United States: Regional Spotlight: Tax-ing Responses To Budget Woes In Illinois, Wisconsin, And Minnesota

Recently, Wisconsin Governor Scott Walker thrust the state's two-year projected deficit of $3.6 billion into the headlines by proposing a stop-gap measure that would cut public workers' benefits and collective bargaining rights. Between accounts of fleeing legislators, union protests, prank calls, and alleged secret plots, it's little wonder that the story has held the nation's interest. And while so far Wisconsin has avoided tax increases to address its deficit, nearby Illinois has already enacted legislation to claw in revenue through tax hikes. Recently, Minnesota Governor Mark Dayton unveiled a budget plan that adopts Illinois's approach to combat its deficit—an approach that could prove costly to corporate taxpayers.

Illinois

In Illinois, where the budget deficit for 2012 is estimated at as much as $15 billion,¹ the legislature has already adopted sharp increases in corporate taxes. Illinois Governor Pat Quinn signed Senate Bill 2505 into law on January 13, 2011, after it passed the Illinois Senate by a tight party-line vote of 60-57.² All told, the new legislation (known as Public Act 96-1496) is expected to generate $6.8 billion in revenue for Illinois.³

Public Act 96-1496 drastically increases the corporate income tax rate from the current 4.8 percent to 7 percent for taxable years 2011-2014. With the new 7 percent rate and the additional, unchanged 2.5 percent replacement tax rate, the new 2011–2014 top corporate rate is 9.5 percent. For tax years after 2014 but before 2026, the corporate tax rate will decrease to 7.75 percent (5.25 percent income tax rate plus the 2.5 percent replacement tax rate). For tax years after 2025, the rates would return to 2010 levels, with a top total rate of 7.3 percent (4.8 percent income tax rate plus the 2.5 percent replacement tax rate).

In addition to raising rates, the new law suspends net-operating-loss deductions for corporations in tax years ending after December 31, 2010 and prior to December 31, 2014.⁴ As a result of the significantly increased rates and the suspension of net operating losses, the bill also increases required estimated tax payments to 150 percent of the tax due in the prior year for payments due between January 31, 2011, and February 1, 2012.

On March 10, 2011, Governor Quinn signed an affiliate nexus bill, HB 3659, into law that will require remote online merchants selling goods to customers located in Illinois to collect Illinois sales/use taxes. The new legislation (known as Public Act 96-1544) amends Illinois's use tax and service use tax laws by adopting click-through nexus provisions applicable to certain retailers.

Specifically, Public Act 96-1544, which is effective July 1, 2011, expands the definition of "retailer maintaining a place of business in this state" to include any retailer or serviceman contracting with in-state parties to refer customers to the retailer through links posted on the in-state parties' internet web sites. The click-through nexus provisions will apply only to retailers with more than $10,000 in annual gross receipts from all click-through contracts with Illinois residents. However, unlike similar legislation in other states, the Illinois law does not create an opportunity for the retailer to rebut the presumption that contracts with the in-state affiliates, standing alone, create nexus.⁵

Clearly then, Illinois has chosen to act aggressively to combat its deficit by increasing taxes. Interestingly, the bills mentioned above passed through the legislature during a lame-duck session only hours before a newly elected, majority Republican General Assembly was sworn in.⁶ Passing by a vote of 60-57 in the House and 30-29 in the Senate, these bills received no Republican votes.⁷

Wisconsin

Wisconsin's approach to addressing its budget deficit has so far proved very different from that of Illinois. Whereas Illinois enacted a nearly 50 percent increase in corporate taxes, Wisconsin has attempted to take a more pro-business stance. In fact, shortly after Illinois enacted the tax increases, Governor Walker appealed to Illinois businesses to "Escape to Wisconsin," an old tourism campaign slogan borrowed to demonstrate Wisconsin's commitment to fostering business. At least through 2014, Wisconsin's business income tax rate is expected to stay below the Illinois rate. Of course, Illinoisans may feel Governor Walker's appeal is a bit disingenuous since the Illinois corporate income tax rate is set to go back below the Wisconsin rate in 2015 and the personal income tax rates (going from 3% to 5%) in Illinois are generally lower than the rates in Wisconsin (ranging from 4.6% to 7.75%).

Still, Wisconsin is looking for solutions to its $137 million budget shortfall for the current fiscal year ending June 30 and its estimated $3 billion deficit over the next two years.⁸ In the early-morning hours of February 25, 2011, the Wisconsin State Assembly passed Governor Walker's "budget reform bill." The bill will increase the premiums state and local government workers pay for health care and raise contributions for pension benefits from less than 1 percent to almost 6 percent. The bill also eliminates union collective bargaining for government employees for health care and pension benefits. The hotly contested bill also originally included provisions to restructure the state's debts, steps expected to save taxpayers an estimated $165 million.⁹

Thousands of pro-union protestors descended on Wisconsin's capitol to speak out against the bill. In a clever attempt to prevent the Senate from reaching quorum and taking up the bill, 14 Senate Democrats fled the state. On February 28, 2011, Governor Walker warned the still-absent senators to return within 24 hours, or the state would miss the opportunity to refinance its debt.¹⁰ When the Democrats still failed to return, the Senate Republicans revised the bill to remove any fiscal provisions, a step that allowed them to pass it without a quorum.¹¹ Governor Walker signed the bill into law on March 11, 2011.¹²

The Governor's proposed budget has not yet been released but is expected to contain cuts of approximately $1 billion in state aid for schools and local governments.¹³ Additionally, legislative action in the state so far this session indicates that the proposed changes might be business-friendly. For example, the legislature recently passed a law requiring any bill that increases the state sales tax or income tax rates to be approved by a two-thirds supermajority vote and another creating a two-year program under which companies that relocate to the state would receive income tax credits equal to their incomes.¹⁴

Minnesota

Minnesota has yet to pass any significant legislation to address the state's $6.2 million deficit, but it is not for want of trying.¹⁵ On February 10, 2011, the Minnesota State Legislature passed a bill that would have reduced appropriations in fiscal years 2011–2013 and increased property taxes. As passed by the legislature, the bill represented a package of $900 million in spending reductions. However, Governor Mark Dayton vetoed the appropriations bill, citing the regressive nature of property tax increases, lack of spending-reduction earmarks, and a general objection to a piecemeal approach to addressing the budget deficit.¹⁶

In his proposed budget, Governor Dayton released his own plan for reducing the deficit. The budget proposal, released on February 15, 2011, makes clear that the Governor intends for the state to follow in Illinois's footsteps and address state budget deficits through increased taxes.¹⁷

Notably, the Governor's plan includes proposals to:¹⁸

• Eliminate the foreign royalty subtraction that allows a corporate taxpayer to subtract from income 80 percent of foreign royalties received from a foreign operating company or foreign corporation that is part of the same unitary business as the receiving corporation. This change would increase Minnesota revenue by an estimated $272.2 million in fiscal year 2012–2013.

• Institute unitary filing and require all of a unitary business's sales to Minnesota to be included in the business's sales factor for apportionment purposes. This change is expected to generate $46.0 million in fiscal year 2012–2013.

• Adopt an affiliate nexus bill that would create a rebuttable presumption that a business has nexus with Minnesota if it enters into agreements with a solicitor for the referral of customers in Minnesota. This proposal is expected to generate $10.6 million in sales tax revenue in fiscal year 2012–2013.

• Adopt an economic-substance test to require Minnesota taxable income to be determined in conformance with federal tax law in an effort to foreclose business-structuring activities.

• Amend sales tax on lodging and related services to confirm that the full price and charges paid by the customer for the occupancy are taxable. This amendment is expected to bring in $8.6 million of additional revenue in fiscal year 2012–2013.

• Repeal the law exempting insurance companies from the corporate franchise tax. This proposal is expected to generate $17.0 million in fiscal year 2012–2013.

Conclusion

While close in proximity, Illinois, Wisconsin, and Minnesota have adopted different approaches to addressing severe budget deficits. With large state deficits across the nation, corporate taxpayers stand to shoulder additional tax burdens in states where tax increases are the favored method of balancing the budget. Depending on the outcomes of legislative sessions in the Great Lakes region and across the country this year, more companies may be answering the call to escape to Wisconsin or, perhaps, to locations farther afield.

Footnotes

^{1 Daniel W. Hynes, State Bill Backlog Continues to Grow, 37 THE ILL. STATE COMPTROLLER'S QUARTERLY 2 (Oct. 2010).}

^{2 S. 2505, 97th Leg., 1st Sess. (Ill. 2011).}

^{3 Office of Management and Budget, Balanced Budget Note, H. Floor Amend. No. 2, S. 2505, 97th Leg., 1st Sess. (Ill. 2011).}

^{4 The years for which the net operating losses are suspended under the new legislation are not counted for purposes of Illinois's 12-year carryforward period, so that the state's 12-year carryforward period will be extended by the number of years for which the losses are suspended.}

^{5 For example, in New York, a taxpayer can rebut the presumption of nexus by establishing that the only activities of its in-state representatives were placing links on their web sites to the seller's web site. See New York TSB-M-08(3.1)S (June 30, 2008).}

^{6 Douglas Belkin et al., Illinois Braces for Tax Increases, WALL ST. J., Jan. 13, 2011, available at online.wsj.com/article/SB10001424052748704803604576078291454012106.html?mod=WSJ_hp_MIDDLENexttoWhatsNewsForth (all web sites herein last visited Mar. 13, 2011).}

^{7 Id.}

^{8 Jason Stein & Patrick Marley, Legislature could act Thursday on budget plan, JOURNAL SENTINEL, Feb. 17, 2011, available at www.jsonline.com/news/statepolitics/116301539.html.}

^{9 David Bailey, Governor gives Wisconsin Democrats an ultimatum, REUTERS, Feb. 28, 2011, available at www.reuters.com/article/2011/02/28/us-wisconsin-governor-idUSTRE71R51620110228.}

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^{11 Murrey Jacobson, Wis. Senate's Surprise Vote to Restrict Bargaining Stuns Unions, Democrats, PBS NEWSHOUR, Mar. 9, 2011, available at www.pbs.org/newshour/rundown/2011/03/wis-senates-surprise-vote-to-restrict-bargaining-stuns-unions-democrats.html#.}

^{12 Tim Jones, Walker Signs Into Law Bill Curbing Unions, Rescinds His Warning of Firing, BLOOMBERG, Mar. 11, 2011, available at www.bloomberg.com/news/2011-03-11/walker-signs-into-law-bill-curbing-unions-rescinds-his-warning-of-firing.html.}

^{13 Id.}

^{14 A.B. 5, 100th Leg., 1st Spec. Sess. (Wis. 2011); A.B. 3, 100th Leg., 1st Spec. Sess. (Wis. 2011).}

^{15 See Minnesota Deficit Grows, ASSOCIATED PRESS, Dec. 2, 2010, available at www.fox21online.com/news/minnesota-deficit-grows.}

^{16 H. JOURNAL, 87th Leg., 15th day, at 324 (Minn. 2011).}

^{17 Mark Dayton, GOVERNOR'S BUDGET RECOMMENDATIONS (2011).}

^{18 Id.}

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