Executive summary: Pennsylvania continues consideration of combined reporting
Once again there is a proposal in Pennsylvania, Senate Bill 161, that would mandate combined reporting for unitary businesses on a water’s edge basis under the state corporate income tax. The bill also includes a tax haven provision requiring corporations to include related parties operating in a designated tax havens in the combined report. The bill lists 39 jurisdictions as tax havens.
The commonwealth’s corporate tax rate is 8.99% and is scheduled to be reduced a half a percent per year until it reaches 4.99%. The bill would also that schedule, dropping the rate a full percentage point a year for two years until it reaches 6.99%.
RSM’s Washington National Tax SALT group weighs in on the Pennsylvania proposal and combined reporting in general.
I have long called for the repeal of state corporate income taxes. They do not work very well; they never will. But when I was younger, I believed that combined reporting could strengthen the corporate tax, perhaps even save it. I was not alone. State adoption of combined reporting proliferated over the past two decades. Today 28 states and the District of Columbia require combined reporting. Each year there are proposals in many of the remaining states to adopt combined reporting.
While I still think the state corporate income should be repealed, I no longer think combined reporting is a good idea. Indeed, I think it is bad policy. Importantly, combined reporting never raises as much revenue as proponents think. It certainly has not “saved” the corporate income tax. And as anyone who has studied it – or worked in the field knows, combined reporting produces uneven and unpredictable outcomes. Some companies pay more, some pay less. Government laws should not dictate such winners and losers. More fundamentally, filing on a combined basis is burdensome on business – which is why the business community generally opposes these proposals. Combined reporting does not raise much money and is bad for business.
I note that this Pennsylvania bill includes a tax haven provision. And the legislators picked the tax havens! Most lawmakers wouldn’t know a tax haven from a toaster oven. In any event, tax haven laws are terrible policy. I believe that they are unconstitutional. Pennsylvania’ attempt to tax income attributable to another country would violate the Foreign Commerce Clause. The record keeping and rules are burdensome. And other countries really dislike being called a tax haven, especially when those countries are allies such as Luxemburg.
Combined reporting and tax haven laws are proposed in the name of saving a tax that cannot be saved.
Another mandatory combined reporting proposal in Pennsylvania? I think the age of these proposals would allow them to buy me a beer at the Appalachian Brewing Company in downtown Harrisburg. So…anyway.
Let’s get serious. In the last decade, I can count on one hand the number of truly great tax reform bills coming out of the Commonwealth. Structural tax changes take time – I refer you to the long-extended phase-out of the capital stock/franchise tax. One of the good ones came last year with much needed changes including corporate rate reductions (from one of the highest in the nation), a corporate income nexus clarification and market-based sourcing of intangibles, among others. And it was bipartisan – imagine that in 2022! I do have high hopes there is more excellent tax legislation to come from the new General Assembly and first-year governor such as a pass-through entity tax election or property tax reform.
My colleague can better describe the concerns with combined reporting than I can. Kicking off 2023, over two dozen states require combined reporting, which is well over half of the states that impose a corporate income tax. Those states have taken various paths to get there. In some cases, it was simply trendy in the region, while others studied combined reporting with states both ultimately adopting and rejecting the idea. A popular justification for adoption is the closing of loopholes, and while I do not necessarily disagree, there are certainly other mechanisms to close some of those well-known avoidance strategies. However, mandatory unitary combined does have faults. Determining the overall revenue impact is not an exact science, and short of actually adopting combined reporting or studying through pro forma application, it is very difficult to pinpoint. Additionally, combined reporting often fails to represent a taxpayer’s true economic impact, can be difficult to calculate, and adds to the already costly administration of the corporate net income tax.
Finally, despite its faults, I will not be advocating today for the demise of the corporate income tax. That will have to wait for another day. Perhaps next time I’m in the capital city I can buy combined reporting a beer and wish it well on its journey out of town.