Thomas M. Zaino, JD, CPA – Managing Member
Senate’s Budget Bill Contains Dramatic Tax Proposals
The Ohio Senate (the “Senate”) passed its version of the biennial budget bill, Am. Sub. H.B. No. 49 (the “Senate Bill”), on June 21, 2017. While the Ohio House of Representatives faced an $800 million budget shortfall, the Senate had to address an additional $200 million shortfall for the coming biennium. To address the projected revenue shortfall, the Senate Bill imposes additional spending cuts, including elimination of some earmarks and out of date or unused state programs.
You may recall that Governor Kasich’s original budget proposal called for $3.2 billion of personal income tax reductions, offset by $3.1 billion of sales and use and other tax increases. The Governor also made a bold proposal to centralize the filing and administration of Ohio municipal income tax on net profits and eliminate the municipal tax throwback rule. [See our SALT Buzz outlining the Governor’s tax-related budget proposals] The House version of the Budget Bill (the “House Bill”) rejected the Governor’s proposal to tradeoff personal income tax cuts with increases to other taxes. While the House Bill did not adopt Governor’s plan to centralize the filing and administration of the municipal net profits tax, it did eliminate the municipal tax throwback rule. [See our SALT Buzz outlining the House Bill’s tax-related provisions.]
Senate Tax Provisions
The Senate Bill likewise rejects Governor Kasich’s proposal to lower personal income taxes in exchange for increases in other taxes. Showing great leadership, the Senate Bill also adopts a modified version of the Governor’s plan to centralize the filing and administration of the municipal net profits tax, as well as retained the House Bill’s language that eliminates the municipal tax throwback rule. However, one addition by the Senate raises serious concerns for taxpayers. The Senate Bill adds language eliminating the ability to directly appeal of Board of Tax Appeals decisions to the Ohio Supreme Court, a right that has been available to taxpayers and taxing authorities since 1939.
The most important tax provisions in the Senate Bill are summarized below, but we urge taxpayers to review the actual language of the Senate Bill in order to more fully understand the impact these changes may have on their tax situations if enacted into law. If a business is negatively impacted by the Senate Bill, now is the time to try to address these problems as the bill moves on to Conference Committee today and will be finalized in a few days.
Personal Income Taxes: The Senate Bill generally retains the House Bill’s personal income tax provisions and adds a couple of other proposals.
Bracket Elimination is Retained: The Senate Bill reduces the number of income tax rate brackets by eliminating the bottom two individual income tax brackets ($0 - $5,000 and $5,000 - $10,000). Individuals earning less than $10,000 would not owe any Ohio tax because the lowest tax bracket will now apply to income over $10,000 and up to $15,000. The tax for that lowest bracket will equal $74.25 plus 1.980% of the amount of income above $10,000 and less than $15,000. The low-income tax credit is eliminated because no tax would otherwise be due.
The Senate Bill also tweaks a provision requiring the Ohio Department of Taxation (“ODT”) to separately report the amount of tax generated by business income and non-business (i.e., all other) income. This reporting requirement would become effective for taxable years beginning on or after January 1, 2017.
ZHF Observation: This requirement is likely designed to provide more transparency to policymakers on the impact of the Business Income Deduction and the lower tax rate on business income, which has been blamed by some as a cause for the current revenue shortfalls.
College Savings Plan Deduction Doubled: The Senate Bill doubles the amount of tax deduction taxpayers may claim for contributions to a qualified college savings plan (i.e., a section 529 plan), from $2,000 to $4,000 for each beneficiary.
Joint Committee on Ohio College Affordability Proposed: A Joint Committee on Ohio College Affordability to study and develop strategies to reduce the cost of attending colleges and universities in Ohio is created under the Senate Bill.
Business Income Deduction Made Available for Owners Paid by PEO: A new provision authorizes individuals that (i) own 20% or more of a pass-through entity, and (ii) receive compensation or guaranteed payments from that pass-through entity, to take advantage of the Business Income Deduction (“BID”) on those amounts, notwithstanding that the compensation may be paid to the individual under a Professional Employer Organization/client employer model. Of course, the $250,000 cap on the BID still applies, and the amount of compensation or guaranteed payments exceeding those thresholds will only taxed using the 3% top tax rate which is imposed on business income.
ZHF Observation: This provision is effective for taxable years beginning on or after January 1, 2017. However, taxpayers should consider the benefit of raising this issue for prior years if audited.
Municipal Income Tax Reform Proposal: Governor Kasich proposed a comprehensive plan to centralize the collection and administration of the municipal net profits tax and eliminate the throwback rule. The House Bill did not adopt the Governor’s centralization plan, but it did include elimination of the municipal throwback rule. The Senate Bill went a step further and adopted a modified version of the Governor’s original centralization plan.
Option to Elect Centralized Filing and Administration of Municipal Net Profit Returns: The Senate Bill largely adopts the Governor’s original approach, but rather than being mandatory, the bill allows businesses to opt-in and out of the centralized filing and administration of the municipal net profits tax by ODT. In this way, businesses may continue to file locally and be subject to local audit and administration, or choose to file centrally through the Ohio Business Gateway and have ODT for review and audit the net profit tax returns. Once a taxpayer opts into the centralized filing and administration, the election will automatically renew each year unless the taxpayer opts out of the program. The Senate Bill also moves the provisions out of Chapter 57 (the state tax chapter) and places them into Chapter 718 (the municipal tax chapter) in an effort to ameliorate municipal concerns that the state would abscond with their tax dollars. The cost of administering the tax would be bourne by the municipalities, which will be charged a fee equaling 1% of the collected municipal tax. Tax collected by ODT will be remitted once per month to the municipalities.
Throwback Rule Eliminated: The Senate Bill improves on the House Bill’s elimination of the municipal throwback rule by accelerating its elimination to taxable years beginning in 2018.
Estimated Tax Payment Modification Added: The Senate Bill adds a provision to the municipal tax code which would allow individual taxpayers to pay fourth quarter estimated payments until the 15th day of the first month of the ensuing taxable year (January 15th for calendar year taxpayers). The provision would be effective for taxable years beginning in 2018. However, business taxpayers must continue to use the current fourth-quarter estimated tax payment deadline of December 15th for calendar year taxpayers.
MeF Feasibility Study Retained: The Senate Bill retains the House Bill’s language that tasks ODT to study the feasibility of allowing municipal taxpayers to file city tax returns through the joint federal and state Modernized e-File program (“MeF”).
Municipal Tax Late Payment Penalty Change Stays: The Senate Bill retains a House Bill provision related to the penalty for late payment of withholding taxes, changing the penalty from “50%” of the unpaid amount to “not to exceed 50%” of the unpaid amount.
ZHF Observation: This change helps affirm a municipal tax administrator’s discretionary authority to charge less than the full 50% penalty.
Sales and Use Taxes: Similar to the income tax provisions, the Senate Bill generally retains the House Bill’s approach, with the following exceptions.
Sales Tax Holiday Added: The Senate Bill provides a three-day sales tax "holiday" in August 2018 during which sales of clothing, school supplies, and instructional materials within certain price ranges will be exempt from sales and use taxes. The holiday is similar to an upcoming sales tax holiday in August 2017. The 2018 holiday is expected to decreases state sales and use tax revenues by $15.2 million.
Remote Seller Collection Requirement Rejected: The Senate Bill excludes the House Bill’s requirement that an out-of-state seller must collect and remit sales tax if, during the previous or current calendar year, the seller has 200 or more Ohio transactions or $100,000 in Ohio sales.
Jukebox Music Exemption Modified: The Senate Bill modifies the House Bill’s exemption for purchases of digital multimedia, such as songs, sold through a digital jukebox from the sales and use tax, by specifically limiting the exemption to digital music purchased from and played by a single-play commercial music machine (i.e., jukebox).
ZHF Observation: A similar provision enacted during the last days of the previous General Assembly was vetoed by the Governor.
Unified Sales and Use Tax Return Requirement Deleted: The Senate Bill eliminates the House Bill’s requirement that ODT provide a combined sales and use tax form for taxpayers.
Prescription Eyewear Exemption Retained: The Senate Bill retains the proposed exemption from sales and use tax for prescription eyewear.
Narrowing of Exclusion of Personal & Professional Services from Tax is Retained: Under current law, personal and professional services are not categorized as taxable automatic data processing, computer services and electronic information services (collectively referred to by ZHF as “Electronic Services”) if the true object of the transaction is to acquire personal or professional services. The Senate Bill retains the House Bill’s language which significantly alters this provision. While personal and professional services continue to be excluded from the definition of these services, the true object test is modified by the language. For instance, proposed language removes “incidental or supplemental” from the true object test and effectively replaces it with a test asking whether the Electronic Services are being primarily provided to deliver, receive, or use another non-taxable service. If so, then the Electronic Services would not be taxable. The changes also add electronic publishing to the list of Electronic Services and would be deemed to apply to all cases pending or transactions occurring after December 31, 2007 (that’s not a typo—2007).
ZHF Observation: Depending on how one interprets “incidental or supplemental,” it could be argued that the new language just restates the same concept. However, it is more likely to be argued that the new language narrows when Electronic Services are not the true object of a transaction (i.e., only when it is primarily used to deliver, receive, or use another service) and therefore not taxable. This latter interpretation will increase the taxability of more services than under current law.
Direct Mail Changes Retained: The Senate Bill retains various definitional changes proposed by Governor Kasich related to direct mail and which adds that exemption certificates related to direct mail will only be valid if received by the vendor in the absence of bad faith.
ZHF Observation: “Absence of bad faith” is a very tough standard and is not a requirement for other exemption certificates if received within 90 days of the date of the sale. It is unclear why a different standard is warranted for direct mail. For other exemption certificates, those received after the 90 day limit do have a good faith standard applied to them.
Vendors’ License Changes Retained: The Senate Bill retains a number of provisions proposed in Governor Kasich’s original budget related to vendors licenses, including the following:
Requiring ODT to provide an online system for the county auditors to provide vendor licenses.
Allowing ODT to cancel vendor and similar licenses where fraudulent or incorrect returns are filed.
Requiring ODT to make public an electronic list of names and account numbers for vendor’s license, direct pay permit and sellers use tax account holders.
Changes to Remittance Procedures for Motor Vehicle Dealers Added: The Senate Bill contains changes to how motor vehicle dealers will remit sales and use tax collected on their sales of vehicles, including a requirement that collected sales and use tax be remitted to the state rather than to the Clerk of Court. The new procedures will be effective January 1, 2018.
Real Property Taxes: The Senate Bill proposes several changes to the House Bill related to the real property tax system.
Proposal for Attorney’s Fees to be Paid if Government Loses Appeal Eliminated: The House Bill provided that if a County Auditor, Tax Commissioner, or any board, legislative authority, or public official appeals a decision of a County Board of Revision to the Ohio Board of Tax Appeals or beyond, such official will be required to pay the property owners’ reasonable attorney’s fees and court costs related to the appeal if the official did not prevail. The Senate Bill does not include this language.
Proposed Real Property Tax Exemption Rejected: The Senate Bill eliminates a House Bill proposal to provide a real property tax exemption for property that meets all four of the following conditions: (1) less than 75% of the rentable square footage is rented to tenants, (2) it is owned by a municipality, after being conveyed by a Community Improvement Corporation (“CIC”), (3) it was conveyed to that CIC by a federal agency, and (4) the property is subject to an agreement that requires the municipal corporation to convey the property back to the CIC before the property may be developed.
More CAUV Changes Proposed: The Senate Bill retains the House Bill’s proposal to add two new factors to be considered in calculating the current agricultural use value (CAUV), “typical cropping and land use patterns” and “typical production costs,” while deleting one existing factor—“market value.” However, the Senate Bill eliminates a House Bill provision that also provided the holding period for the purposes of calculating the components of capitalization is 25 years (rather than just 5 years). The Senate Bill also provides for a 3 year phase in, instead of the 6 year phase in provided in the House Bill. Finally, the Senate Bill adds a provision that prohibits the Tax Commissioner from using a method that takes into account equity build-up or appreciation when determining the capitalization rate used in the CAUV formula.
Valuation Method for Oil and Gas Reserves Retained: The Senate Bill retains the House Bill’s clarification of the correct methodology for determining the true value of oil and gas reserves for real estate tax purposes. The true value of crude oil and natural gas reserves for real estate tax purposes will be determined using a net income capitalization valuation approach.
Board of Revision Decision Time Extension is Rejected: The Senate Bill eliminates a House Bill proposal to increase the amount of time Boards of Revision have to decide property tax complaints.
Charitable Nonprofit Housing Organization Exemption Added: The Senate Bill includes a real property tax exemption for a retail store operated by a charitable nonprofit housing organization that sells primarily donated household items from real property taxation beginning with tax year 2017. The proposal applies the exemption to any exemption applications pending or on appeal when the provision takes effect.
ZHF Observation: This provision is generally understood to be adopted for the benefit of Habitat for Humanity Restore retail operations.
Tax Administration: The Senate Bill proposes major changes in the area of tax administration, including the elimination of a taxpayer’s right to directly appeal a Board of Tax Appeals decision to the Ohio Supreme Court.
Elimination of the Right for a Direct Appeal to the Supreme Court: The Senate Bill eliminates the longstanding right to make a direct appeal to the Ohio Supreme Court from decisions of the Board of Tax Appeals (“BTA”). Under current law, taxpayers and taxing authorities may appeal a decision of the BTA to either the Ohio Supreme Court or the local Court of Appeals in which the taxpayer resides. The right to appeal a BTA decision directly to the Ohio Supreme Court has been a part of Ohio’s tax policy since 1939 [see G.C. 5611-2, effective May 15, 1939, at 118 Ohio Laws, p. 353]. The change would force taxpayers and taxing authorities to make appeals to one of the twelve local courts of appeals.
ZHF Observation: This proposal will negatively impact Ohio and its taxpayers in many ways, by increasing the cost of tax appeals and eliminating uniform application of tax laws. For example, different courts of appeals may decide important tax issues in different ways. As a result, a taxpayer with plants in two different Ohio jurisdictions could have those plants taxed differently. Also, ODT would be required to apply different tax rules during an audit, depending on a taxpayer’s location or the same taxpayer’s different locations. Finally, if a taxpayer wins an issue in one Court of Appeals, ODT will not be required to follow that result in the other eleven districts. This will require additional litigation by other taxpayers to obtain a uniform, state-wide decision.
Retroactive Position Limit Rejected: The House Bill adopted a unique and dramatic provision intended to prevent ODT from asserting that a transaction is taxable when it has not issued any formal guidance indicating its taxability. The Senate Bill eliminates that proposal.
The Senate Bill proposes that Ohio adopt its fourth tax amnesty program since the early 2000s. The program would run from January 1, 2018, to February 15, 2018, and apply to delinquent state taxes, tangible personal property taxes, county and transit authority sales taxes, and school district income taxes that were due as of May 1, 2017. The benefits of the program for participants will be elimination of all applicable penalties and payment of only half the interest that would otherwise be due.
The program is budgeted to raise $12.5 million of GRF revenue. Any amounts exceeding the budgeted revenue is to be deposited into the state’s rainy day fund.
ZHF Observation: Taxpayers interested in participating in the proposed tax amnesty program should evaluate whether ODT’s voluntary disclosure program or other available audit alternatives would be a more effective approach for dealing with delinquent liabilities.
Economic Development Incentives: The House Bill added a number of economic development related provisions, which the Senate Bill largely adopts and adds additional provisions.
Data Center Exemption Tweak Retained: The Senate Bill retains a change to the time period for making capital expenditures under the data center sales and use tax exemption, increasing it from 5 years to 6 years.
Job Creation Tax Credit Provision Retained: The Senate Bill agrees with the House Bill’s language providing that employees who work from home would now qualify to be included in the job creation totals for purposes of measuring the job creation tax credit.
Motion Picture Credit Provision Eliminated: The motion picture tax credit change included in the House Bill was not included in the Senate Bill.
Rural and High-Growth Industry Funds Credit Added: The Senate Bill imports language from currently pending S.B. 147. The language creates a special nonrefundable tax credit for insurance companies and financial institutions that invest in special purpose "rural and high-growth industry funds" that are certified by the Development Services Agency (“DSA”) and contribute capital to certain types of businesses with substantial operations in Ohio. The credit equals the amount of the investor's "credit-eligible capital contribution," and is spread evenly over a four-year period beginning three years after the date of the contribution. The total amount of credits that may be awarded under the program is limited to $60 million and will only impact periods after the budget biennium. The fund must invest 50% in rural businesses and 50% in businesses engaged in "high-growth industries" or certified by DSA as beneficial to the economic growth of the state.
Regional Transportation Improvement Project (RTIP) Changes Retained: The Senate Bill retains House Bill language that permits counties to participate in a RTIP to create a financing mechanism similar to a Tax Increment Financing District and to make a $250,000 appropriation for RTIPs involving Carroll, Columbiana and Stark counties.
Tourism Development District Increase Retained: The Senate Bill retains the House Bill’s proposal to increase the permissible amount of land for a tourism development district to 600 acres. These districts will sunset on December 31, 2020.
Permanent Enterprise Zone Extension Retained: The Senate Bill retains language that permanently extends the ability of a county or a municipal corporation to enter into an Enterprise Zone Agreement with a business.
ZHF Observation: Under current law, this authority will expire on October 15, 2017.
Miscellaneous Taxes: The Senate Bill adopts several changes to various other taxes and retains some changes contained in the House Bill.
Kilowatt Hour Tax Changes Tweaked: The Senate Bill retains a proposal that electricity used in the chlor-alkali manufacturing process would be exempt from the Kilowatt Hour Tax. The Senate Bill also broadens the provision by extending the exemption to end users that receive electricity from a municipal or rural cooperative electric company if certain conditions are met.
Some Lodging Tax Changes Retained: One of the special lodging tax provisions that was contained in the House Bill was not included in the Senate Bill. However, other provisions that essentially add authority for certain counties to increase their tax rate or change how the tax revenue is utilized were retained in the Senate Bill.
Requirement for Fuel Excise Tax Sticker Eliminated: The Senate Bill eliminates a House Bill requirement that stickers be placed on retail service station fuel pumps outlining the federal and state excise tax rates.
CAT Rehabilitation Credit Extension Retained: The Senate Bill retains House Bill language that temporarily authorizes owners of an historic rehabilitation tax credit certificate to claim the credit against the commercial activity tax if the owner cannot claim the credit against another tax.
Other Tobacco Products – Tax Limit Added on Premium Cigars: As mentioned above, the Senate Bill rejects proposals contained in Governor Kasich’s original budget to increase the tax on other tobacco products, including cigars. The Senate Bill goes even further by adopting a maximum tax that may be imposed on the newly defined "premium cigar," equal to $0.50 per cigar. The proposed language is expected to decrease revenue because the current rate is 17% of the retail price, which is often more than $0.50. A “premium cigar” is defined as a roll of tobacco with (a) a binder and wrapper consisting entirely of leaf tobacco, (b) no tip or filter or mouthpiece that is not made of tobacco, and (c) a weight of at least six pounds per 1,000 rolls. The provision also requires the Tax Commissioner to annually increase the $0.50 rate at the same rate as an increase in the Consumer Price Index.
ZHF Observation: ZHF is unaware of any other tax rate that is set to automatically increase or decrease with the rate of inflation.
Alcoholic Beverages Excise Tax Provision Rejected: The Senate Bill eliminates a Governor-proposed provision that was retained in the House Bill and would have exempted the first 310,000 gallons of cider produced and sold or distributed in Ohio in a calendar year by an A-2 or A-2f permit holder.
Now, the Senate Bill will be considered by a Conference Committee formed between the House and Senate. The Office of Budget and Management will provide final testimony today as to the economic and budget outlook for Ohio, and the Conference Committee will then get to work. While the Conference Committee is generally thought to be limited to considering items where the House and Senate bills are not in agreement, it is very possible for the Conference Committee to make wholesale changes even to items that are in both, or not in either, the House Bill and Senate Bill.
Once the Conference Committee issues its report (i.e., final bill), it will go to the House and Senate floor for final adoption. After Governor Kasich’s line-item vetoes, if any, the final biennium budget bill will likely be signed by the Governor no later than next Friday, June 30, 2017.
Taxpayers should review the actual language from both the House Bill and Senate Bill to fully understand the budget proposals potential impact and stay tuned for any change the Conference Committee may make, as well.
If you would like to discuss how any of these specific provisions may apply to you or your company, please contact one of our tax professionals. (1)
(1) Sources: Sources for this SALT Buzz include the actual legislative language and amendments, as well as Legislative Service Commission fiscal analysis, comparison documents, and other related documents, available here.