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Tax system overhaul worth consideration

As I See It

Mississippi’s state tax collections have been lower than expected for several years now, with no relief in sight. Inevitably the subject of raising taxes is going to come up. It is probably of little consolation that other states are experiencing the same fiscal pain.

The big-picture answer is simple — “It’s the economy, stupid.” Certainly the national recession has caused problems for government as it has for business. Here in the South, perhaps other factors are exacerbating the problem.

Alabama is considering whether they have been too generous with out-of-state companies, granting tax and other financial incentives in exchange for the promise of jobs. Additionally, Alabama is beefing-up their audit staff to look into multi-state corporations taking advantage of loopholes in state tax law.

Is it those evil accountants again?

Alabama has decided that part of their problem is tax accountants making a living exploiting ambiguous state tax regulations and they have decided to do something about it. Alabama has become the first state to impose penalties on accounting firms that prepare corporate tax returns for contingency fees based on how much money they save their clients. The state sent letters in August asking accounting firms to disclose returns prepared on a contingency basis, and those that didn’t respond were subpoenaed.

Some of the suspected areas of abuse include shifting money from state to state through tax-free royalty payments between subsidiaries and parent companies and out-of-state partners not reporting their Alabama income. “We’ve got to shoot that one in the head,” said finance director Henry Mabry in a recent Wall Street Journal story.

Tax accountants have long known that loopholes in state tax rules for multi-state corporations were a fertile field for abuse. Each state has its own tax code and regulations, which are in no way coordinated with other states. Thus, accountants can shuffle income between states in ways that often result in the company reporting less than 100% of its income.

In fact, a specialized area of tax practice has sprung up to take advantage of the discrepancies in multi-state taxation. Accounting firms now have “SALT” (state and local tax) departments to assist their clients in maximizing tax saving opportunities that might exist due to multi-state operation.

In most cases these strategies are perfectly legal and companies cannot be faulted for legitimately pursuing tax saving opportunities. Plugging the loopholes is the ticket to ride.

Perhaps Mississippi should take a hint from neighboring Alabama and look at plugging some corporate loopholes before uttering those vile words “higher taxes.” This would be a much more palatable strategy than facing the public with tax increase proposals.

Changes to the Mississippi corporate tax code could require that multi-state corporations disclose more information about how they apportion their income among the states and countries where they do business. That information should provide clues to any revenue shifting schemes that totally lack substance. The tax code could then be changed to eliminate the opportunities for tax manipulation.

A Mexican solution

Without seeming to be irreverent, perhaps the Mexicans have a good solution to the problem. Their IRS assumes that nobody will stay in business if they are not making money. Thus, after an initial three-year grace period, all companies are assumed to be profitable and income taxes are computed on that basis. Generally, a minimum 3% profit margin is assumed and income taxes are figured on that assumption. So even if the taxpayer reports a loss, the Mexicans assess income tax based on a profit equal to 3% of sales. Either operate at a profit or get out of Mexico — they don’t want losers!

I suppose the Mexican approach is a little too radical for Mississippi. However, they are not concerned with loopholes in the tax code since they get their pound of flesh based on gross revenue. Since we are not likely to adopt such an extreme system of taxation, I suggest we overhaul the one we have and maybe generate a few extra dollars for the state treasury.

Thought for the Moment — Power is nothing unless you can turn it into influence.

— Condoleezza Rice

Joe D. Jones, CPA, is publisher of the Mississippi Business Journal. Contact him at cpajones@msbusiness.com.


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