I'd like to begin with two pointed observations about the
2007-08 Executive Budget and its impact on taxpayers and the
- The budget will raise state taxes, in several significant
- The budget will not provide lasting, broad-based relief
from New York's sky-high local property taxes.
In each case, I will lay out some pro-growth policy alternatives
that can affordably be implemented in the next budget.
It is debatable whether all of Governor Spitzer's proposed
changes in corporate, bank and insurance taxes can actually
be considered "loophole closers." A loophole is
a provision of tax law that is being exploited to produce
a result the law never intended. It simply is not accurate
to apply this description to some of the governor's proposals.
Semantics aside, there is no question that if you enact this
budget as proposed, you will be imposing a significant tax
increase on some of New York's largest and most valued employers.
To be sure, most firms will see little or no change in their
state tax bills under this budget, and some may even pay less.
But the net result, according to the Budget Division's conservative
estimate, will be the equivalent of a 5 percent increase in
Article 9a revenues alone. This would mark the first significant
business tax increase at the state level since the early 1990s.
Fully implemented, the total revenue impact of all the tax
increases in this budget will exceed $600 million, including
the proposed $75 million increase in the "covered lives
assessment." This is a hidden tax that already adds hundreds
of dollars a year to health insurance premiums in the most
expensive regions of our state. Surely the last proposal the
Legislature ought to be considering is one that that will
push health insurance costs in New York even higher.
Among the major business tax changes proposed in the budget,
I would like to focus on a provision that will effectively
force New York firms to file "combined reports"
of income from out-of-state subsidiaries and related companies
with which they have substantial inter-corporate transactions.
The Executive Budget characterizes this as one that will
simply conform New York to the practice in 17 other states.
Of course, this also means that New York will move further
out of conformance with the general practice in the majority
of states, including almost all of our neighboring states
and our strongest competitors for corporate investment east
of the Mississippi.
All businesses seek to minimize their taxes to the greatest
possible extent allowable by law. The challenge for policymakers
is craft a tax code that is fair, simple and economically
competitive, while producing minimal incentives for economic
distortion. The Legislature met this challenge effectively
in 2003, when it amended the corporate tax law in a way that
has effectively outlawed the use Delaware holding companies
to shelter income through royalty payments for intellectual
property-closing the so-called "Geoffrey the Giraffe"
There can be little doubt that some corporations are continuing
to use aggressive tax planning to attempt to shift profits
from New York to subsidiaries other states. But they do this
at their own riskbecause present New York law makes it
clear that such transactions must be arms-length and that
the pricing of goods and services must be fair. A parent company
that attempts to artificially deflate its New York income
by overpaying an out-of-state subsidiary for goods or services
is begging for a bigger state tax bill after its next audit.
The governor's proposal to treat all inter-corporate transactions
as potential tax avoidance schemes will penalize large, multi-state
New York firms that have perfectly sound business reasons
for integrating their productive activities among separately
incorporated subsidiaries and related companies. Court rulings
and tax tribunal decisions already provide such corporations
with a roadmap for fairly pricing and allocating inter-corporate
transactions within the meaning and intent of current law.
Forced combined reporting will move New York a giant step
closer to the purely "unitary" approach-which, in
the absence of broader restructuring and rate cuts, will inevitably
be perceived by corporate America as a significant increase
in our corporate taxes. It will raise taxes for both perceived
corporate cheaters and for those firms that have been doing
business in a perfectly legal manner. It will add to compliance
costs for affected firms without necessarily simplifying enforcement
for the state-since disputes will now shift from evaluating
transactions to determining whether related companies are
truly engaged in a unitary business. This "loophole closer"
would reverse a consciously adopted policy aimed at encouraging
headquarters companies to locate in New York.
Despite the negative impacts on some firms, it could be argued
that a unitary tax would come closer to achieving the highly
desirable policy goals of tax neutrality and equity. The governor
might credibly have advanced such an argument if he had proposed
the same tax changes in a revenue-neutral context-for example,
by linking his combined reporting requirement to a reduction
in business tax rates. Better yet, he might have proposed
these changes in the context of a broader reduction in the
state's overall corporate tax burden.
Unfortunately, he did neither of these things-because the
prime motivation behind the business tax proposals in this
Executive Budget is not to reform the tax code but to raise
This approach sends the wrong signal to firms that might
otherwise consider investing or expanding in our state.
After all, New York's overall business tax burden already
is among the heaviest of any state's. Our business tax climate
is ranked 47th out of 50, according to the Tax Foundation
. And according to the latest Ernst
& Young study for the Committee on State Taxation, New
York's overall business tax share of private-sector productivity
is 15 percent above the national average, and above those
of peer states .
The Legislature deserves credit for taking some important
steps to improve the situation over the past 15 years. For
example, New York's maximum corporation franchise tax rate
on net income has fallen from 10.35 percent in the early 1990s
to 7.5 percent today. However, it should also be noted that
much of our corporate tax base is concentrated in the metropolitan
transportation region, where the mass transit surcharge raises
the marginal state rate to 8.75 percent. Only seven states
now impose higher rates on corporate net income.
And the burden is heaviest of all in New York City, which
is the only municipal government in the nation to impose its
own business income tax. The city's top rate of 8.85 percent
is higher than the New York State rate. Thus, the combined
rate is a whopping 17.6 percent - easily the highest in the
nation, fully double the tax imposed in the vast majority
of states. Attached to my testimony is a chart showing how
the New York State and City rates stack up to those in the
rest of the nation.
New York City can get away with imposing a sky-high marginal
rate in large part because of state and city tax law provisions
that are designed to narrow the definition of allocable corporate
income-including the combined reporting rule this budget would
Because the governor's proposal would extend the forced combined
reporting requirement to the city as well as the state,
it effectively doubles the impact in the city, as Mayor
Bloomberg pointed out in his testimony before you earlier
this month. The closer you nudge the effective corporate
tax burden closer to that 17.6 percent statutory level,
the more reason you will give to some major employers to
reconsider their continued presence in the city, if not
In the short term, the best course available to the Legislature
is the following:
- Declare a moratorium on further tax increases of any
kind, including the misleadingly labeled "covered lives
assessment." Ideally, the next budget should include
tax cuts-including some of the broad-based business tax cuts
passed by the Senate two weeks ago, including further reduction
of the corporate franchise tax rate and complete elimination
of taxes on manufacturers. But such reductions should be financed
with recurring savings on the expenditure side of the budget,
not surplus revenues from volatile sources.
- Join with the governor to appoint a blue-ribbon commission
to recommend a comprehensive overhaul of New York's Corporation
Franchise, Bank and Insurance Tax laws, whose core elements
now date back to the mid-20th century. The goal should
be to give New York a business tax code better suited
to the global economy of the 21st century-a tax code that
establishes sustainable economic growth and competitiveness
as paramount goals.
Instead of worrying about the extent to which New York corporations
are shifting profits to tax havens elsewhere in the country,
we should be trying to figure out how we can turn New York
itself into a tax haven. We should stop wondering how to force
corporations to pay more taxes for the privilege of doing
business in New York State. We should be looking for ways
that will encourage more corporations to invest more money
and to create more jobs in New York.
One of the biggest new initiatives in Governor Spitzer's
proposed budget is a major expansion of School Tax Relief
(STAR) property tax exemptions for homeowners, ultimately
adding $2.5 billion a year to what is now a $3.4 billion program.
To summarize the flaws and shortcomings of this proposal:
- More than half the homeowners in at least 12 of our largest
suburban counties earn to much to qualify for full "middle-class"
tax relief .
- The Middle Class STAR plan includes a built-in marriage
- Increasing the existing STAR subsidy will give school
districts a further incentive to accelerate their spending
and tax levies. That's what happened during the implementation
of the STAR's first stage, between 1998 and 2001.
The results: Housing costs will rise for young couples and
low-income households, who tend to rent rather than own; and
economic development will be further deterred by growing burden
on commercial and industrial property.
Recent Census data confirm that our property taxes on owner-occupied
homes are wildly out of line with national norms. In absolute
terms, homeowners in New York City suburbs pay the highest
property taxes in the country, rivaled only by their counterparts
in New Jersey. When property taxes are measured relative to
home value, nine of the 10 most heavily taxed counties in
the country are in upstate New York.
But other data comparative indicate that New York's local
property taxes on commercial properties, and on apartment
buildings, are as far out of line as taxes on owner-occupied
homes . In some cases, the disparity
between New York and other states is even worse in these
categories. STAR provides no relief from these high taxes-and
a STAR-like program to assist businesses or apartment dwellers
would be at least as inequitable and administratively cumbersome
as the homeowner model.
The ultimate problem is that STAR treats a symptom and not
the disease. The "relief" is offers is temporara
large dose of fiscal Novocain. And the pain is all the greater
now that the original dose is wearing off. In fact, as if
often the case, by masking the pain, it made things worse.
There is a better way. Before embarking on any increase in
STAR, whether it is the Governor's plan or the Senate's, the
Legislature should link this tax subsidy to a cap on property
tax levies. The limit suggested a decade ago by Governor Pataki's
original STAR bill-the greater of 4 percent, or inflation-is
an appropriate starting point. Voters would be allowed to
suspend the limit for one year at a time. The cap would be
adjusted to reflect increases school enrollments, and to reflect
the value of new construction and improvements.
Such a cap has been considered by this Legislature before.
In 1995, for example, Assembly Speaker Silver proposed-and
the Assembly passedthe "Real Property Tax Limitation
Act," described as limiting all local revenues to the
rate of inflation. The bill allowed for exceptions to the
cap only in "extraordinary" circumstances, requiring
a well-advertised public hearing and vote of the local governing
body. A maintenance-of-effort obligation was imposed on the
state itself, when it came to local assistance as part of
In New Jersey, Governor Corzine has promised to sign a property
tax relief measure that will reduce tax bills while capping
property tax levies at 4 percent, with some exceptions.
The basic concept is already proven success for another of
our neighbors. In the 1960s and 70s, Massachusetts was one
of New York's perennial rivals for the title of most heavily
taxed state. In 1980, voters there approved Proposition 2
1/2, limiting increases in their taxes in a manner similar
to the approach I have outlined for New York. Within a decade,
the combined tax burden in Massachusetts had subsided to the
middle rankings among states. No one calls it "Taxachusetts"
In closing, the answer to the twin challenges of high taxes
and sluggish economic growth in New York is not to create
still more "targeted" forms of tax relief, grants
and loans-but to firmly and finally limit growth in taxes,
and to take those steps that are necessary to create a more
hospitable climate for all forms of free enterprise. As Governor
Spitzer himself observed in a speech to The Business Council
"Too many companies today would say that they would
not locate in New York because we are just not competitive.
Our state has the highest combined state and local tax burden
in the nation
[W]e simply cannot raise taxes and keep
New York competitive."
Tax Rates on Corporate Net Income
New York State, New York City and Neighboring Jurisdictions,
Source: Federation of Tax Administrators, author's calculations.
- Curtis S. Dubay and Chris Atkins, State Business
Tax Climate (Fourth Edition), at http://www.taxfoundation.org/publications/show/78.html.
- Robert Cline, Tom Neubig and Andrew Phillips, Ernst
& Young LLP, Total State and Local Business Taxes:
50-State Estimates for Fiscal year 2006, published
in conjunction with the Council on State Taxation.
- The disparity between the Middle Class STAR income limits
and actual median homeowner incomes in some counties is
illustrated in the table below.
Source: Division of the Budget, Census Bureau, author's calculations
- Minnesota Taxpayers Association, "50-State Property
Tax Comparison Study."