States competing for business is nothing new. Attracting corporate headquarters, new manufacturing plants, research and development facilities, among many other types of investments, can add jobs (in the best cases high paying jobs) property investments in local communities which can lower property tax rates, as well as many other tangible and intangible benefits. In making its site selections, companies look at a variety of factors, one of which is state tax policy.
Back in the 1980s, when Indiana was courting companies headquartered in Japan and looking to invest in facilities in the United States, many of those potential investors were concerned about Indiana’s tax policy. Specifically, some states had gone to what is known as "mandatory combined reporting," which requires the inclusion of companies in a state’s income tax return that do not do business in that state themselves, if that state believes that the company is part of a "unitary group" with affiliates which do business in that state.
To calm those concerns, then Governor Robert Orr published a letter, dated February 23, 1984, which included the following statements: "I wish to make Indiana’s position absolutely clear…It is not been and is not now, Indiana’s policy to require combined reporting of taxpayers conducting unitary businesses….Indiana is known for its favorable business climate. I am much more interested in improving that climate than I am in broadening our tax base. I believe the adoption of a policy of requiring the combined reporting method for a unitary business would be extremely detrimental to Indiana’s future economic growth."
For more than 30 years, Indiana has remained, at least officially, a non-mandatory combined return state. There have been concerns, however, that Indiana’s position has been significantly eroded over the last several years through the frequent number of audits in which the Indiana Department of Revenue has taken the position that a taxpayer should be required to file a combined return and include its out-of-state affiliates in order to "fairly reflect" Indiana source income.
The Indiana Legislature has achieved notable gains in recent years in improving Indiana’s tax system and as a result enhanced Indiana’s reputation for having a favorable business climate. In 2014, Governor Pence held a "Tax Summit" designed to generate ideas for simplifying Indiana’s tax system and otherwise enhancing our business climate. In response, the Indiana Legislature has eliminated many procedural inconsistencies, reduced the number of deviations from federal taxable income, and eliminated unfair policies such as the throwback rule, just to name a few of the Legislature’s many accomplishments. As a result, Indiana has climbed in the published rankings of state business climates.
Senate Bill 323, introduced earlier this month in the Senate Tax and Fiscal Policy Committee (Tax Policy Committee), would represent a significant change to Indiana’s tax system, as it would mandate combined reporting for companies doing business in Indiana. If enacted, Indiana would join roughly one-half of the states (including Illinois) that mandate combined reporting. Survey of State Tax Departments, Special Rep. Multistate Tax Report (BNA), Apr. 24, 2015, at S-266-S-273. Council On State Taxation (COST) has published a position paper that opposes mandatory combined reporting and lists many of what COST believes are its detrimental effects.
Proponents of the bill note that it offers to apply any increased taxes to the acceleration of the corporate income tax rate reduction (which was previously enacted), and argue that it helps the Indiana Department of Revenue avoid transfer pricing issues and close tax avoidance loopholes. There are many concerns that have been expressed by the business community, and listing them is beyond the scope of this article.
The proposed legislation is complex and its reach is very broad. There are many concerns regarding specific provisions within the bill, the underlying policy, as well as concerns regarding the impact it might have on Indiana’s businesses and Indiana’s economic development efforts. As a practical matter, this is a short Legislative session which would make it extremely challenging for the Legislature to find the time to thoroughly consider the concerns which have been expressed both for and against this bill, and the Legislature is very much aware of the laws of unintended consequences.
On January 26, 2016, the Tax Policy Committee passed an amendment to the bill to send it to the Legislative Services Agency (LSA) for study. Consequently, it appears that Indiana will not make this decision this session, but the LSA study may impact the likelihood of the issue arising during the 2017 legislative session, which will be a long session budget year. The introduction of this bill generated significant interest this month at the State House, and that could be the precursor to heavy debate next session. Stay tuned.
Mark Richards and Matthew Ehinger are partners in Ice Miller’s Tax Practice.