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Michigan Business Tax Overview Robert J. Kleine, State Treasurer

Michigan Business Tax Overview Robert J. Kleine, State Treasurer. Characteristics of High Quality Business Tax System. Goals Uniformity Non-discrimination Good business climate. Criteria A business tax system should be broad-based and should include some consideration of ability to pay.

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Michigan Business Tax Overview Robert J. Kleine, State Treasurer

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  1. Michigan Business Tax Overview Robert J. Kleine, State Treasurer

  2. Characteristics of High Quality Business Tax System Goals • Uniformity • Non-discrimination • Good business climate

  3. Criteria • A business tax system should be broad-based and should include some consideration of ability to pay. • The tax should be applicable to all forms of business organization. • It should provide an immediate write-off for capital investment and dispense with special tax inducements. • The number of separate taxes should be kept to a minimum. • A stable tax base should be used. • States should provide funding to local governments to allow repeal of personal property taxes. • Rates should be moderate for unemployment insurance and workers compensation as well as for general business taxes.

  4. Michigan Business Tax • The Michigan Business Tax (MBT) is actually four taxes in one Public Act. • Two general imposition provisions that apply to most business entities, and • Two special imposition provisions that apply to insurance companies and to financial organizations.

  5. Michigan Business Tax • A Business Income Tax at 4.95%. • A Modified Gross Receipts Tax at 0.8%. • A Surcharge Added at 21.99% Capped at $6 Million. • A Special Premiums Tax For Insurance Companies at 1.25%. • A Special Net Capital Tax For Financial Institutions at 0.235% with Added Surcharge at Higher Rates Than General Surcharge.

  6. Michigan’s SingleBusiness Tax (SBT) • Enacted in 1975, effective January 1, 1976. • Replaced Michigan’s corporate income tax and six other business taxes. • Modified value added tax. • Initially based on “benefits-received” principle rather than an “ability to pay” principle. • Tax calculation used an additive VAT calculation method – started with business income and added back labor and capital inputs.

  7. Taxes SBT Replaced • Corporate Income (39.0% of total). • Financial Institution Income (2.3% of total). • Corporate Franchise (20.8% of total). • Business Intangibles (3.8% of total). • Local Property Tax On Inventory (33.4% of total). • Other (0.8% of total).

  8. SBT Repeal • In 1999, rate cuts enacted to drop rate by 0.1 percentage points per year until rate was zero (23 years), but cuts stop if BSF < $250M. • BSF falls below $250M in 2002, rate cuts stop. • In 2002, legislation enacted to repeal SBT in December 2009. • In the summer of 2006, legislature enacted voter initiated repeal effective December 31, 2007. • In FY 07, SBT equaled 7.3% of state taxes and 19.5% of unrestricted revenues • MBT enacted in July of 2007 to start in January of 2008.

  9. Why was the SBT Repealed • Additive method of VAT led to negative perceptions – taxpayers used to subtracting from base, not adding to it. • Tax or compensation criticized as “job killer”. • Firms did not like having to pay in years they lost money. • Michigan’s economy was uniquely bad this decade and business tax was unique – causality was assumed. • Comparing SBT simply to other states’ corporate income taxes gave the false impression that business taxes were high in Michigan.

  10. Three Earlier Proposals to Restructure or Replace SBT 2005 – Restructure SBT by eliminating certain deductions and credits, double weighting profits, and reducing tax rate from 1.9% to 1.2%. 2006 – Replace SBT with broad-based tax on gross receipts (0.125%, assets (0.125%), and business income (1.875%). Including significant cuts in personal property taxes (46% cut). 2007 – Replace SBT with tax base similar to 2006 proposal but new tax raised $500 million less than SBT. Proposal included a 2% tax on services (including B to B) and raised $1.5 billion to cover a projected budget shortfall.

  11. Michigan Business Tax • New tax base of income and gross receipts less purchases shifts part of burden to ability to pay (i.e. income) while maintaining a stable base. • Substantial personal property tax relief addresses a major business concern. • Tax credits provide incentives to invest in Michigan, to employ Michigan residents, and to perform research and development in the state. • Special provisions lower the tax burden for small businesses helping them to grow. • SBT revenues fully replaced.

  12. Eliminated Payroll From Base Increased Reliance on Profits Components of Tax Base Single Business Tax Michigan Business Tax Source SBT: Exhibit 12, Michigan Single Business Tax Statistical Tables, 2002-2003 , Michigan Department of Treasury

  13. Business Income Tax Base • Starting point is federal taxable income from business activity. • Includes non-corporate entities with deduction for net earnings from self-employment. • Unitary groups: • File a combined return. • Add tax bases of group members – apply combined apportionment percent. • Foreign operating entities, insurance companies, & financial institutions cannot participate. • Business loss after 2007 may be carried forward ten years.

  14. Modified Gross Receipts Base • Tax base is a taxpayer’s gross receipts less “purchases from other firms” before apportionment. • Purchases from other firms means • Inventory acquired during the year. • Depreciable assets acquired during the year. • Materials and supplies, including repair, parts and fuel.

  15. Insurance Company Tax • In lieu of modified gross receipts and business income taxes. • 1.25% of gross direct premiums written on property or risk located in Michigan. • No apportionment – only premiums on Michigan risks and property are taxed. • Retaliatory tax as described in insurance code is still in place (same as SBT provision). • Maintain credits for assessments paid to various shared-risk association/facilities.

  16. Financial Institution Tax • Financial institution tax limited to: • Banks, thrift banks, and savings and loans. • Entity owned directly or indirectly by a financial institution. • A unitary business group of these entities. • Net capital defined as: • The average of net capital for current tax year and four prior years (computed per GAAP).

  17. Personal Property Tax Relief • Commercial personal property exempt from 12 of 24 education mills (average 23% cut). • Industrial property exempt from 24 education mills and firms receive 35% refundable credit for remaining industrial personal property tax. • Provides a personal property tax cut of 65% on average for industrial property. • Schools protected by dedicating a portion of the MBT to the School Aid Fund. • No cuts to city, village, townships, and county property taxes. • Reduces burden on mobile capital.

  18. Special Provisionsfor Small Businesses • Firms with less than $350,000 in gross receipts exempt. • Full tax liability phased-in for $350,000 to $700,000 in gross receipts through a credit. • Allow qualifying firms to pay 1.8% on adjusted business income. • Raise alternate tax officer compensation disqualifier phase-out to $160,000 to $180,000. • Double gross receipts phase-out to $19-$20 million. • Entrepreneurial credit to encourage hiring and investment in Michigan.

  19. Credits Provide Incentives to Do Business in Michigan • Compensation Credit – for 0.37% of Michigan compensation. • Investment Tax Credit – for 2.9% of Michigan investment. • R&D Credit – for 1.9% of Michigan research and development expenses. • Sum of compensation and investment credit cannot exceed 52% of MBT liability. • Sum of all three credits cannot exceed 65% of liability. • Credit provisions reduced for 2008.

  20. Key SBT Credits Continued in MBT • SBT Credits Continued: • MEGA • Brownfield • Historic Preservation • Renaissance Zone • Hybrid Technology R&D Credit • SBT Credits Continued and Expanded: • Public Contribution and Community Foundation • Alternate Credit • Personal Property Tax Credit

  21. Credits Expanded In MBT • Some SBT credits were retained but slightly expanded (two credits): • Public contribution (expanded to include the Michigan housing and community development fund as a public institution). • Community foundation credit (expanded to include education foundations).

  22. SBT Credits Expanded in MBT Alternate Credit • Qualifying thresholds have been increased: • Adjusted business income (ABI) limit was increased from $475,000 to $1.3 million. • Gross receipts limit increased to $19-$20 million from $9-$10 million. • Allocated income limit increased to $160,000-$180,000 from $95,000-$115,000. • Only the adjusted business income threshold is indexed to inflation. • Alternate tax rate is reduced to 1.8% from 2.0%.

  23. SBT Credits Expanded in MBT Alternate Credit • Deals with the cliff introduced by the $350,000 filing threshold alone. • The credit is equal to the amount by which the allocated or apportioned gross receipts are less than $700,000 divided by $350,000 times MBT liability. • The credit declines linearly (and tax liability increases linearly) as gross receipts increase -- instead of an all or nothing cliff.

  24. SBT Credits Expanded in MBT Personal Property Tax Credit • The 15% SBT industrial personal property tax credit is increased to 35%. • Two new personal property tax credits are added: • 23% for State Utility personal property taxes (telephone property). Reduced to 13.5% after 2008. • 10% natural gas pipeline utility personal property tax credit. • Credits are refundable.

  25. New MBT Credits When Enacted • Some new credits (nine credits): • Research and Development MEGA Credit • Two NASCAR Speedway Credits • Stadium Credit • Arts and Culture Credit • Michigan Entrepreneurial Credit • New Motor Vehicle Dealer Credit • Two Michigan Headquartered Food Retailer Credits

  26. Transition Provisions • Unused SBT credit carry-forwards may be claimed on 2008 and 2009 MBT returns. • SBT Brownfield and Historic Preservation credits may be carried forward for ten years after claim. • 65% of any SBT business loss incurred in 2006 or 2007 may be deducted against 2008 modified gross receipts base.

  27. MBT Revenue Trigger • MBT has a trigger to ensure that it does not represent a large tax increase. • If revenues exceed trigger, 60% of excess refunded to taxpayers and 40% deposited into BSF. • Triggers if revenues grow faster than inflation, plus ¾%.

  28. MBT Surcharge • PA 145 of 2007 repealed service tax and replaced revenue with an MBT surcharge. • Surcharge is 21.99% of tax before credits. • Major credits are lowered. • For financial institutions, surcharge is 27.7% for 2008 and 23.4% thereafter. • No surcharge on insurance company tax. • Surcharge expires in 2017.

  29. MBT Changes to Credit Provisions In addition to the 21.99% surcharge, the following changes were made to the MBT credit provisions:

  30. Two Out of Three Taxpayers Pay the Same or Less Under the MBT Note: Estimates based on TY 2009 law using 2003 SBT data.

  31. Three Out of Four MI Based FirmsPay The Same or Less Under the MBT Michigan Only Firms Multi-State Firms Note: Estimates based on TY 2009 law using 2003 SBT data.

  32. Most Firms In Every Industry See A Tax Cut Note: Estimates based on TY 2009 law using 2003 SBT data.

  33. Most Manufacturing Firms Pay Less Note: Estimates based on TY 2009 law using 2003 SBT data.

  34. Small Businesses Pay Less Even After Surcharge Note: Estimates based on TY 2009 law using 2003 SBT data.

  35. Who Will Pay Less • Manufacturing firms. • Small businesses between $10 and $20 million of gross receipts. • Small businesses under $10 million with income to owners over $115,000. • Michigan multi-state firms.

  36. Who Will Pay More • Finance Insurance and Real Estate. • Profitable firms. • Firms without much personal property. • Firms that operate in Michigan but have little payroll or property here.

  37. Recent MBT Credit Changes • Film Credits • Anchor Credit • Brownfield Credit Expansion • Stadium Credit Expansion • Affordable Housing Credit • Bonus Depreciation Credit • Historic Preservation Credit Expansion • Individual/Family Development Account Act Credit • Exhibition Facility Credit • Ethanol Credit • Bottle Deposit Administration Credit • MEGA Credit Expansions • Department of Defense Contracts • Polycrystalline Silicon • Battery Credits • Photovoltaic Technology

  38. Significant Tax Changes Enacted Recently

  39. Apportionment • Single Sales Factor (100% Sales): • Michigan sales/Sales everywhere. • Apportion if taxed, or would be taxed, in another state: • Sales are sourced to another state if that state has jurisdiction to tax even if that state does not do so. • “Nexus” under Michigan Law. • When at least one firm in a “unitary business group” has nexus, Michigan sales by all persons in the group are included in the sales factor’s numerator. • No Special Apportionment Formulas for specific industries. • No Throwback Sales.

  40. Substantial Nexus • Taxpayer has a physical presence for more than 1 day per tax year, OR • Taxpayer actively solicits sales and has Michigan gross receipts of $350,000 or more.

  41. Substantial Nexus • Physical presence means “any activity” by: • A taxpayer, or • its independent contractor, or • its representative. • Active solicitation includes, but is not limited to: • Use of mail, telephone and e-mail. • Advertising, including print, radio, internet, television and other media. • Maintenance of an Internet site over or through which sales transactions occur with persons within Michigan.

  42. Substantial Nexus • Physical presence exclusion for: • Professionals providing services in a professional capacity, or • Other service providers if the activity is NOT associated with establishing a MI market.

  43. Restrictions on Imposition of MBT Business Income Tax • Tangible personal property (TPP) sales are subject to the narrower PL 86-272 federal statutory jurisdictional standards. • Mere solicitation of TPP sales is insufficient to establish nexus. • PL 86-272 is not applicable to receipts on “services” or “intangibles” which are subject to same nexus standard as for modified gross receipts. • A firm having nexus under the MBT for whom PL 86-272 disallows the imposition of the MBT business income tax is still subject to the MBT modified gross receipts tax.

  44. Unitary And Sourcing Provisions

  45. Unitary Business Principle • If a taxpayer is carrying on a single unitary business inside a state and outside a state, the State has the justification to include in the taxpayer’s apportionable tax base all of property, income or receipts attributable to the combined effect of the in-state and out-of-state activities.

  46. Unitary in the MBT • “Unitary business group” means: • A group of U.S. persons other than a foreign operating entity, • One of whom owns/controls, directly or indirectly, more than 50% of the ownership interest of the other U.S. persons, and • Business activities or operations that either: • Result in a “flow of value” within the business group, or • Are integrated with, dependent upon or contribute to each other.

  47. Unitary Group Filing • A unitary business group must file a combined return. • Must include each U.S. person other than foreign operating entities. • All transactions between persons included in the unitary business group must be eliminated from the business income tax base, the modified gross receipts tax base, and the apportionment formula. • Persons subject to the MBT as insurance companies or financial institutions are excluded from the combined return.

  48. Unitary: Flow of Value Tests • Functional Integration • Same line of business or steps in a vertically integrated process, or • Centralized Management • Centralized departments or functions, or • Economies of Scale • A function is enhanced through the sharing of the group’s resources.

  49. Unitary: Integrated, Dependent, and Contribute Test • A taxpayer is engaged in a unitary business when its activities in Michigan contribute to or are dependent upon its activities outside Michigan.

  50. Sourcing:Tangible Personal Property • Sales: Ultimate destination. Sourced to where property comes to rest regardless of shipping terms. • Leases: Sourced to where the property is utilized. • Number MI rental days/rental days everywhere.

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