Back in the 1950s, states got together to bring some consistency to the methods by which they taxed multi-state businesses. The Uniform Division of Income for Tax Purposes Act in essence divides up the profits of multi-state corporations among all states where the corporations earn a profit. The rationale is straightforward: One, it would be unfair for the same income to be taxed by more than one state and, two; it would be equally unfair if companies could work the system so that their income was untaxed by any states. They call that "nowhere income."

This happy medium existed for decades until it started to break apart as states, often under pressure from large companies, took their tax codes in different directions. The bill before you today would be an example of that.

To simplify it, from some companies that are located in this state, New Jersey today collects taxes on the profits earned from sales made in other states. These are profits that, for various reasons, cannot be taxed in those states. The result of New Jersey's policies is to help make sure that companies pay tax on 100% of their profits - no more, no less.

New Jersey's law operates by means of two provisions: sales "throwout" and the "regular place of business" requirement. The throwout rule is a mechanism that assigns to New Jersey what would otherwise be nowhere income earned by New Jersey companies in states that don't tax it. In having such a rule, New Jersey has chosen to cooperate with other states in ensuring that corporations do not have nowhere income. The regular place of business requirement states that a company from New Jersey selling in other states must have an actual office, factory, warehouse or other regularly maintained facility in another state in order to avoid having profits made in that state subject to taxes in New Jersey. Again, the goal is to ensure that corporations report all of their profits to states that have the authority to tax it. It is fundamentally unfair for corporations to be able to avoid paying their fair share because of non-uniform rules among the states. The throwout rule prevents such unfairness.

New Jersey's throwout rule is actually less stringent than what most states employ. Most states use what is called a "throwback" rule, the net effect of which is that they tax more of what would otherwise be nowhere income than does New Jersey. The regular place of business rule is somewhat more stringent, in that most states allow corporations to allocate income among the states if they are subject to tax in at least one other state regardless of whether they have a permanent office there. New Jersey could consider switching to such a rule, but allowing all corporations with sales in other states to allocate their income away from New Jersey would create massive amounts of nowhere income.

By making the changes called for in this bill, New Jersey deprives itself of about $150 million a year in revenue. That estimate comes from the state Department of the Treasury; about $90 million a year from eliminating the throwout rule and $60 million from ending the regular place of business requirement.

What does the State of New Jersey get in return for giving up this revenue and adding to an already serious structural deficit?

Good question. Supporters of this measure say it will help to combat the perception that New Jersey's business climate is inhospitable. They say it will result in more jobs; that companies in New Jersey will be less likely to leave and that companies not in New Jersey will be more likely to come. If you agree with that assessment you do so on faith alone. There is no significant research to show that such changes in business tax rules have a major impact on decisions made by companies as to where to locate. If you look at state by state statistics of job gain and job loss and try to correlate the numbers with whether states do or don't have the tax policies we're discussing today, you will do so in vain. There is no correlation.

I realize the pressure to act is strong. No one liked picking up a newspaper to read last month that New Jersey is ranked 50th in the nation in state business tax climate. But let's take a closer look at that rating from the Tax Foundation. Early in its 66-page report, the group gives a good explanation why its rankings should be ignored. It says, "Clearly, there are many other non-tax factors that affect a state's overall business climate: its proximity to raw materials or transportation centers, the quality of its education system and the skill of its workforce…"

Now, those are categories where New Jersey does well. But the Tax Foundation chooses not to include them in its ranking system because it says it only ranks things under the control of elected officials to change rapidly or at all. The logic is twisted: let's only measure tax-related areas that legislators can quickly act upon while we ignore other very important areas that just happen to cost money - money that states will have less of if they enact the tax changes that will help their business climate rankings. Moving up in those rankings will cost New Jersey more than it can afford.

Do we really want to play this game? The tried-and-true way to build an economy is by investing. New Jersey's precarious state finances make such investment difficult. The current economic crisis will make it even more so, as revenue from the state sales and personal income taxes is likely to falter. It is not advisable to make bad even worse by choosing to give up even more revenue, trading off the hard reality of that loss in return for nothing even resembling an assurance that any substantive benefit will result.

TAX REFORM

WORK & WAGES

BUDGET & FISCAL POLICY

TRANSIT ISSUES

ECONOMIC DEVELOPMENT

VOTING & GOVT REFORM

© 2009 New Jersey Policy Perspective