Tax & Budget News

Governor Jennifer Granholm of Michigan signed a new business tax into law yesterday, making “combined reporting” rule of law in a majority of the U.S. economy. This tax reform, supported by Governor Patrick, was still considered controversial only a few years ago but has been consistently adopted by states looking to modernize their tax systems in response to companies that operate with subsidiaries across multiple states. “Combined reporting” levels the playing field between businesses by preventing companies from using out-of-state subsidiaries to avoid paying their taxes.

Four years ago only 29 percent of the U.S. economy, represented by 16 states used combined reporting. Now including Michigan, 51 percent of the economy will now take place in states using combined reporting.

“This is the tipping point,” said Phineas Baxandall of U.S.PIRG, the Federation of State Public Interest Research Groups, an advocate for this reform.  “Combined reporting has become standard best practice. This is a day that everyone but a few tax lawyers should celebrate.”

Combined reporting was first introduced in California in 1937 as a way to adjust to the fact that modern companies often operate across state lines. The practice requires companies to file taxes in a single combined return, rather than carving up activities into separate – often out of state – subsidiaries that can avoid state taxes. Combined reporting eliminates any incentive to use accounting schemes or elaborate transactions between subsidiaries to hide reportable income. Like the earlier method, combined reporting also only taxes companies based on their in-state business activity.

For many years combined reporting was stymied by lawsuits, and then by lobbying by corporations that benefit from tax loopholes. But the landscape has shifted. According to Michael Mazerov at the D.C.-based Center for Budget and Policy Priorities, "When the Supreme Court upheld California's use of combined reporting back in 1983, it was still considered an innovative and controversial approach to taxing corporations.  Now it is just becoming standard best practice" 

Governors this year proposed combined reporting in six states, including here in Massachusetts, and legislation was introduced in three additional states. So-far, this year combined reporting has passed in Michigan, New York, and West Virginia. A model statute for combined reporting has been drawn up by the Multistate Tax Commission, a quasi public body comprised of state revenue departments.

States have tried to close some loopholes one at a time, but can’t keep up with the tax lawyers who invent new ones much faster. “The beauty of combined reporting is that it closes a thousand loopholes at once. Moving money from one corporate pocket to another becomes irrelevant for tax purposes,” said Deirdre Cummings, MASSPIRG’s Legislative Director.

Please visit http://www.masspirg.org/static/combinedreportinggraph.gif to view a chart that depicts combined reporting trends.

State percentages denote the size of each state’s economy relative to the nation’s Gross Domestic Product. A majority of transactions within the U.S. economy will now take place under combined reporting.

Notes: Data is from the U.S. Bureau of Economic Analysis measures of 2005 gross domestic product by state calculated as a percentage of the entire state-based gross domestic product, including Washington DC and four states with no corporate income tax. Raw data available at http://www.bea.gov/bea/newsrelarchive/2006/gsp1006.htmOhio, Texas, West Virginia and Vermont issued combined reporting laws in the previous two years. Combined reporting is assessed on corporate income tax, except in Ohio, Texas, and Michigan where assessed on the states’ own form of major business tax. table 3A.