Tax Competitiveness and Simplification Report Recommendations from the Indiana Tax Competitiveness and Simplification Conference September 2014 CONTENTS EXECUTIVE SUMMARY .................................................................................................................................. 4 I. History of Taxation in Indiana ...................................................................................................... 7 II. State Business Tax Climate .......................................................................................................... 9 III. Sources of Tax Revenue in Indiana ............................................................................................ 10 IV. The Ideal Tax System ................................................................................................................. 13 SIMPLIFICATION OPTIONS .......................................................................................................................... 15 Sales Tax ................................................................................................................................................. 15 I. Summary ..................................................................................................................................... 15 II. Simplification Options ................................................................................................................ 18 III. Research and Development Exemption ...................................................................................... 26 Individual Income Tax ............................................................................................................................ 26 I. Summary ..................................................................................................................................... 26 II. Simplification Options ................................................................................................................ 29 Corporate Income Tax ............................................................................................................................ 33 I. Summary ..................................................................................................................................... 33 II. Simplification Options ................................................................................................................ 37 Local Option Income Taxes .................................................................................................................... 43 I. Summary ..................................................................................................................................... 43 II. Simplification Options ................................................................................................................ 45 Property Taxes ........................................................................................................................................ 46 I. Summary ..................................................................................................................................... 46 II. Simplification Options ................................................................................................................ 48 Other Taxes and Special Taxes ............................................................................................................... 50 I. Summary ..................................................................................................................................... 50 Page 2 of 70 II. Financial Institutions Tax ............................................................................................................ 50 III. Utility Receipts Tax .................................................................................................................... 52 IV. Tobacco Excise Taxes – Cigarette and Other Tobacco Products ................................................ 53 V. Biodiesel ..................................................................................................................................... 54 Tax Incentives ......................................................................................................................................... 55 I. Summary ..................................................................................................................................... 55 II. Potential Reforms ........................................................................................................................ 59 Tax Administration ................................................................................................................................. 61 I. Reallocate Settlement Authority ................................................................................................. 61 II. Redefine the Role of the Attorney General’s Office ................................................................... 62 III. Codify the Deliberative, Attorney-Client, and Work-Product Privileges ................................... 62 IV. Increase Guidance to Taxpayers Through Letters of Finding ..................................................... 62 V. Devote More Resources to Dispute Resolution .......................................................................... 63 VI. Harmonize Interest on Refunds with Interest on Delinquencies ................................................. 64 VII. Update IRC and CFR References ............................................................................................... 64 VIII. Tax Preparer Licensing ............................................................................................................... 65 IX. Standardize Administrative Protest Procedures .......................................................................... 65 X. Allow Additional Time Between Final Administrative Decision and Statute of Limitations to File Tax Court Petition ............................................................................................................... 66 PUBLIC COMMENTS .................................................................................................................................... 66 CONCLUSION ............................................................................................................................................... 68 ACKNOWLEDGEMENTS ............................................................................................................................... 68 Page 3 of 70 EXECUTIVE SUMMARY On June 24, 2014, Governor Mike Pence hosted a day-long conference on Tax Simplification and Competitiveness as part of a comprehensive review of Indiana’s tax structure. The conference brought together more than 100 tax experts and stakeholders from around the state and nation. The purpose of the Tax Conference was to undertake a frank and forthright discussion of what steps are necessary to improve Indiana’s tax structure. Speakers discussed fundamental tax principles, specific tax types, and ways to simplify taxes for families and businesses. Based on that conference, public submissions, and other research, this report has been prepared by the Department of Revenue, Department of Local Government Finance, Economic Development Corporation, and Office of Management and Budget. It is hoped that this report will provide a guide to the General Assembly, identifying Indiana’s tax weaknesses and ways to address those weaknesses. In general, a competitive tax structure rests upon sound principles. Simplicity allows taxpayers to easily understand and comply with the rules. Transparency enables taxpayers to forecast their total tax liability and comprehend the state’s tax structure without hidden costs. Stability provides consistency and predictability, which encourages entrepreneurship and economic growth by allowing taxpayers, and government, to plan for the future. Fairness and neutrality ensure that the tax code treats similar taxpayers similarly. Competitiveness creates an environment in which individuals and businesses seek to locate and expand in the state. Finally, a broad tax base , coupled with low rates , produces consistent tax revenues while minimizing economic distortions. As explained during the Tax Conference, Indiana’s tax system enjoys many positive features. For instance, Indiana has a flat individual income tax rate and low business tax rates. During the past two legislative sessions, Indiana repealed its inheritance tax, lowered tax rates on individuals, lowered tax rates on corporations and financial institutions, and gave local communities more options to lower business personal property taxes. For these and other reasons, the nonpartisan Tax Foundation ranks Indiana’s corporate business climate as 10th best in the nation. In other respects, however, Indiana has substantial room for improvement. Indiana’s tax structure dates from the 1950s, more than a half-century ago, and some elements of the tax code date from the 1930s. According to some panelists, Indiana’s sales tax base has narrowed too much over time, as certain sectors of the economy have grown. Similarly, Indiana’s corporate tax code creates numerous ambiguities, which leads to needless litigation in courts. Finally, Indiana’s business personal property tax discourages investment in new technology and equipment, the engines of growth and jobs. Over time, Indiana’s tax code has grown more complex