As Massachusetts lawmakers seek to raise revenue to make needed investments in roads, bridges, and public transit, they should abandon plans that rely solely on regressive gas tax and user fee increases in favor of those that also ensure that corporations pay their share to fund these public resources — which, after all, enable corporations to get their products to market and their employees to work.
For starters, lawmakers can re-conform the state corporate tax law to a federal anti-abuse provision of the 2017 tax law. Called “GILTI” (“Global Intangible Low-Taxed Income”), it aims to discourage U.S. corporations from sending profits and investment offshore by ensuring that they pay a minimum tax on certain foreign income.
Large multinational corporations’ shifting of profits they earn in the United States to tax havens like Bermuda is a widespread economic problem, numerous studies show. It also reduces state corporate tax revenues because states base their taxable income calculations on federal law. Though GILTI has flaws that policymakers should fix, even in its current form it helps recapture some of the revenue that’s otherwise lost when multinational corporations engage in these abusive practices.
The tax applies to annual foreign income that exceeds 10 percent of the cost of the firm’s tangible assets (e.g., factories) in foreign countries. The idea is that a company’s tangible assets should yield a “routine” rate of return of 10 percent, so income above that exemption amount likely arises from intangible assets (typically, intellectual property such as patents) associated with U.S. operations — and, thus, should be taxed in the United States. Foreign income subject to GILTI receives a 50 percent deduction off the normal 21 percent corporate rate, so income above the exemption level is effectively taxed at a 10.5 percent U.S. tax rate.
Massachusetts’ tax code automatically included GILTI when the 2017 tax law was enacted, but state policymakers substantially repealed it in late 2018 without meaningful debate. The state should readopt it to ensure that large corporations pay closer to their fair share of income tax and to limit the erosion of the state’s corporate tax base.
Six states already conform to this federal treatment by including 50 percent of GILTI in their tax base, including Massachusetts’ neighbors Maine, New Hampshire, and Vermont. Twelve more states include between 6 and 50 percent of GILTI in their tax base. Massachusetts includes 5 percent.
Even if it fully conforms, Massachusetts will — like all states — tax only a small share of that 50 percent based on the corporation’s activity in the state relative to that nationwide. If it doesn’t fully conform, it won’t take advantage of an important tool that federal policymakers gave states to raise vital revenue by mitigating the ongoing erosion of their tax bases. It will also forgo an opportunity to help level the playing field for smaller domestic corporations that can’t take advantage of the tax avoidance strategies that international operations make possible.
Corporate representatives argue that the GILTI calculation is arbitrary and can penalize corporations that aren’t improperly shifting income abroad. But such corporations already have an alternative in Massachusetts: they can calculate their tax liability using “worldwide combined reporting,” under which states tax a share of the combined profit of the U.S. parent corporation and its foreign subsidiaries. While worldwide combined reporting includes all the foreign subsidiaries’ profits in the tax base — not just their “intangible income” as calculated under GILTI – the subsidiaries’ operations are taken into account when calculating the share of the corporation’s profit that’s taxable in the state. That dilutes the effect of including more of the foreign subsidiaries’ income in taxable income than GILTI does. (I make a more detailed case for state conformity to GILTI and respond to business objections here.)
On a positive note, GILTI conformity in Massachusetts could encourage more corporations to choose worldwide combined reporting. In the long run, mandatory worldwide combined reporting is the most straightforward and legally defensible approach to nullifying abusive international income shifting.
But that’s a debate for another day. Right now, Massachusetts lawmakers should use the tool that federal policymakers gave them by conforming to GILTI, thereby helping raise needed revenue to improve the public transportation infrastructure from which the state’s companies already benefit.