Companies such as DaimlerChrysler, Omaha Steaks and ConAgra Foods Inc. have shared $1.5 billion in tax credits and refunds since 1998 under Nebraska’s Employment and Investment Growth Act. According to the state’s Revenue Department, those tax breaks created 72,000 new jobs. But the party might be over soon.
A lawsuit challenging the tax credits’ constitutionality may get the statute struck from the books. Filed in Lancaster County District Court in May, the suit alleges the tax breaks violate the state and federal equal protection clauses because they grant special rights and privileges to select corporations and individuals.
To qualify for benefits under the statute, a company must invest $3 million in the state and create 30 new jobs, invest $10 million and create 100 jobs or invest $20 million and create no jobs. John DeCamp, an attorney and former state senator, believes the statute unfairly discriminates against small- and medium-sized businesses. So he sued.
“This isn’t capitalism,” DeCamp says. “This is a form of welfare for the super-big.”
DeCamp’s legal attack on Nebraska’s tax credits gained a good deal of strength recently, thanks to a ruling issued by the 6th Circuit, which struck down a similar tax law in Ohio. A three-judge panel held on Sept. 2, 2004, that Ohio’s investment tax credits violate the Commerce Clause of the U.S. Constitution, because Ohio’s law encouraged in-state investment at the expense of development in other states, and the result was to hinder free trade among the states.
As of late October, DeCamp’s complaint doesn’t mention the Commerce Clause. But DeCamp intends to fix that. “This week or next week,” he says, “I will file an amended complaint with this allegation, because this seems like a big vulnerability.”
Gimme A Break
State governments and businesses throughout the country are watching these two legal battles closely. Practically every state in the nation has enacted tax credits similar to those in Nebraska and Ohio. By 1998, every state but Alaska, Vermont and Wyoming had passed laws giving tax credits to companies that invest in or create jobs in the state.
Kenneth Thomas, an associate professor of political science at the University of Missouri?? 1/2 St. Louis and the author of the book “Competing for Capital,” estimates that states hand out a total of $5 billion per year in investment tax credits.
If the courts hold these tax credits unconstitutional, the consequences will be dire, according to many businesses and state governments. In the short term, states whose tax credits are struck down would be at a disadvantage to those states with business tax credits in attracting companies to the state. Ohio’s attorney general, Jim Petro, warns that the 6th Circuit’s ruling “places us at a substantial disadvantage in the hard-fought competition to secure business capital.”
In the longer term, critics believe the loss of the tax credits will hurt economic development. They say these credits have done an excellent job of encouraging business development and creating jobs.
And the credits aren’t just beneficial for business, critics say. These credits provide states with more jobs and thus a larger tax base. “It’s a trickle down situation,” says Robin Conrad, senior vice president of the National Chamber of Commerce’s litigation center.
Buying On Credit
The beneficial impact of these credits, however, is far from proven. Some studies find the tax credits have a significant beneficial impact, while others think they do more harm than good.
Why wouldn’t billions of dollars in tax credits produce powerful effects on business behavior? Because state and local taxes comprise on average just 4 percent of total business costs. “If you’re trying to affect business behavior by reducing business taxes at the state and local level, you’re trying to wag a big, big dog by a very, very short tail,” says Robert Tannenwald, assistant vice president and economist in the research department of the Federal Reserve Bank of Boston.
Another reason the credits may have little impact: Almost every state offers them. And there are no significant differences among the credits offered by the different states, some experts say. As a result, the credits usually provide no real incentive for businesses to choose one state over another.
Those opposed to state tax credits also claim the credits shift the tax burden from big businesses to individuals and small companies. “The states are giving away their ability to raise money from … businesses, and they are getting nothing in return,” says Peter Enrich, a professor at Northeastern University School of Law in Boston and counsel for the plaintiffs who are attacking the legality of Ohio’s tax law. “They are shifting taxes from businesses to everyone else.”
Enrich won his case before a three-judge panel of the 6th Circuit, but that lawsuit is far from over. The defendants in the Ohio lawsuit have petitioned the 6th Circuit for an en banc review of the ruling against them. A variety of state governments and business organizations filed amicus briefs in support of that request.
Meanwhile, the defendants in the Nebraska lawsuit have asked the court to dismiss the suit on a variety of grounds, including lack of standing. DeCamp is fighting this motion, and he looks forward to getting a ruling on the legality of the state’s investment tax credits. “Hopefully, this will stop the plunder of state tax coffers,” DeCamp says.
The outcome of both suits is up in the air. No one previously has challenged the constitutionality of state tax credits, and whatever the courts decide will set a major legal precedent, the ramifications of which will be felt around the country.