Tax Analysts Blog

Repealing the Bad Franchise Tax is a Good Idea

Posted on Aug 27, 2014

One of the best ideas of the year comes from Mississippi. Lt. Gov. Tate Reeves (R) wants to eliminate the state's corporate franchise tax. I have been calling for the repeal of corporate income taxes for a long time. Corporate franchise taxes are much worse. The Mississippi tax is essentially a tax on capital. That is ludicrous in a global economy. Companies in Mississippi pay $2.50 per $1,000 of capital or property, whichever is greater. There is no limit. The more capital employed, the higher the tax.

Yes, the tax raised about $229 million in 2013 (compared with about $290 million for the corporate income tax). And efforts to repeal it will inevitably lead to the question of how to replace the revenue. Personally, I believe the tax is terrible and should be repealed whether the money can be replaced or not. But if repeal depends on revenue neutrality, find services to cut or raise personal income or sales taxes.

The problems with the franchise tax should be obvious. The tax is imposed without respect to profitability. Thus, start-ups and businesses caught in an economic downturn pay. That is true with all property taxes, of course. But the difference between a property tax on business capital and a property tax on real property is plain: Business capital can be moved and real property cannot. Again, taxing mobility in a world in which governments are competing for business does not work.

Moreover, franchise or capital stock taxes vary significantly in the states that still impose them. The bases include net worth, capital stock, capital stock plus surpluses, and personal property, with formulas sometimes tied to revenue and sometimes to profits. It's complicated. It's even more complicated when large multinationals must apportion such taxes (with conflicting bases). And the tax is almost always imposed in addition to the corporate income tax, which is itself pretty complicated. Why a state would purposely impose such burdens on its business community is beyond me.

Some will claim that the franchise tax is necessary for the sake of fairness. Corporations need to pay their fair share. But business entities don't pay taxes; people do. And as with the corporate income tax, it is really unclear where the incidence of franchise taxes falls. Perhaps it falls on the owners of capital in the form of lower returns. But maybe it falls on employees in the form of lower wages, or on consumers in the form of higher prices. If it is the latter, there is nothing fair about that.

Eighteen states still impose the tax. West Virginia just repealed its version. Pennsylvania's tax is due to be completely repealed in 2016. Reeves is right. Eliminating the franchise tax will simplify the code and remove a disincentive to in-state investment. Other states have seen this. It is time for Mississippi to follow suit.

This post is an excerpt of an article from State Tax Notes magazine.

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