KANSAS TAX MODERNIZATION A Framework for Stable, Fair, Pro-growth Reform

Michael Lucci Erica York Katherine Loughead

January 28, 2020 • Reform Guide Introduction • Corporate Income Taxes Outline • Individual Income Taxes • State and Local Sales Taxes • Property Taxes Reform Guide Approach

• Background research and prep • Interviews across industry and geography • Analysis and writing • Continual engagement with stakeholders and policymakers

Narrative/ Recommended Priorities

• Unlegislated tax increases

• Corporate tax reform

• Long-term competitiveness Corporate Income Taxes Kansas Corporate Income Tax

• Two-rate corporate income tax • 4 percent rate • 3 percent surtax

• Raises $23 million to $87 million per percentage point • FY 2019 = $62.8 million per percentage point Structural Elements and Solutions

• Unlegislated tax increase

• Remove International Income from the Tax Base • Federal reform created Global Intangible Low Tax Income • Kansas corporations could face significant tax poised for the activities of their foreign subsidiaries or related corporations • Taxing GILTI would make Kansas far less attractive to multinational corporations Structural Elements and Solutions

• Improve Net Operating Losses • Currently disallows carrybacks and offers 10-year carryforward • Transition to 20-year carryforward or conform

• Lock in Full Expensing of Capital Investment • Kansas conforms to full expensing of machinery and equipment • Federal treatment scheduled to expire Structural Elements and Solutions

• Shift to Market Sourcing of Service Income • Three factor apportionment • Consistency is important • Sales factor apportionment should follow one set of rules

• Repeal the Throwback Rule • Punishes businesses that sell out of state • Counterproductive Long Run Priorities

• Incentive Review • 8 of 38 credits and deductions had reportable utilization

• Rate Reform • 21st highest among 46 CIT states Individual Income Taxes Avoid Increasing the Top Marginal Rate

• Kansas’ median household income is $56,400, so many Kansans have income exposed to the top marginal rate.

• Because income taxes discourage wealth creation, they are among the more economically harmful tax types. Index Income Tax Provisions for Inflation

• Currently, Kansas offers a standard deduction of $3,000 (single filers) and a personal exemption of $2,250 per person. These amounts have remained stagnant since 1988 and 1998, respectively.

• If adjusted for inflation, the standard deduction would be at least $6,500, and the personal exemption would be at least $3,550 in today’s dollars. Allow an Independent Choice of Itemization and Increase the Standard Deduction

• Kansas taxpayers who claim the federal standard deduction must also claim the state standard deduction.

• Among the approximately 20 percent of filers who switched from itemizing to claiming the standard deduction after the TCJA took effect, most of those taxpayers now face a lower federal individual income tax burden – but a higher Kansas individual income tax burden – than they did previously.

• This unlegislated state income tax increase can be remedied by increasing the Kansas standard deduction or by allowing taxpayers to itemize on their state return even if they claim the standard deduction on their federal return. Other Reform Considerations

• Remedy the marriage bonus and penalty in the standard deduction and additional standard deduction.

• Roll back excessive credits.

• Mitigate the Social Security tax cliff. State and Local Sales Taxes Kansas’ Sales Tax Rate is High Regionally and Nationally Remove Barriers to Interstate Commerce

Features of South Dakota’s remote sales tax law highlighted in the Wayfair decision that “appear designed to prevent… undue burdens upon interstate commerce”:

1. Safe harbor for small sellers 2. No retroactive collection 3. Single state-level administration 4. Uniform definitions of products and services 5. Simplified tax rate structure 6. Software 7. Immunity Broaden the Sales Tax Base

• Broadening the sales tax base to additional goods and services, while excluding business inputs, would help prevent further erosion of Kansas’ sales tax base. Exclude Business Inputs from Taxation

• The sales tax should not apply to business inputs (goods and services purchased by businesses in the course of doing business), as this results in tax pyramiding.

• To avoid taxing business inputs, policymakers ought to consider creating sales tax exemption certificates for widespread use by businesses and nonprofits. Other Reform Considerations

• Instead of reducing the sales tax rate on food, consider making the “Food Sales Tax Credit” more generous.

• Modernize the STAR Bond program. Property and Related Taxes Structural Elements and Solutions

• Property Tax Lid • Restructure in mold of Truth in Taxation Requirements • The current property tax lid has significant exemptions • Create a broader TNT lid applying to more governments and more expenditures

• Consolidation • Consider ways to achieve local government consolidation • Data shows that Kansas has more local government headcount than its peers • Study ways to incentivize consolidation for efficiency and tax relief Structural Elements and Solutions

• Tangible Personal Property Taxes • Reduce reliance on taxpayer-active TPP • Circumscribe taxation to real property • Raise de minimis threshold, exempt new purchases

• Intangible Property Taxes • Preempt local taxation of earnings from intangible property • Highly anachronistic, complex, non-neutral tax that distorts wealth allocation • One-third of counties and townships, one-fifth of cities levy • Assess local dependence on these revenues and then gradually phase out Structural Elements and Solutions

• Dark Store Theory • Direct Appraisers on assessment methodology for retail properties • Court rulings invalidate appraisals based on lease-in-place or income potential • Director of Division of Property Valuation should provide guidance for appraisers in line with Kansas Board of Tax Appeals and Kansas Supreme Court decisions

• Partial Payment of Tax Under Appeal • Revisit partial payment of tax under appeal • Partial payment can create instability and incentivize over-assessment • Reduce partial payments or have tax dollars held in escrow Other Tax and Revenue Considerations Other Tax and Revenue Considerations

• Rainy Day Fund • Shore up the rainy day fund • Budget Stabilization Fund created in 2016 • Create parameters for mandatory deposits and for withdrawals

• Border War • Maintain the “Border War” truce • Adhere to tax-poaching ceasefire • Incentivize localities to not defect Questions?

Michael Lucci Erica York V.P. of State Projects Economist [email protected] [email protected]

Katherine Loughead Policy Analyst [email protected]