SINGLE BUSINESS TAX CHANGES



House Bills 5787 and 5788 as introduced

House Bill 6066 as introduced

First Analysis (10-28-98)


Sponsor: Rep. Kirk A. Profit

Committee: Tax Policy



THE APPARENT PROBLEM:


Michigan's unique single business tax is criticized, particularly by small businesses, for a variety of reasons: its complexity, which makes compliance sometimes more costly than the tax liability; the fact that taxes can be owed even when a firm is unprofitable; the inclusion in the tax base of compensation costs, which discourages job growth and higher incomes; its stiff penalties for underestimating tax liability in quarterly filings; and for other elements. Some people consider the tax anti-growth. While businesses whose gross receipts are below $250,000 have no liability, a company that exceeds that amount is fully subject to the tax. Although the SBT has been changed in recent years in ways favorable to small businesses (e.g., the filing threshold has been increased, the rate for the alternative profits tax available to some small businesses has been halved, and the SBT rate itself has been lowered), some people believe more relief is needed. A number of bills have been introduced to modify the SBT.


THE CONTENT OF THE BILLS:


House Bill 5787 would amend the Single Business Tax Act (MCL 208.9) to allow taxpayers, beginning with tax years after December 31, 1998, to deduct from their SBT tax base $250,000 and an additional amount calculated as follows: 90 percent of gross receipts over $250,000 but less than $261,000; 80 percent of gross receipts between $261,000 and $272,000; 70 percent of gross receipts between $272,000 and $283,000; 60 percent of gross receipts between $283,000 and $294,000; 50 percent of gross receipts between $294,000 and $305,000; 40 percent of gross receipts between $305,000 and $316,000; 30 percent of gross receipts between $316,000 and $327,000; 20 percent of gross receipts between $327,000 and $338,000; and 10 percent of gross receipts of at least $338,000 and less than or equal to $350,000.

[Firms below the gross receipts threshold of $250,000 are not subject to the single business tax and need not file a return.]


House Bill 5788 would amend a section of the Single Business Tax Act (MCL 208.71) dealing with quarterly payments of estimated tax to specify that interest would not be assessed under the act to a taxpayer whose tax liability for the immediately preceding year was more than $20,000 if the taxpayer has submitted estimated payments for the tax year equaling 110 percent of the immediately preceding tax year's liability.


[The same section of the act contains two current conditions under which interest is not assessed: 1) if the preceding year's tax liability was $20,000 or less and if the taxpayer submitted four equal installments the sum of which equals the previous year's tax liability; and 2) if the sum of the estimated payments equals at least 85 percent of the liability or 1 percent of the gross receipts for the tax year and the amount of each estimated payment reasonably approximates the tax liability incurred during the quarter for which the estimated payment was made.]


House Bill 6066 would amend the Single Business Tax Act (MCL 208.9 and 208.73) to require the Department of Treasury to develop a simplified annual return form to be used for a taxpayer who meets all of the following criteria in a tax year:


-- Does not claim a deduction under Section 23 (capital acquisition deduction) and is not required to make an adjustment under Section 23b (tax base adjustment after allocation and apportionment).


-- Has gross receipts of less than $1 million;


-- Has adjusted business income of less than $475,000;


-- Is not a member of a controlled group of companies that files a consolidated return; and


-- Does not add compensation to the tax base (as otherwise would be required in Section 9).


The bill would amend Section 9 so that businesses described above would not be required to add compensation to the SBT tax base.


BACKGROUND INFORMATION:


The single business tax is typically described as a form of value-added tax. A Department of Treasury publication has described the tax as "the difference between the sales price of the product and the cost of materials used to make a product." The tax base of a business is the sum of compensation paid, profits, interest paid, and depreciation. For multi-state businesses the tax base is "apportioned" based on the ratio of business activity in the state to total business activity (mostly based on sales). There are a number of adjustments to the base, including a capital acquisition deduction, a gross receipts reduction so that the tax base does not exceed 50 percent of gross receipts (which means the tax cannot exceed 1.15 percent of gross receipts), and an excess compensation reduction for companies whose compensation costs exceed 63 percent of their tax base. The tax rate is 2.3 percent. Businesses with annual gross receipts below $250,000 do not have to file a return or pay the tax. Further, there is a small business credit that is available to firms that meet the following criteria: gross receipts below $10 million, adjusted business income below $475,000, and adjusted business income to any single owner below $115,000. The credit can amount to 100 percent of tax liability (depending on the amount of business income) or businesses meeting the criteria may pay an alternative tax of two percent of adjusted business income. Farmers are exempt from the SBT. When the SBT took effect in 1976, it replaced the corporate income tax and half a dozen other business taxes.


FISCAL IMPLICATIONS:


The House Fiscal Agency's estimates, based on information from the Department of Treasury, are as follows:


The revenue impact of House Bill 5787 will depend on the definition of tax base that the initial $250,000 is deducted from. If the apportioned tax base is used,

the bill would produce a revenue loss of $300 million in fiscal year 1998-99. If gross receipts is used as the tax base, the revenue loss would be about $40 million. (HFA fiscal note dated 9-14-98)


The revenue loss from House Bill 5788 would be between $75 million and $200 million in fiscal year 1998-99. There would also be cash flow borrowing cost increases. (HFA fiscal note dated 9-14-98)


House Bill 6066 would reduce SBT revenues by $60 million annually. (HFA fiscal note dated 9-22-98)


ARGUMENTS:


For:

The bills would address criticisms of the state's single business tax by making it fairer and making compliance less complicated, primarily for small businesses.


Businesses complain about the complexity of the single business tax and the required SBT tax return. Some complain that their compliance costs are higher than their tax liability. House Bill 6066 would require state tax officials to produce a simplified return for some smaller businesses. The bill also would eliminate compensation costs from the tax base for those companies, thus removing a disincentive for increased hiring or increased pay. (While a simplified form is currently available, business representatives say it can result in a higher liability than the regular form and so businesses are forced to fill out both the regular and alternative form to determine which is most advantageous. Obviously, this defeats the purpose of the simplified form.) One of the complaints small business owners have about the current small business credit/alternative profits tax provisions is that they only apply if no owner, officer, shareholder, or partner has income above $115,000. This is too restrictive, say business representatives. The provisions of House Bill 6066 appear to provide an alternative method of helping small businesses without regard to owner, partner, or shareholder income, by removing compensation from the tax base.


The current provisions regarding penalties for insufficient quarterly filing can force companies to overpay their taxes and reduce money available to help the companies grow. House Bill 5788 would ease these requirements by eliminating penalties if a company submitted payments equal to 110 percent of the previous year's liability.


Currently, firms with gross receipts under $250,000 are not subject to the tax and need not file a return. Firms with gross receipts of $1 or more above that amount are subject to the tax. This "cliff" is unfair to companies slightly over the threshold and is also a disincentive to growth. House Bill 5787 intends to provide graduated tax relief by exempting some portion of gross receipts for all companies from the tax base up to $350,000.


Against:

These bills would result in a significant loss of SBT revenue. Tax reductions would go only to certain companies that meet the various criteria in the bills, without any obvious justification for this special treatment. It should be noted that the SBT gross receipts threshold has gone from $40,000 in 1990 to $250,000 as of 1995. The most recent increase eliminated 31,500 firms from having to file. (Nearly 64,000 firms in the state have no tax liability.) The alternative profits tax rate for eligible small businesses has been cut from 4 percent to 2 percent, and the standard SBT tax rate has been reduced from 2.35 percent to 2.30 percent. Social security, unemployment insurance, and workers' compensation payments have been eliminated from the compensation portion of the tax base. The Department of Treasury says that companies will save about $400 million in fiscal year 1998-99 from SBT cuts enacted since 1991. Some people would say, contrary to the approach taken by these bills, that the problem facing the SBT is that the tax burden is falling on an ever decreasing pool of businesses as more and more firms are exempted or given special tax breaks. Moreover, tax specialists are concerned about the trend toward converting what should be a value-added tax to an income tax by reducing the compensation component in the tax base (as House Bill 6066 would do for some companies).


POSITIONS:


The Small Business Association of Michigan supports the bills. (10-26-98)










The National Federation of Independent Business supports the bills. (10-27-98)


The Department of Treasury is opposed to the bills. (9-24-98)



Analyst: C. Couch



This analysis was prepared by nonpartisan House staff for use by House members in their deliberations, and does not constitute an official statement of legislative intent.