August 2002 Special Session of General Assembly
Transforms Landscape for Taxpayers
With the conclusion of the politically tempestuous special session of the General Assembly, Indiana taxpayers – businesses and homeowners – now must determine the impact of House Enrolled Act 1001 (ss) (“H.E.A. 1001”), the primary accomplishment of the session. After months of posturing, political in-fighting and debate about genuine philosophical differences, the Indiana General Assembly enacted H.E.A. 1001 on June 22, 2002, and the Governor signed it into law on July 1, 2002. While the ultimate impact on our state’s economy is presently the subject of much debate, the Bose McKinney & Evans Tax Group has taken the opportunity to identify a few of the more noteworthy provisions of H.E.A. 1001, and how the changes could affect business’ bottom line.
Although every taxpayer will likely be affected by H.E.A. 1001 in some way, the summary that follows focuses on a few of the major tax changes affecting businesses (and their customers), and what those changes mean for companies conducting business in Indiana. In particular, this summary will highlight changes in the three areas where Indiana takes its biggest tax bite out of business: Income Taxes, Sales Taxes, and Property Taxes. In addition, a few new business-friendly provisions are discussed.
Income Taxes. The biggest change in this arena is the elimination of the often-criticized Corporate Gross Income Tax (“Gross Tax”) and Supplemental Net Income Tax. In their place, the Corporate Adjusted Gross Income (“AGI”) Tax has been raised to 8.5%. These changes are effective January 1, 2003. The Gross Tax was criticized as a drag on economic development because it unfairly taxed businesses with low profit margins (where the Gross Tax exceeded AGI) and businesses that did not make a profit. Given Indiana’s large manufacturing base, the Gross Tax placed an unfair tax burden on many of the businesses upon which the state most heavily relies. Moreover, the unfairness and complexity of the Gross Tax hindered Indiana’s ability to attract non-Indiana businesses to the state. All businesses now will have their adjusted gross income taxed at a level of 8.5%. One industry not benefited entirely by the foregoing change is the utilities industry. Effective January 1, 2003, utilities will now have to pay a Utility Receipts Tax of 1.4% on regulated receipts.
Sales Taxes. At five percent (5%), Indiana has long had a lower sales tax rate than most of its neighbors. Illinois, Michigan, Kentucky and (when local sales taxes are factored in) Ohio all have higher sales tax rates than Indiana. That is about to change, at least a little – H.E.A. 1001 raises Indiana sales taxes from 5% to 6%, effective December 1, 2002. The state’s obvious goal in making the effective date December 1st is to collect significant revenue during the 2002 holiday season (but after the November elections). Businesses may want to capitalize on the sales tax increase by promoting significant taxable sales prior to December 1, 2002, much as the automobile dealers have structured special sales prior to the inventory tax assessment dates.
Property Taxes. Indiana’s manufacturers have long despised Indiana’s over-reliance on property taxes. While there may have been a time – in the 19th Century – when it made sense for government to raise most of its revenue through property taxes, many people concerned with economic development agree that it is not the best tax for Indiana in the 21st Century. H.E.A. 1001 incorporates many significant changes to the property tax system, including:
- Elimination of 60% of School General Fund Levies through a state-paid Property Tax Replacement Credit (“PRTC”), effective January 1, 2003.
- Establishing a new 20% Property Tax Replacement Credit on all real property, effective January, 1, 2003.
- Exempting “production in process” inventory for products to be shipped out of state.
- Elimination of Inventory Taxes completely in the 2006 (pay 2007) tax year (and giving counties an option to eliminate the Inventory Tax sooner if they pass a local Economic Development Income Tax).
- Repealing the existing $37,500 business personal property tax credit, effective as of January 1, 2003.
- Reinstatement of “old” business personal property assessment rules for 2003 (pay 2004), including the “30% floor” on depreciation.
While many of these changes will be helpful to individual homeowners, they are, on balance, more helpful to businesses. Collectively, the state estimates that business property taxes under H.E.A. 1001 will go down by approximately 23% statewide. In particular, as the largest payer of property taxes, businesses will benefit by receiving a PRTC equal to 60% of the School General Fund Levy in their locality. Additionally, the new “production in process” inventory exemption should help reduce the inventory taxes of many businesses that ship such inventory out of state. Although total Inventory Tax relief may not come to some counties before 2007, the total elimination of Inventory Taxes has the potential to greatly enhance Indiana’s position among manufacturers and other businesses that carry inventory.
Businesses that file personal property tax returns must be careful to avoid a potential trap. For the 2002 (pay 2003) tax year, the Department of Local Government Finance (formerly, the State Board of Tax Commissioners) implemented “new” personal property assessment regulations, including a new depreciation schedule. Beginning in the 2003 (pay 2004) tax year, the “old” personal property tax regulations will be reinstated. Aside from the immense confusion of going from the “old” to the “new” and then back to the “old” rules, the reinstatement will dramatically increase the tax burden of businesses with old equipment, who will again be forced to limit the amount of depreciation they are entitled to take due to the reinstatement of the “30% floor” on depreciable personal property. The repeal of the 30% floor had been joyfully received; its reinstatement has been met with determined efforts to once again repeal it and, if unsuccessful, to perhaps challenge its constitutionality through legal action.
In addition to the Income, Sales and Property Tax changes noted above, H.E.A. 1001 includes two economic development programs that may be of interest to smaller businesses in need of capital and established businesses that do significant research and development. First, for qualifying investments made between January 1, 2004 and D ecember 31, 2008, a new Venture Capital Investment Tax Credit (capped at the lesser of $500,000 or 20% of the investment) may be claimed by individuals or businesses that invest in a “qualified Indiana business.” Second, the Research and Development Tax Credit has been increased from 5% to 10% of “qualified” research expenses.
These are but a few of the special economic development incentives and tax restructuring provisions built into H.E.A. 1001. As with any summary, the foregoing outline is intended merely to highlight changes in the tax code that may affect your business. If you have any questions regarding the foregoing or other changes enacted by H.E.A. 1001, the members of the Bose McKinney & Evans Tax Group are ready to help.