Commonwealth would not run afoul of federal law by reducing business tax rate, says NTUF

Pennsylvania could reduce its costly business tax rate without breaking federal law, according to the National Taxpayers Union Foundation (NTUF).

The American Rescue Plan Act (ARPA) of 2021, the $1.9 trillion COVID-related spending package passed by Congress in March 2021, includes a provision that NTUF says ostensibly bars states from using the state aid included in the bill to “directly or indirectly” offset revenue reductions from tax cuts.

“While litigation is ongoing over whether the provision is even constitutional… would it stand in the way of a proposed tax cut in Pennsylvania, reducing their highest-in-the-country business tax rate?” wrote NTUF Executive Vice President Joe Bishop-Henchman in a June 9 blog. “It would not.”

According to NTUF, few in Congress appeared to understand at the time that the “relatively obscure provision” included in the ARPA would spur numerous lawsuits in which states allege that the law infringes on their right to set their own tax policies. 

Several federal judges, according to NTUF, have already ruled that the provision is unconstitutional.

Nevertheless, the U.S. Treasury Department in January issued a final rule on permitted uses of federal ARPA funds and in its own words said the department “is finalizing its implementation of the offset provision largely without change.” 

So moving forward, despite the ambiguity, Bishop-Henchman says the ARPA provision involves comparing current revenue with fiscal year (FY) 2019 revenue adjusted for inflation. 

“If current revenue is below that amount, then a state would need to provide an explanation of any permissible sources that “paid for” the tax cut aside from federal funds, such as higher state revenues, tax increases, or spending cuts,” he wrote. “A 1 percent difference is ignored as de minimis. If Treasury does not agree with the explanation, a state can request reconsideration.”

“Only if the state’s case at that point is unsatisfactory will Treasury proceed with seeking recoupment of the federal funds,” Bishop-Henchman wrote in the NTUF blog.

Pennsylvania’s flush revenue situation will not trigger much of this process, if any at all, he added.

That’s because the state’s FY 2019 revenue was $34.9 billion, which is below the federal baseline figure of $39.1 billion. Pennsylvania’s current revenue remains above that number, with fiscal year-to-date General Fund collections totaling $43.9 billion, which is $4.9 billion, or 12.5 percent, above estimate, according to Gov. Tom Wolf.

“We have the money in the bank to pay for the historic investment I want to make in K-12 education, as well as the Corporate Net Income Tax cut and reforms I have proposed to bolster Pennsylvania businesses, and still have $1.8 billion left over,” the governor said earlier this month.

And according to NTUF’s Bishop-Henchman, a proposed tax cut of several hundred million dollars “would not run Pennsylvania afoul of the ARPA provision; Pennsylvania’s revenue surplus is large enough that it could repeal the entire corporate income tax outright without triggering the federal provision.”

In essence, then, there’s a good chance for passage of state House Bill 1960, which would lower the state’s corporate net income tax from 9.99 percent – the second-highest in the nation – to 8.99 percent starting in January 2023. 

Introduced last year by Pennsylvania Rep. Joshua Kail (R-15), HB 1960 would also implement further reductions if there is a budget surplus in excess of $500 million for the 2022-23 and 2023-24 fiscal years. In addition, the legislation would increase allowable net operating losses to 45 percent of taxable income and may increase to 50 percent if there is a budget surplus of more than $750 million in 2022-23 and 2023-24, according to Kail.

“As we continue to stand up for taxpayers and fight for jobs, we must develop and implement policies to make the Commonwealth a favorable place for employers to locate, invest and grow,” Kail said after HB 1960 was approved by the state House of Representatives in April. “It’s about jobs, families, growth and building a better Pennsylvania for our kids and grandkids.” 

The bill is currently under consideration by the Senate Finance Committee.

Meanwhile, other states have come to the same conclusion that ARPA does not prohibit them from cutting taxes, with reductions being enacted in over a dozen states since 2020 and being actively considered in over half the states, according to Bishop-Henchman. 

“Even if the ARPA provision is ultimately held to be constitutional, Pennsylvania could cut taxes by billions of dollars without triggering it,” he wrote.