IRS Sect. 199 costly for La.

If Gov. Bobby Jindal is serious about finding a way to help plug gaps in the state budget – $15 million in gaps – he might wish to take a look at Section 199 of the federal Internal Revenue Code.

Section 199, also known as the “domestic production deduction,” was created by the federal government in 2004 and is projected to cost Louisiana $15 million in lost income in 2014, according to a report published by the Center on Budget and Policy Priorities.

The tax break is expected to cost the 25 states, including Louisiana, which still allow the deduction at least $635 million in 2014, the report says.

But not all states allow the deduction because no state is required to honor the domestic production deduction.

As states continue to grapple with ever-increasing budget gaps, more and more are opting out. Since 2008, Connecticut, New York, Wisconsin and the District of Columbia have joined 18 other states in disallowing the deduction and in so doing, reducing their budgetary shortfalls.

Four states have neither personal nor corporate state income tax and, consequently, are unaffected by Section 199.

Much has been written recently about the lucrative corporate tax breaks awarded by the various states in increasingly competitive efforts to attract new industry. But the states were never given a vote on the domestic production deduction. Instead, most states, again including Louisiana, simply base their own tax codes on the federal code.

Accordingly, the tax break was carried over into many states without specific legislative scrutiny – or approval – even though there is no requirement that states honor the deduction.

Section 199 allows companies to claim a tax deduction based on profits from “qualified production activities,” a broadly interpreted category that goes well beyond manufacturing to include such enterprises as food production, filmmaking and utilities, which make up a significant share of states’ corporate income tax base.

What began as a modest maximum deduction of 3 percent of qualifying income rose to 6 percent in 2007 and to the current 9 percent level in 2010.

Federal estimates say that allowing the deduction will cut the revenue yield from corporate taxes by about 2.8 percent in 2014 and also lower individual income taxes slightly, the report says, adding that there is no logical reason that states should continue to accept the revenue loss for the following reasons:

• The deduction is not likely to protect or create jobs within Louisiana or any other state because multi-state corporations can claim the deduction for out-of-state “production activity” the same as for in-state activity.

• The deduction provides little or no help to financially troubled businesses since only profitable firms have taxable income to even qualify for the tax break.

• The deduction heavily favors large corporations with 93 percent of the deduction taken in 2009 under the corporate income tax being claimed by 0.5 percent of firms with more than $100 million each in assets. Many of those large firms were multi-state corporations and may have actually invested little or nothing in the state granting the tax break.

• Maintaining the tax break means states have to cut elsewhere and the jobs lost because of such cuts would likely exceed any jobs created by maintaining the deduction.

Deductible income can be any profits that a business can attribute to a broad range of activities, including:

• Food processing (but not retail food sales);

• Software development;

• Filmmaking;

• Mining and oil extraction;

• Publishing;

• Financial services

• Electricity and natural gas production, and

• Construction.

Virtually every sector of the economy has seen its taxes cut by this tax break, the report says. Overall, business tax returns for 2009 claimed that about 27 percent of all corporate taxable income qualified for the deduction.

While figures were not available for New Jersey, the 24 remaining states that continue to honor the deduction and the projected income loss for 2014 include, in order:

• Illinois: $139 million;

• Virginia: $59 million;

• Florida: $57 million;

• Pennsylvania: $52 million;

• Ohio: $32 million;

• Colorado: $31 million;

• Arizona: $29 million;

• Missouri: $26 million;

• Michigan: $23 million;

• Oklahoma: $22 million;

• Iowa: $21 million;

• Alaska: $19 million;

• Kansas: $16 million;

• Utah: $16 million;

• Louisiana: $15 million;

• Delaware: $14 million;

• Nebraska: $13 million;

• Alabama: $11 million.

• Idaho: $10 million;

• New Mexico: $8 million;

• Montana: $7 million;

• Rhode Island: $7 million;

• Kentucky: $5 million;

• Vermont: $5 million.

“Decoupling from the domestic production deduction…is simple to enact and easy to administer,” the report says. “It can be done by adding a single sentence to state tax law requiring corporations to add back to the deducted amount to their taxable income and a single line to state tax forms.”

It is not known if any lawmaker has prepared such a bill for filing in this year’s legislative session.