3-5-18 3:00 PM EST | Email Article
By Richard Rubin 

WASHINGTON -- The amount of income subject to corporate taxes on the state level will increase by 12% because of the federal-tax overhaul, which removed or limited tax breaks, according to a business-backed study.

When the top federal corporate-tax rate was 35%, state corporate-tax rates ranging from 3% to 12% were relatively insignificant for many big companies. But now, with the federal rate at 21% and fewer breaks available, state corporate taxes are becoming increasingly important.

After the federal government limited deductions and changed foreign-tax rules late last year, state taxable income went up and state rates didn't change. The estimate that the state corporate -tax base will grow by 12% on average over the next decade comes from an Ernst & Young LLP study conducted for the Council on State Taxation, a business group.

"The state tax increase for corporations is totally inadvertent," said Karl Frieden, vice president and general counsel at Cost.

The federal tax law imposed new restrictions on companies' ability to deduct interest payments, exchange property without paying capital-gains taxes, deduct some fringe benefits and immediately write off future research costs. At the federal level, those changes were far outweighed by the rate cut.

States typically calculate corporate taxable income starting with some version of the federal definition, but details vary. Many states haven't allowed faster write-offs for capital investments known as bonus depreciation. Even though Congress expanded that write-off to a full and immediate deduction, states aren't likely to follow.

"We've got 50 states with 50 different ways of doing things," said Steve Wlodychak, a state-and-local tax policy expert at Ernst & Young and the study's co-author.

Many states are adjusting their tax codes in response to the federal law. At the high end, the study projects a 14% increase in the state corporate-tax base in Arizona, Pennsylvania and Vermont; at the other end, Mississippi's increase is projected to be 4%. In some cases, that may not translate into higher revenue because companies can use up accumulated state tax breaks.

Some states could cut corporate tax rates to bring revenue back to its prior levels. Georgia last week cut its corporate income tax rate to 5.75% from 6%.

Others could choose a piecemeal approach, picking up some federal changes but not others. Other states could spend additional revenue or use it to lower individual taxes.

States are trying to decipher the new law and many may wait until 2019 for significant corporate tax changes, said Max Behlke, director of budget and tax at the National Conference of State Legislatures.

Especially in Democratic-leaning states, he said, "There hasn't been a whole lot of sympathy toward corporations at the state level, considering they got a 40% cut federally."

There is particular uncertainty around the interaction between foreign tax rules and state tax systems, namely whether states get a piece of the new minimum taxes on U.S. companies' foreign income.

Companies will likely use lobbying and lawsuits to fight any state attempts to tax that income, and states shouldn't count on that money any time soon, said Michael Mazerov, senior fellow at the Center on Budget and Policy Priorities, a left-leaning think tank.

"It's just unrealistic to think that states are really going to see some of this base-broadening really occur," he said. "There's going to be a vigorous corporate effort to oppose it."

Write to Richard Rubin at richard.rubin@wsj.com


(END) Dow Jones Newswires

March 05, 2018 15:00 ET (20:00 GMT)

Copyright (c) 2018 Dow Jones & Company, Inc.
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