Transcript How the Tax Code Interacts with State and Local Tax Systems Submitted to the President’s Advisory Panel on Federal Tax Reform April 18, 2005 Bruce.

How the Tax Code Interacts with
State and Local Tax Systems
Submitted to the
President’s Advisory Panel on Federal Tax Reform
April 18, 2005
Bruce Johnson
Multistate Tax Commission
444 North Capitol St., NW, #425
Washington, D.C.
Ph. 202/624-8699
[email protected]
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Purpose
 Provide an overview of state and local retail sales and
use taxes and income taxes in the U.S. and their
administration.
 Examine such issues as the use of these taxes among
states and localities, general characteristics of the state
tax base, tax rates, and the interaction between federal
taxes and these state taxes.
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General Sales Tax
Prevalence of the Tax at the State Level
 Forty-five states and the District of Columbia impose a
broad-based general retail sales and use tax at the state
level.1
 In FY 2003, states collected about $185 billion in general
retail sales taxes, about one-third of total state general
tax collections of roughly $552 billion.2
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Those states not levying the tax include Alaska, Delaware, Montana, New Hampshire,
and Oregon. Local governments in Alaska may impose sales taxes.
2 U.S. Bureau of the Census.
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General Sales Tax
Prevalence of the Tax at the Local Level
 Approximately 7,500 separate local jurisdictions in 34 states impose a
sales tax.
 Local governments in ten states do not impose sales taxes.3
 In all but four states, local taxes are imposed as an add-on to the state
tax and are collected and administered by the state tax administration
agency.
 In AL, AZ, CO and LA, some local governments are authorized to
administer their own sales tax. In these states, there is also somewhat
more divergence between the state and local tax base.
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3 Hawaii,
Indiana, Kentucky, Maine, Maryland, Massachusetts, Michigan, New Jersey,
Rhode Island, and West Virginia.
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State and Local Sales Taxes
State and Local
No State or Local
State-Level Only
Local Only
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Components of Sales Taxes
Rates
 Among states that impose sales taxes, rates range from 3.5%
in VA to 7.0% in Mississippi, Rhode Island, and Tennessee
 When combined with local sales taxes, highest rates are
found in Alabama (11.0%), Arkansas (10.625%), Oklahoma
(10.5%), and Louisiana (10.5%)
Base
 States tax wide range of goods (tangibles)
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Components of Sales Taxes
Exemptions
 Common exemptions are food and prescription drugs
 Some states also exempt clothing
 Wholesalers - states also impose tax on a wide range of purchases
by businesses with exemptions of goods for resale and often
exemptions for goods used directly in manufacturing
 Services widely exempt from tax, with the exception of a few states
 Other exemptions include purchases by specific users
(governments, charities, educational institutions)
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Sales Tax Issues in Federal Tax Reform
 If Federal government were to adopt a Value Added Tax
(VAT) or a National Retail Sales Tax (NRST),
simplification of the federal tax system may be achieved
at the expense of greater overall complexity.
 Federal and state tax bases may differ significantly.
 Administrative rules may differ.
 Would adoption of either a federal VAT or NRST undo
the work done by states through the Streamlined Sales
Tax Project?
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Personal Income Taxes
 In 2003, state governments collected $182.9 billion in personal
income taxes – about one-third of total tax collections
 42 states impose broad based personal income tax
 2 states tax only interest and dividends
 7 states do impose a personal income tax
 Marginal rates range from 0.36% in IA to over 9% in CA and VT
 Most states use federal adjusted gross income (AGI) as the starting
point in determining the state individual income tax base
 Many states allow federal deductions, with some adjustments, in
determining taxable income
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State Personal Income Taxes
No state
income tax
Use Federal
AGI
Use Federal
Taxable Income
Interest and
Dividends
Other
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Corporate Income Taxes
 Corporate income taxes are imposed in 46 states
 Collections totaled $28.6 billion – about 5% of total tax
collections.
 Most states use taxable income (line 28) of Form 1120
as the tax base for apportionable (among the states)
corporate net income
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Income Tax Issues in Federal Tax Reform
 In recent years, changes in Federal tax policy have led
to increasing complexity for state tax agencies and for
taxpayers.
 “Bonus depreciation” – a number of states decoupled from
federal depreciation allowances because of negative impact on
state tax bases.
 Qualified Domestic Production Activities deduction in Jobs
Creation Act -- again some states will decouple from Federal tax
system because of negative impact on state tax base.
 Decoupling leads to greater administrative costs for state
agencies and greater compliance costs for taxpayers.
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Income Tax Issues in Federal Tax Reform
 Greater simplification of federal tax code would probably
reduce the current “tax gap” of $358 billion reported by the
IRS.
 Reducing the federal tax gap would have positive impact on
state income tax revenues as well. This is especially true in
case of reporting of business income.
 Any restructuring or simplification of federal tax system must
take potential impact on state taxes into account. If
restructuring does not take state taxes into account, state
policy actions may negate any benefits of federal reform.
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