Tax Reform For Michigan Robert J. Kleine State Treasurer Community College Business Officials Association November 2, 2006

Economic and Revenue Forecasting Division, Michigan Department of Treasury 2 Michigan Still Dependent on Autos Location Quotient in Michigan (Percentage of Michigan Employment over Percentage U.S.) Source: George Fulton, University of Michigan, except finance + Insurance calculated by Dept of Treasury.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 3 Michigan Employment by Sector Employment Change From 2000 to 2005 Source: Bureau of Labor Statistics. Note: Detail does not add to total because not all sectors of employment are presented.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 4 Michigan Manufacturing Employment Source: Bureau of Labor Statistics. Sep ,600 Jan ,900 Jul ,200

Economic and Revenue Forecasting Division, Michigan Department of Treasury 5 Big 3 Losing Market Share Source: Automotive News.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 6 Big Three Still Produce in Michigan Michigan Big 3 Production as a Percent of Total U.S. Production

Economic and Revenue Forecasting Division, Michigan Department of Treasury 7 But Big 3 Production Has Fallen

Economic and Revenue Forecasting Division, Michigan Department of Treasury 8 Big 3 Light Vehicle Sales Source: Wards Automotive. Sales Have Fallen Nearly 24 Percent Since Mid 2000

Economic and Revenue Forecasting Division, Michigan Department of Treasury 9 Slow Michigan Employment Due to Autos Source: Michigan Economic Competitiveness and Public Policy, Upjohn Institute 2006.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 10 Michigan Private Sector Employment % of Michigan Employment Number of Jobs 8/03 to 8/06 Increasing Sectors Education & Health15.3%30,500 Professional & Business Services15.9%20,600 Leisure & Hospitality10.9%12,500 Other Private Super Sectors19.6% 6,500 Total61.7%70,100 Decreasing Sectors Manufacturing18.3%-70,800 Wholesale/Retail Trade18.2%-28,400 Other Private Super Sectors 1.8% -2,900 Total38.3%-102,100 Government lost 18,800 jobs from 8/03 to 8/06 and is 15.4% of total wage & salary employment.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 11 Withholding Still Correlated with Michigan Auto Production Through September 2006

Economic and Revenue Forecasting Division, Michigan Department of Treasury 12 Michigan Income Growth Trails U.S. U.S. and Michigan Personal Income Growth 1995 = 100 Source: U.S Bureau of Economic Analysis.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 13 Problems with Current System High personal property tax burden discourages investment in Michigan SBT has been made more complicated through the years SBT’s bad reputation may be discouraging investment in Michigan

Economic and Revenue Forecasting Division, Michigan Department of Treasury 14 Advantages of SBT Stability Rate or base has never been increased Familiarity (30 years of experience) Low rate lessens interference with economic decisions and does not penalize efficient companies – the tax is about 0.6 percent of private GSP Taxes all economic factors equally

Economic and Revenue Forecasting Division, Michigan Department of Treasury 15 SBT Falling as Share of GSP SBT as Percent of Private Gross State Product

Economic and Revenue Forecasting Division, Michigan Department of Treasury 16 COST Study Puts Michigan Business Taxes Below National Average Source: Council on State Taxation. Bureau of Economic Analysis. FY 2005 State and Local Business Taxes as a Percent of Gross State Product

Economic and Revenue Forecasting Division, Michigan Department of Treasury 17 Michigan Business Burden Compares Well with Neighbors State Business Tax as % of GSPRank Wyoming9.6%1 Illinois5.3%19 Minnesota4.9%23 Ohio4.7%27 Indiana4.5%30 Wisconsin4.4%33 Michigan DE, NC, VA 4.3% 3.7% Source: Council on State Taxation.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 18 Upjohn Study Finds Michigan Taxes Below U.S. Average Source: Michigan Economic Competitiveness and Public Policy, Upjohn Institute 2006.

Economic and Revenue Forecasting Division, Michigan Department of Treasury 19 Boston Fed Study Puts MI Business Taxes Below National Average Source: Robert Tannenwald, Federal Reserve Bank of Boston. FY 2003 State and Local Business Taxes as a Percent of Personal Income

Economic and Revenue Forecasting Division, Michigan Department of Treasury 20 Governor’s Criteria for Reform Broaden tax base and lower tax rate Do not raise taxes on individuals Fully replace revenues to protect healthcare, education, and public safety Simplify business taxes Some consideration of ability to pay

Economic and Revenue Forecasting Division, Michigan Department of Treasury 21 Other Criteria for High Quality Business Tax System Stable revenue source Low compliance costs Competitive tax rates with other states

Economic and Revenue Forecasting Division, Michigan Department of Treasury 22 Alternative Business Taxes Subtractive VAT Gross receipts Licensing Fee Franchise Income Business-to-business services Other: Texas reforms, factor tax, MJIA

Economic and Revenue Forecasting Division, Michigan Department of Treasury 23 Michigan Jobs and Investment Act Broader tax base and lower rate –Eliminate excess compensation reduction –Eliminate gross receipts reduction –Lower rate by more than 1/3 to 1.2% 35% refundable manufacturing personal property tax credit 35% R&D personal property tax credit Change to 100% sales factor Increased profits weighting Raise insurance tax to national median (2% of premiums) Overall plan revenue neutral In 2005, the Governor Proposed the Michigan Jobs and Investment Act

Economic and Revenue Forecasting Division, Michigan Department of Treasury 24 Texas Reforms Old tax: corporate franchise tax is the greater of 4.5% of net income or 0.25% of net worth New tax: tax base broadened to be the lower of: –70% of revenues –Revenues less cost of goods sold –Revenues less compensation (including benefits) New rate of 1%; 0.5% for retailers and wholesalers Expanded to include partnerships and LLCs Business tax plus $1.00 cigarette tax being used to lower school property taxes by one-third

Economic and Revenue Forecasting Division, Michigan Department of Treasury 25 Ohio Reforms Old tax: corporate franchise tax is the greater of 4 mills on net worth or 8.5% of income in excess of $50,000 New tax: Commercial Activities Tax –Tax base is gross receipts of a business or individual sourced to Ohio –Tax rate is 0.26 percent (5 year phase-in) Tangible personal property tax eliminated Personal income tax reduced –Top bracket reduced from 7.5% to 5.95% –Taxpayers with income under $10,000 exempt

Economic and Revenue Forecasting Division, Michigan Department of Treasury 26 MI Chamber of Commerce Proposal (1) Combination income and gross receipts Business income tax rate 3.05% “License tax” paid on gross receipts –0.48% general rate –0.24% on wholesale/retail –Paid on excess above $350k in gross receipts –$150 minimum tax on businesses with at least 1 employee –$2 million cap on license tax 50% personal property tax credit

Economic and Revenue Forecasting Division, Michigan Department of Treasury 27 MI Chamber of Commerce Proposal (2) Combination income and gross receipts Business income tax rate 1.5% “License tax” paid on gross receipts –0.24% general rate –0.18% on wholesale/retail –Paid on excess above $350k in gross receipts –$150 minimum tax on businesses with at least 1 employee –$2 million cap on license tax No personal property tax credit

Economic and Revenue Forecasting Division, Michigan Department of Treasury 28 GR Chamber of Commerce Proposal Tax on MI business activity –MI sales or service revenues, less cost of tangible personal property purchased for resale, manufacturing, leasing, or cost of funds for financial institutions Also replaces personal property tax Rate not to exceed 0.75% If tax exceeds estimates, credit in following year (e.g. Oregon) Flat fee of $150 for business with at least 1 employee

Economic and Revenue Forecasting Division, Michigan Department of Treasury 29 Detroit Chamber Proposal Annual business license “fee” based on sales Fee based on sales level. Fee ranges from $1,000 to $1,000,000. Effective rate varies from about 0.2 percent to 0.5 percent Maximum tax set at $1,000,000

Economic and Revenue Forecasting Division, Michigan Department of Treasury 30 Factor Tax Proposal Tax Base can include – a measure of gross receipts or sales – compensation –assets or property –Business income times 10 Low tax rate (below 0.2 percent) Broad base provides stability Inclusion of business income makes tax more sensitive to profitability

Economic and Revenue Forecasting Division, Michigan Department of Treasury 31 Replacement Tax Issues Winners and losers How much revenue should be replaced Minimum tax? Ability to pay Personal property tax relief Filing threshold Capital and human investment incentives

Economic and Revenue Forecasting Division, Michigan Department of Treasury 32 SBT Provides One Quarter of GF-GP Revenue May 06 Consensus Estimate Adjusted for Proposed Budget FY 2007 GF-GP Revenues Total $9.2 billion

Economic and Revenue Forecasting Division, Michigan Department of Treasury 33 May 2006 Estimates Note: Totals exclude transfers and savings from adjusting statutory revenue sharing payments to local governments. $ in Millions Nominal General Fund Net Revenue in 2007 Less Than in 1996

Economic and Revenue Forecasting Division, Michigan Department of Treasury 34 Inflation Adjusted GF-GP Revenue Down 28 Percent Since FY 1999 Totals Exclude Transfers and are adjusted to 2007 dollars using U.S. CPI-U. $11.8 billion $8.4 billion

Economic and Revenue Forecasting Division, Michigan Department of Treasury 35 Replacement Tax Issues Winners and losers How much revenue should be replaced Minimum tax? Ability to pay Personal property tax relief Filing threshold Capital and human investment incentives

Economic and Revenue Forecasting Division, Michigan Department of Treasury 36 Comparison: Michigan SBT vs. CIT CIT revenues at 7.2% rate SBT Revenue at 1.9% Rate Michigan SBT vs. Business Income Tax SBT Revenues Paid by Corporations

Economic and Revenue Forecasting Division, Michigan Department of Treasury 37 Replacement Tax Issues Winners and losers How much revenue should be replaced Minimum tax? Ability to pay Personal property tax relief Filing threshold Capital and human investment incentives

Economic and Revenue Forecasting Division, Michigan Department of Treasury 38 Options for Personal Property Tax Relief Tax credits – if too large could result in classification change from real to personal Exemption from 24 school mills (6 state and 18 local school) delivers nearly 50 percent relief Exempt new property Differential credits based on new or existing Mandatory PA 198 for new Any change to personal property tax must take into account effects on local government