January 19, 2016
It’s rare for a tax to be done away with entirely, but, once in a while, it happens.
As of Jan. 1, the capital stock and foreign franchise tax ceased to exist in Pennsylvania.
“It was well past time for Pennsylvania to finally remove the capital stock and foreign franchise tax from the books,” Gov. Tom Wolf said in a statement, calling it “an unfair tax on business.”
A long history
Over the years, the capital stock and franchise tax has become “near and dear to my heart,” jokes Jason Skrinak.
Skrinak is leader of the state and local tax practice at Reinsel Kuntz Lesher, an accounting firm with offices in Lancaster and four other locations in central and eastern Pennsylvania.
He spent the first part of his career learning the tax’s ins and outs, and much of the second half keeping tabs on its protracted demise.
The tax dates to the 1840s, when it was set at 3 mills. It remained at 5 mills from 1891 to 1967.
But, after that, rates were jacked up repeatedly. They reached a high of 13 mills in 1991, and the levy became a prime target of the business community’s ire.
In 2000, then-Gov. Tom Ridge signed legislation to gradually do away with it over 10 years. The state’s revenue needs, however, kept the tax in play, and its termination was repeatedly postponed to help balance budgets.
The delays allowed Pennsylvania to take in an extra $6.9 billion from 2000 to 2013 compared with the original phase-out schedule, according to the Pennsylvania Business Council.
The delays were “frustrating,” said Sam Denisco, vice president for governmental affairs at the Pennsylvania chamber.
“Historically, we’ve been very bullish” on advocating for the phase-out, he said.
A ‘combo’ tax
Legally, the tax was considered a property tax. As calculated, it had both property and income components.
Firms paid it based on a formula combining their net worth and average income over five years. There was a standard exemption, reducing or eliminating the tax for many small companies.
The calculations weren’t simple, said Steven Geisenberger, a principal with the Walz Group accounting firm, based in Manheim Township.
“It was always hard to explain,” Geisenberger said. “It still is.”
For many years, the state gave accountants some flexibility in calculating it, making it practically a “self-assessed” tax, Geisenberger said.
That shifted to a fixed formula more than 30 years ago.
Prior to that, accountants had more flexibility in calculating it, making it practically a “self-assessed” tax, he said.
He suspects the rule tightening was one of the things that put elimination of the tax on the business community’s wish list.
De facto AMT
Capital stock taxes generate comparatively stable revenue streams, unlike income taxes, which rise and fall with the business cycle. That stability made it attractive to the state.
It promoted tax fairness by functioning as an alternative minimum tax, said Mark Price, an economist with the left-leaning Pennsylvania Budget and Policy Center.
A capital stock tax “guarantees that corporations pay some tax even when they have managed to wipe out their state tax liabilities by exploiting tax loopholes,” Price said.
Businesses, of course, see tax planning as a legitimate, unexceptionable part of their operations. And whatever else is the case, when businesses do in fact lose money, paying taxes on their assets puts them further in the hole.
In the case of the capital stock tax, “you paid whether you made money or not,” Geisenberger said.
Moreover, because Pennsylvania also levies a 9.99 percent corporate net income tax, the capital stock tax was seen as double taxation, Skrinak said.
Business groups argued the tax made Pennsylvania less attractive to companies, stifling its economy.
Said Denisco: “It’s basically punching businesses and not encouraging them to invest.”
“This tax was a real outlier in overall business tax policy, and we are all better off without it,” said Tom Baldrige, president of The Lancaster Chamber of Commerce & Industry.
The revenue question
Price, however, points to the state’s foregone revenue, which was never offset.
As recently as 2011-12, the capital stock and franchise tax raised more than $800 million. At 5 mills, the rate for more than seven decades, the tax would have brought in more than $2 billion in 2014-15, according to Price’s calculations.
Instead, it brought in $242 million, according to the Department of Revenue, and, in future years, as things stand, it will bring in zero.
“There is no evidence that job growth in Pennsylvania has improved in the 25 years over which the rate has been cut rather dramatically,” Price said. “There is, however, good evidence that these kind of tax expenditures have contributed to our structural budget deficit.”
Business groups argue the state must do more to rein in spending.
Wolf and the Budget and Policy Center, among others, say the state can’t afford to underfund education, infrastructure and so on if it is to remain economically competitive in the 21st century.
Politics and budgeting being what they are, Skrinak isn’t convinced the capital stock and franchise tax is gone for good.
Sure, it’s dead now, “but it might not be forgotten,” he said.