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Business taxes: Who pays?

By Aaron L. Morris

Taxing businesses is popular politics these days.

Even those few lawmakers who see the value of keeping taxes low and predictable find it hard to resist the allure of seemingly “free” money that could be used for lots of local projects. After all, can’t businesses simply pass on extra taxes to their unsuspecting customers?

Businesses – especially large ones – also fall victim to social crusaders who argue that executive compensation packages should be slashed. Those savings, so the argument goes, could easily be turned over to Frankfort to fund more worthy activities.

However, too many proponents of such economically feeble stances forget that most of the paychecks taken home by Kentuckians are signed by the very businesses they wish to raid.

In addition, yoking a heavier tax burden on businesses rarely shrinks executive pay. Instead, companies forced to pay higher taxes tend to shun capital improvements and delay hiring new employees.

These are subtle losses because you can’t point to an uncreated job or an undistributed salary. The productive power of that money will never materialize in the private sector.

Kentucky’s Alternative Minimum Calculation (AMC), which taxes businesses without regard to their profitability, is an especially harmful example of a tax that’s popular to impose but so thorny to collect.

If a business does not make a profit, it pays a tax computed by the AMC anyway. Where does the money to pay this tax come from?

If Kentucky employers know that a future tax will likely be paid out of their savings, why would they consider expanding their operations or increasing their payrolls? Why take the risk?

Worse yet, should any established company locate operations in Kentucky if they know that this particularly onerous tax awaits them?

New employers do not come to Kentucky primarily to hire workers. They first estimate whether they can earn a profit and then hire people to help them pursue it.

The Department of Labor reports that in 2005, Kentucky firms laid off some 55,000 workers, an increase of 46 percent compared to the previous year. At a minimum, the job opportunities of these unemployed workers are further diminished by the AMC.

Michigan, which has wrestled for nearly 30 years with a tax similar to Kentucky’s AMC, continues to experience the disastrous impact from such an illogical policy.

According to the Bureau of Labor Statistics, Michigan was one of only two states – along with Louisiana – to experience a net loss of jobs between February 2005 and February 2006. And Michigan can’t blame a hurricane for the jobs that blew across its border!

Michigan’s 7.2 percent unemployment rate is currently the second highest in the nation, trailing only Mississippi. Kentucky with its 6.1 percent jobless rate – fifth highest in the nation – is not far behind.

The harmful effects of taxes like the AMC can impact consumers, too. As long as Frankfort gets a new gravy train, the taxman really doesn’t care who is taxed. Consumers who decide to buy a product at a higher price unintentionally defray a company’s heavier tax burden.

You’ve probably heard the commercial hailing an insurance company, which claims: “We cut out the middleman … and pass the savings on to you.” The AMC forces businesses to exclaim the exact opposite: “We have to pay the taxman, so we’ll pass the costs on to you!”

Employees can also be affected in the form of lower salaries. For example, Social Security takes 6.2 percent from your paycheck and the same amount from your employer. Like the AMC, this tax requires employers to adjust by paying employees less than they would if they were not forced to pay it. In the end, employees get billed for the entire tax.

Even the unemployed pay the AMC tax. Too many of the more than 100,000 Kentuckians looking for work will never grace the doors of businesses that don’t expand and hire more workers.

Lawmakers will soon return to Frankfort in a special session to consider the future of business taxation. For the sake of Kentucky’s future prosperity, amending the AMC with small, politically safe, changes will harm working people most of all.

They should admit that the AMC is a mistake and eliminate it entirely.

- Aaron Morris is the fiscal policy analyst for the Bluegrass Institute for Public Policy Solutions, Kentucky’s free-market think tank.

The Bluegrass Institute is an independent research and educational institution offering free-market solutions to Kentucky's most pressing problems.

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