May 7, 2023
May 7, 2023
With Minnesota poised to enact worldwide combined reporting of corporate income taxes, business lobbyists are pulling out all the stops to make state lawmakers believe the apocalypse is upon them. A recent paper from the Committee on State Taxation (COST) warns that if Minnesota goes over the this “precipice,” the state could actually lose money rather than raise revenues as the bill’s sponsors intend. COST’s Stephen Kranz also warns ominously that this loophole-closing reform would ignite an “international tax war.”
Leaving aside the obvious question of why COST, usually a big fan of business tax reductions, is so deathly afraid of a reform that they claim could “decrease state corporate income tax revenues,” it’s important to remember why combined reporting is a vital strategy for reforming state corporate taxes – and why the “worldwide” variety Minnesota is now contemplating is the best approach.
Over the years, large corporations have devised a bewildering array of strategies to artificially shift income (mostly on paper) out of higher-tax states into states that have little or no corporate tax. A common element of these strategies is to use a complicated web of subsidiaries that, under the “separate accounting” rules used by most states in the past, could act as tax-free repositories for income that was actually earned by a parent company in another state.
Combined reporting, a reform now in force in more than half the states, takes away the incentive for companies to engage in these state-to-state income-shifting shenanigans in one fell swoop. In combined reporting states, a parent corporation and its many subsidiaries around the nation are treated as a single entity for tax purposes, so that shifting income artificially from one state to another won’t affect the taxability of the corporation in the states where it does business.
But in most states, the combined report currently only applies to corporate subsidiaries located within the United States. This means that companies shifting their profits out of the U.S. and into tax havens can still avoid paying income taxes in the states where they do business.
A tax plan nearing approval in Minnesota would extend that state’s combined reporting law beyond the water’s edge to encompass subsidiaries worldwide, ensuring that U.S. multinationals shifting their U.S. profits artificially into foreign tax havens can no longer reduce their Minnesota taxes by doing so.
The revenue impact of combined reporting is famously difficult to estimate, since data on the location of corporate profits is available only to tax administrators and the tax leadership of big multinational corporations. But economics professor Kimberly Clausing has estimated that multinationals shift almost $300 billion a year into foreign tax havens, and based on this estimate ITEP found in 2019 that states could collectively see a revenue boost of up to $17 billion by enacting combined reporting laws that reach beyond the water’s edge to include foreign tax havens. Minnesota’s share of this currently uncollected revenue is difficult to pinpoint without having access to corporate tax returns, but it would certainly help revitalize an important state revenue source. And despite COST’s dark hint about revenue losses, there is no credible argument that WWCR will do anything but boost state revenues over the business cycle.
The tone of near-hysteria in the voices of COST and of the Wall Street Journal editorial page, which has taken a sudden interest in the details of Minnesota’s corporate tax debates, hints at the truth: if Minnesota and other states enact worldwide combined reporting, as the North Star State seems poised to, the already-narrowing options for unethical corporate leaders seeking to hide their profits from state and federal governments will narrow even further. Companies will – gasp! – have to pay income taxes on their profits and will have to pay them to the jurisdictions where the income is actually earned.
Far from being the outlier suggested by the Wall Street Journal’s editorial board, worldwide combined reporting is very much in step with a growing international consensus that big multinationals shouldn’t be allowed to leverage tax havens to dodge paying their fair share of taxes. If Minnesota passes this sensible reform, it won’t signal the end of the world, as COST suggests—just the triumph of common sense and good tax policy.