AUGUSTA, Maine — Garrett Martin, executive director of the Maine Center for Economic Policy, released the following statement in response to the divided reports from the Committee on Appropriations and Financial Affairs on Gov. Janet Mills’ supplemental budget proposal:
“Last night’s committee vote on Governor Mills’ supplemental budget reveals two things. Republicans continue to prioritize giving unnecessary and ineffective tax breaks to large profitable corporations while Mainers hit hardest by the COVID recession continue to get left behind.
“The Republican report further rigs Maine’s tax code by creating three costly tax loopholes that will benefit large profitable corporations and real estate and hedge fund investors while delivering little to no benefit to small businesses. This is on top of a costly new tax break endorsed in both Republican and Democratic reports that allows all businesses that received a Payroll Protection Program grant to write off the full amount of those grants regardless their size or profitability even though they are already able to deduct expenses paid for with these grants from their taxes.
“The decision to focus on how much to give profitable corporations in tax breaks further rigs the tax code in their favor while undercutting Maine’s ability to respond to the current crisis and build a strong recovery for our people and communities.”
Excess Loss Allowance
What is it: The CARES Act suspended a cap on business loss deductions for business owners who file their business taxes through the personal income tax. These owners are typically limited in the amount of business loss they are allowed to apply to unrelated business income, such as a spouse’s salary or profit from a separate rental business. Single filers are able to use up to $250,000 in losses from one business during the tax year to lower unrelated sources of income, married filers are able to use up to $500,000 in losses. The CARES Act eliminates these limits for 2018, 2019, and 2020, allowing unlimited loss deductions to apply to unrelated sources of income.
Who benefits: These allowances primarily benefit the wealthiest households, specifically those with more than $250,000 in income per adult filer. Real estate and hedge fund investors are the most likely to benefit from these changes because of accounting practices commonly used in these sectors. In many cases the “losses” they are deducting are only on paper, occurring when taxpayers concentrate certain expenses in particular tax years rather than spread them out over the period in which they generate income. Pumping more tax breaks into industries that benefited from strong stock market and real estate market performance while the job market collapsed for low-wage industries is a bad use of resources.
MECEP analysis: Conformity to this tax benefit as proposed in the Republican report would shower the majority of its benefit on the wealthiest households. The Joint Committee on Taxation estimates that 80 percent of the benefit of this provision would go to tax filers with incomes over $1 million, with a benefit of $1.6 million for those households on average.[i] In addition, the retroactive nature of this and other CARES act provisions is economically dubious. 2018 and 2019 were the peak of the longest expansionary period in history and generally accepted as a strong economy, especially for the wealthiest households and businesses. Maine should not be subsidizing losses for businesses in these years.
Increased interest deduction
What is it: The CARES Act gave businesses permission to write off up to 50 percent of their income for tax years 2019 and 2020. Maine currently allows businesses to write off up to 30 percent of their income for interest paid on business-related debts and businesses can write off excess interest in future years.
Who benefits: Changing Maine’s tax code to conform with this provision of the CARES Act as called for in the Republican report would benefit businesses that currently claim the interest deduction. This includes many multistate and multinational companies that have debt-financed investments outside of Maine.
MECEP analysis: Smaller businesses that struggled this year will not benefit much from this additional write off, while large multinational corporations with operations in Maine — many of which saw massive profits even during the pandemic recession — will receive windfall tax breaks.[ii] A common accounting practice of multinational companies is booking debts to their US subsidiaries to lower taxable profits in the states, and limitations on the amount of debt interest payments that can be written off each year is an important back stop to these tax avoidance practices. What’s more, the retroactive portion of this change does not make economic sense as it subsidizes debt financed investments in a strong 2019 economy.
Foreign Derived Intangible Income Deduction
What is it: The 2017 Tax Cuts and Jobs Act created a “foreign-derived intangible income deduction,” or “FDII”, to encourage corporations to keep high-return intangible properties such as brands and patents in the US, rather than registering them in offshore tax havens. These assets are central elements in offshore tax haven abuse and ensuring that US-based companies register their brands and patents in the United States is a crucial element of closing the tax haven loophole.[iii] The Republican proposal would ensure that Maine continues to give this deduction.
Who benefits: The primary beneficiaries of this deduction are larger companies that have significant assets overseas.
MECEP analysis: FDII was passed with the intent of slowing international tax avoidance, but the deduction does the opposite. In fact, it has created a new opportunity for corporations to game the tax system by rewarding companies for investing more tangible capital, such as factories, overseas. For example, companies can export and then reimport their products through another subsidiary to take advantage of the deduction without ever bringing their intangible property back home. This maneuver is out of reach for a small, medium, and even many large business. But for multinational corporations with armies of accountants and mazes of subsidiaries across the world, the payoffs can be large.
Multiple papers from lead researchers on international taxation have outlined the ways the FDII deduction is rife with opportunities for tax avoidance and laid bare the reality that the deduction is ineffective at stemming tax haven abuse.[iv]
FDII also gives more to companies that are locating their capital assets overseas than it does to companies that keep their large production operations here at home. Because the tax break is larger for companies that have assets overseas, the main economic incentive of this deduction is to encourage investment overseas. Early evidence shows that is exactly what’s happening.[v] Rejecting the Republican proposal to allow this deduction in Maine will ensure large corporations are not able to benefit from this latest tax gaming opportunity and divert resources away from the investments that make Maine a good place to live and do business.
[ii] Conforming to this provision would allow businesses to write off an additional 20 percent of their profits. For a business with losses or low profits, that benefit will be a lot smaller than for a business with record breaking profits such as credit card companies that benefited from the switch away from cash purchases, technology companies that saw a massive increase in customers and usage, and cleaning supply manufacturers that saw record sales.
[iii] Phillips, Richard and Nathan Proctor. “A Simple Fix for a $17 Billion Loophole: How States Can Reclaim Revenue Lost to Tax Havens” Institute on Taxation and Economic Policy and U.S. PIRG Education Fund. January 17, 2019. https://itep.org/a-simple-fix-for-a-17-billion-loophole/
[iv] Some examples include: Kamin, David et al. “The Games They Will Play: Tax Games, Roadblocks, and Glitches Under the 2017 Tax Legislation.” December 28, 2017 https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3089423; Dharmapala, Dhammika. “The Consequences of the TCJA’s International Provisions: Lessons from Existing Research.” August 2018 https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3212072; Shay, Stephen. “The US International Tax Reforms: Competitions and Convergence, Pay-offs and Policy Failures. 2018. Intertax, 46(11). https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3297724; Avi-Yonah, Reuven S. “The International Provisions of the TCJA: Six Results After Six Months.” August 2018. Public Law and Legal Theory Research Paper Series. https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3242008
[v] Beyer, Brooke, et al. “The Effect of the Tax Cuts and Jobs Act of 2017 on Multinational Firms’ Capital Investment: Internal Capital Market Frictions and Tax Incentives.” May 1 2019. https://tax.unc.edu/index.php/publication/theeffect-of-the-tax-cuts-and-jobs-act-of-2017-on-multinational-firms-capital-investment-internal-capital-marketfrictions-and-tax-incentives/