While most attention this year has focused on competing proposals to lower the top income tax rate and curtail tax breaks, another proposal that would cut taxes for corporations by some $50 million has been quietly making its way through the Legislature. Lawmakers are seeking to repeal the franchise tax, which is assessed on all corporations that do business in Oklahoma. If lawmakers repeal this tax, they should also take steps to protect state revenues and make business taxes fairer.
Under Oklahoma’s franchise tax, corporations are taxed $1.25 for each $1,000 of capital invested or otherwise used in Oklahoma up to a maximum levy of $20,000 (foreign corporations are additionally assessed $100 per year). While all corporations must file a report with the Secretary of State, those with tax liability below $250 are exempt from the tax. In 2008, 16,175 corporations paid the tax, but only 18 corporations paid the $20,000 maximum levy, according to the Oklahoma Tax Commission. The state collected $47.6 million from the franchise tax in FY 2010.
For the past three years, the franchise tax has been suspended. The reason is that in 2010, in the wake of the Supreme Court ruling finding that intangible personal property was taxable, the Legislature enacted a temporary Business Activity Tax in lieu of ad valorem taxes on intangible personal property. The franchise tax was suspended and the Business Activity Tax was pegged to the amount a taxpayer paid under the franchise tax in 2010. With voter approval of SQ 766 last November prohibiting taxation of intangible personal property, the Business Activity Tax is repealed and the franchise tax is slated to come back into effect on July 1st of this year. Revenue collections from the franchise tax and the Business Activity Tax together are projected to be $49.3 million in FY 2014. SB 341, authored by Sen. Mike Mazzei and Rep. Earl Sears, would instead permanently repeal Oklahoma’s franchise tax effective July 1st.
Opponents of the franchise tax often state that complying with the tax can be onerous for small businesses, and that for some, the cost of compliance can exceed the amount the state receives in taxes. The State Chamber of Commerce is leading the effort for repeal of the franchise tax; it argues that the tax “puts companies that want to or currently do business in Oklahoma at a huge tax disadvantage and serves as a disincentive for economic development, recruitment, capital investment; and could lead to companies moving their businesses to competing states.”
However, the franchise tax is an important “backstop” to ensure that profitable corporations pay something to support public services they benefit from, such as an educated workforce and a transportation system that allows them to get their good to market. These corporations include the many Oklahoma businesses that are exempt from the corporate income tax because they elect to be treated as so-called S-Corporations (S-Corps), other corporations that take advantage of various loopholes and tax breaks to avoid owing any corporate income taxes, and out-of-state companies doing business in Oklahoma that are exempt from the state income tax. Every state except Idaho levies a tax or annual fee on S-Corps. Oklahoma is one of 16 states that levies a franchise tax on S-Corps, but is one of only 9 states that does not have an S-Corps specific fee or tax.
If Oklahoma legislators wish to do away with the franchise tax, they would be creating a $40 – $50 million hole in the budget at a time when the state is struggling to restore budget cuts of recent years and address urgent funding needs. They could partly offset this lost revenue by enacting a modest annual fee on S-Corporations and Limited Liability Companies, as most states already do. An annual fee would be less cumbersome than the franchise tax but would ensure that these businesses would be paying something for the services they receive.
At the same time, the Legislature should act on a major recommendation of the 2011 Task Force on Comprehensive Tax Reform chaired by Sen. Mazzei and Rep. David Dank and make business taxes more fair by coupling franchise tax repeal with adoption of combined corporate reporting. Combined reporting prevents multi-state corporations from hiding profits earned in Oklahoma by sending them to a subsidiary located in a state without an income tax. More than half of all states that assess a corporate income tax have adopted combined reporting, including every Western state.
With our economy still fragile, now is not the time for unpaid-for tax cut that could jeopardize our ability to fund important public investments . If lawmakers move forward with repealing the franchise tax, they should do it in a way that won’t hurt the state financially and won’t mean even more cuts to education, public safety, and other state services that businesses and families rely on.