Lowered and Simplified

Published July 1, 2008

Massachusetts could boost its economy and increase investment by taxing all business entities similarly and adopting unitary reporting, single-sales-factor apportionment, and other reforms, according to the Beacon Hill Institute (BHI) at Suffolk University.

“Business Taxes in Massachusetts: Toward Fundamental Reform” concludes the commonwealth’s hodgepodge of poorly conceived measures violates the most fundamental principles of tax equity and efficiency and is a drag on economic activity. The report also notes Massachusetts levies the fourth-highest statutory state corporate income tax rate in the United States, at 9.5 percent.

BHI’s report, released in April, predicts enactment of its recommendations would create about 4,000 new private-sector jobs and $120 million in new investment upon implementation. The state would lose $86 million in revenue, about 0.4 percent of annual state tax revenue.

“This tiny loss in revenue is well worth the economic stimulus and the tax simplification that the proposal would make possible,” said David G. Tuerck, executive director of BHI and a co-author of the study.

Numerous Problems

Tuerck said by reducing the corporate income tax rate and broadening the tax base, Massachusetts would make itself more of a destination for business investment. The problem of corporate loopholes would disappear as firms found it in their interest to report income in Massachusetts rather than other states.

The report notes, “Sound tax policy requires that any tax should meet the test of horizontal equity; that is to say, the application of a tax to two equal individuals or entities treats them equally. Sound policy likewise requires a tax to meet the test of vertical equity, where the concept of ‘ability to pay’ is applied to individuals or firms with different incomes.

“Other objectives,” the report continues, “are simplicity, transparency, stability, neutrality and economic growth. The current tax system and recent proposals fail to meet any of these tests of sound tax policy.”

The report also notes, “[L]arge multi-state corporations (often with greater tax law expertise) have more opportunity than smaller firms to shift income to lower corporate tax states. This inequity distorts business decisions, driving smaller firms and their employees out of the state. It also diminishes the amount of revenue generated by other taxes, including the individual income tax, the sales tax, the meals tax, and property taxes.”

“Massachusetts should strive for a predictable and competitive business tax policy that serves firms, investors, workers, and government in the most optimal manner,” said James Angelini, Ph.D., director of the Master of Science in Taxation program in the Sawyer School of Business at Suffolk University and lead author of the study. “A uniform rate covering a broader base would provide a stable source of revenue and promote economic growth.”

Several Remedies

The report proposes the Commonwealth adopt several measures:

  • set the tax rate at 5.3 percent, the same rate as for individuals;
  • eliminate the $2.60 per thousand tax on tangible personal property or net worth, applicable to C- and S-corporations only;
  • eliminate the conduit concept by taxing entities at the rate of 5.3 percent at the entity level;
  • eliminate the double taxation of C-corporation (and large S-corporation) earnings by taxing business entities (domiciled in Massachusetts or with nexus) by 5.3 percent at the entity level (as apportioned if multi-state) and eliminate the tax on corporate dividends to C-corporation shareholders or flow-through income from conduits;
  • eliminate the $456 minimum tax on C- and S-corporations;
  • adopt combined reporting and unitary tax principles, without a “water’s edge” election. Unitary reporting without a water’s edge provision means a company’s affiliates, anywhere in the world, are included in the calculation of apportioned income. Some states adopt a water’s edge provision, which means only affiliates in the U.S. are counted;
  • adopt single-sales-factor apportionment for all entities and industries, not just some;
  • allow net operating loss carryover deductions by sole proprietors, corporate trusts, and partnerships;
  • eliminate all tax incentives; and
  • allow a 100 percent dividends-received deduction for dividends received by corporations, regardless of the percentage owned.

Competitive Approach

Against the tide of corporate tax avoidance strategies, the commonwealth could strike a competitive blow by lowering rates rather than simply raising more revenue, according to the report.

“If they are expected to become viable sources of revenue in a volatile economy, business taxes must be reformed in a manner that promotes revenue stability, economic growth as well as equity, simplicity and transparency,” said Angelini.

Frank Conte ([email protected]) is director of communication and information services at the Beacon Hill Institute at Suffolk University.

For more information …

“Business Taxes in Massachusetts: Toward Fundamental Reform”: