State Corporate Taxes
Companies incorporated in the United States not only have to pay tax at the federal level, but they are also expected to pay corporate tax at the state level. 45 out of 50 states in the United States levy state taxes. This tax rate is not very high. It accounts for anywhere between 2% and 12% of the total income generated by the company. Also, for the states also, the corporate income tax is not a major source of revenue. On average, states earn about 7% of their total revenues from state income taxes. In 2019, this worked out to a total of $46 billion. This is a paltry sum as compared to the average of 30% earned from personal income taxes.
However, the corporate taxes levied at the state level are still important. In this article, we will have a closer look at the concept of state-corporate taxes as well as how they impact corporations.
When are Companies Liable to Pay State Income Tax?
Not all companies are liable to pay state corporate tax. In order for the tax to be levied, certain preconditions have to be met. They are as follows:
- First, the state needs to determine whether the company has a sizeable presence in the state to owe income tax. Generally, companies are required to have a physical presence in the state before they can be charged income taxes.
- Once it is decided which corporations to tax, the next step is determining the tax base. This involves two steps. Firstly, the total income generated by the state has to be taken into account. Then, the next step is to apportion the income between different states.
- In order to determine the total income generated by the company, the states generally begin with the federal government’s definition of income earned. This income is then modified as per the rules specified by the state. For instance, some states may provide more liberal depreciation deductions as compared to the government. Hence, the tax base for taxation by the state can be significantly different for the tax base for federal income taxes. In fact, many states have significantly modified their tax calculation after Donald Trump’s proposed lower tax rates came into existence.
- The next step is to apportion this income between the various states in which the companies perform business activities. This is done by different states using different formulas. For instance, using the three-factor formula was common earlier. Under this formula, the states would give equal weightage to sales, property, and payroll in the state. However, over time states realized that if they use this formula, they are actually penalizing companies for having property and payroll in a state. Hence, many states have moved to a system, whereas sales are the only determinant for state corporate taxes. Hence, if a company has 25% of its total sales in a state, it has to pay state corporate tax on 25% of its income in that state.
- Lastly, the state corporate tax paid by the corporation can be used to avail tax credits from the federal government. This helps reduce the effective rate of taxation.
How Companies Avoid State Corporate Tax?
Big companies are known for not paying state corporate tax. They avoid taxes using a wide variety of ways. Some of them have been listed below:
- There is a lot of tax competition amongst various state governments. This is the reason why big corporations are often able to negotiate tax deals, which are favorable for them. States are desperate to get jobs within their jurisdiction. As a result, their plan is to provide a lot of tax incentives to get corporations to relocate there. Once the corporations are in the state, the state earns a lot of revenue by taxing individuals who earn salaries from the company.
- The tax structure has become so competitive that companies are willing to move to a different state if they get any significant financial benefit for doing so. Very few companies invest their capital in immovable capital assets, which would tie them to a particular state.
- Technology is also being used to blur state boundaries. With the help of apps and websites, companies are able to sell in high tax states without opening an office there. They just take orders from the state using the online medium. The orders are fulfilled in a state which has low or no tax, and the goods are shipped to the high tax state. Companies show the low tax state as the base location for the transaction. Hence, they have to pay lower taxes. `The high tax states are not able to charge much since the company does not have an establishment which is located in their jurisdiction.
The continuous onslaught by many companies has meant that states have seen their corporate tax revenue dip during the previous years. However, that does not seem to matter to them since they are generating revenue from personal taxes. Many analysts are not able to understand the extent of revenue loss because all the revenue lost is notional. This means more companies are coming to the state, and the revenue is remaining the same. The loss is not really a loss but rather a failure to grow. Hence pointing it out to the general public has become a challenging task.
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- History of Corporate Taxation
- Why must corporations be taxed?
- Different Forms of Corporate Taxation
- How Corporate Taxes Impact Corporate Behaviour?
- Is Corporate Tax Progressive?
- The Rise of Flat Tax
- Understanding Tax Terminology: Tax Base
- Understanding Tax Terminology: Tax Rates
- Arguments in Favor of Tax Competition
- Arguments against Tax Competition
- Tax Co-operation: A Primer
- Elasticity of Taxes
- Strategies Used by American Companies for Tax Avoidance
- How Corporate Dividends are Taxed?
- Capital Gains Taxes
- State Corporate Taxes
- A Primer on Tax Deferral
- The Corporate Alternate Minimum Tax
- Sales Tax and Use Tax in the United States
- Why Amazon and Netflix Pay $0 in Corporate Taxes?
- How are Losses Treated in Corporate Tax?