Combined Reporting is an accounting rule that prevents a corporation from shifting profits from high-tax states to low-tax states via phony subsidiaries. Under Combined Reporting, all of a corporation's subsidiaries are treated as a unitary, combined unit and then a state taxes a percentage of the entire entity's profits. Under Combined Reporting, any transfers of money between subsidiaries are disregarded and the whole corporation's bottom line is what gets taxed.
For years, the New Jersey Policy Perspective trumpeted Combined Reporting as a taxation game changer that would increase corporate tax receipts by 10-20%, or $235 million to $470 million a year. The NJPP's proposal has been adopted by several major progressive groups and politicians in New Jersey, such as the CWA and Senators Ray Lesniak, Linda Greenstein, and Paul Sarlo.
As a matter of tax fairness, Combined Reporting seems like it is a very sound idea, but the revenue estimates that the New Jersey Policy Perspective disseminates (and have been picked up now by Phil Murphy) are highly inflated.
The reason why NJ would not see such a big uptick in revenue from Combined Reporting is that in 2002 we already reformed our tax code to make it harder for corporations to set up phony rental corporations, intellectual property holding companies, transfer pricing, captive real estate investment trusts, captive insurance subsidiaries etc that are legally domiciled in no-tax states. NJ already requires Combined Reporting for some businesses, such as casinos.
Owing to the anti-tax avoidance laws already on NJ's books, when the Office of Legislative Services came out with its own estimate in October 2016, it was for $110-$290 million, a 5-10% increase on NJ's historical Corporate Business Tax receipts.
That OLS report actually didn't base the 5-10% report on other states' experiences after implementing combined reporting. It estimated that based on their pre-reform projections and then used the 5-10% numbers for NJ.
A 2014 report by the Rhode Island Department of Revenue estimated an approximate 20 percent revenue gain, when isolating combined reporting from other tax law changes involving three-factor and single sales factor apportionment systems. Connecticut’s consensus revenue forecast for FY 2016 estimates a revenue gain of approximately 5 percent from implementing mandatory combined reporting as one part of a major corporate tax reform in that state. In 2008, New York State’s Division of the Budget estimated an increase of 8 percent for combined reporting. However, a report commissioned for the National Conference of State Legislatures in 2010 found little impact in the initial years of combined reporting reforms in New York and Vermont. The Massachusetts Department of Revenue originally estimated 26 percent revenue growth in FY2009 from combined reporting, although total corporate revenues grew by closer to 17 percent that first year and Massachusetts did not isolate how much was due to the tax change compared to economic conditions. Massachusetts also reduced the corporate tax rate during that period.
Given that the prior New Jersey corporation business tax reforms of 2002 were also intended to limit the use of some corporate tax shelters, it is reasonable to anticipate that the potential revenue impact of mandatory combined reporting may be closer to the low end of the wide range estimated in other states. Accordingly, the OLS believes a potential corporation tax revenue increase ranging between 5 percent and 10 percent annually is possible, but also highly uncertain.Since NJ's Corporate Business Tax has historically brought in $2.2 billion to $2.9 billion, the OLS made the $290 million ceiling estimate by taking 10% of $2.9 billion, a double best case scenario. The $2.9 billion amount, however, hasn't come in since 2008.
|Source, Page 10.|
Also, the OLS does not consider that businesses might develop counter-tax planning strategies or even avoid New Jersey altogether.
Note, even the state studies that the NJ OLS used were on the high side. Maryland's legislative research office predicted no boost. In 1994 Iowa's legislative research office also predicted "minimal impact." In an extremely thorough report, Indiana's Legislative Services Agency said that Combined Reporting would only increase revenue temporarily:
We used econometric techniques to examine how state tax policies, including combined reporting, influence state corporate income tax revenue. This method controls for variation in the tax base related to the economic cycle and other tax policies, and separates the impact from combined reporting. The econometric results suggest that combined reporting may have an initial positive impact on corporate income tax revenue but that this impact is not lasting. We estimate that the initial positive impact could potentially be economically significant. However, we also estimate that this impact will only be short term and will decline to zero in the long run.Indiana also warned that while Combined Reporting more often increases a tax liability, Combined Reporting can reduce a company's tax liability too "In cases where one or more affiliates has a loss, combined reporting could reduce the entire unitary group’s taxable income."
The NJ Office of Legislative Services also used the historic high of NJ's Corporate Business Tax of $2.9 billion, when the most FY 2017 CBT haul was only $2.4 billion. Using the 5%-10% parameters on $2.3 billion gives a range of $110-$240 million.
To its credit, the New Jersey Policy Perspective trimmed estimate it used in its publicity to $290 million, but has refused to acknowledge the tentativeness of the OLS's estimate or that the OLS was giving a range, not a $290 million target.
Here is Sheila Reynertsen in February 2017:
One of the most responsible ways to create a path to financial sustainability is to ensure that corporations and the wealthy are paying their fair share in New Jersey. Closing tax loopholes is one way to do this. Expanding combined reporting in New Jersey would close corporate loopholes and help prevent multi-state corporations from artificially shifting profits out of state. This tax policy could raise up to $290 million in much-needed revenue each year to shore up underfunded investments like higher education and public transit.
Here is Jon Whiten giving the same "up to" half-truth in October 2017:
Other states – 25, to be exact – have combated [corporate tax evasion] by adopting a practice called “combined reporting.” And New Jersey should join them. Limiting the ability of profitable multistate corporations to use accounting tricks to dodge state taxes would help level the playing field for the state’s small and local businesses – and raise up to an additional $290 million a year to help the state pay its bills and make key investments.For the NJPP to be honest and say Combined Reporting "could $110-$290 million" would actually employ fewer words, but "up to $290 million" makes Combined Reporting sound so much more lucrative than estimates say it would be.
Perhaps I have been too critical of the NJPP because they do use that "up to" qualifier, but Phil Murphy does not and the $290 million upper limit has become the actual expectation.
* Murphy would raise $290 million in his first year in office by closing a tax loophole that allows corporations to shift profit made in New Jersey to lower-taxed states, an idea based on bill introduced by state Sen. Raymond Lesniak (D-Union) that cleared the Senate budget committee last October, but was never put up for a vote.
Due to the Murphy campaign, that $290 million estimate for Combined Reporting has been repeated everywhere, as if it were just money laying on the table. (Example 1, Example 2, Example 3)
Tom Moran, in an otherwise good column on how Phil Murphy would not be able to pay for the agenda he laid out, took it as truthful that Murphy's tax increase package would bring in $1.3 billion.
No, the wiggle room in Murphy's plan is on the spending side. He has three top priorities that represent his red lines: He wants to increase aid to local schools, boost pension payments, and begin repairs of our decrepit transit system. His $1.3 billion in new tax revenue will be devoted to those three initiatives, he says. [my emphasis]
The first journalism I saw explaining that $290 million was the ceiling of a revenue range didn't come out until October 7th, when Samantha Marcus of NJ Advance Media explained
How much money would be generated by [Combined Reporting]? The non-partisan Office of Legislative Services has called the impact of combined reporting "uncertain and variable." It predicted the state could see $110 million to $290 million in new revenue annually.
Murphy's campaign builds its plan on the higher estimate.
The NJPP's near-certainty and Phil Murphy's complete certainty over the revenue increase created by Combined Reporting is reason why we all have to be very skeptical of anything we read about how "closing corporate loopholes" will produce massive amounts of easy money.
The fact that the $290 million estimate became canon in New Jersey media so quickly and easily is another example of how New Jersey is harmed by the lack of a center-right or free-market think tank. Although a center-right think tank would misrepresent issues too, at least they could be a quick corrective for out-of-context papers from the left.
It's worth noting that the NJPP authors of these op-eds for Combined Reporting are not tax experts. Neither has ever worked in a state's budget agency or Treasury. Neither is an economist. Jon Whiten's background is as a journalist. Sheila Reynertsen was a birth coach and hospital anti-merger activist. Andrew Sidamon-Eristoff, who is a bona fide budget expert since he was NJ's Treasurer, says that Combined Reporting won't even bring in anywhere near $200 million. (note, I'm not a tax expert either. I just read stuff online, like Whiten and Reynertsen.)
The New Jersey Policy Perspective does some good research, but they are an ideological group, staffed by people who are not experts in their fields, and union funded to boot. Their pronouncements should not be taken as factual until further verification is performed. The NJPP's silence on/opposition to redistributing Adjustment Aid and indifference to spending the state's existing money more efficiently, should be taken as how they are influenced by the big public sector unions who fund them.
Also, given that $290 million is a ceiling estimate, we have to be very skeptical about Phil Murphy's plan to increase revenues by $1.3 billion, of which Combined Reporting is a part. Between the uncertainty of the Combined Reporting revenue increase and the uncertainty over NJ's ability to tax Carried Interest without Massachusetts, Connecticut, and New York cooperating, Murphy's tax hikes will not bring in $1.3 billion unless there is some simultaneous strengthening of New Jersey's economy.
Combined Reporting is a good idea in terms of tax fairness because it would even the playing field between multistate companies and local companies and because New Jersey needs all the new money it can get, but it will not bring in $290 million per year.
Given that New Jersey's budget crisis will continue under the next governor New Jersey is going to need to redistribute Adjustment Aid more than ever.