In his first days in office, Colorado Gov. Jared Polis has elevated a vague campaign pledge — slashing unspecified corporate tax breaks to cut income taxes as much as $450 million — to a major priority for his new administration. But it’s not clear how he’ll be able to find the money, or the political will, to do it.
“Our tax reform proposal simply asks the largest, most influential corporations to start paying their fair share so that individuals, families and small businesses can pay less,” he told state lawmakers in his budget request Tuesday.
Simplifying the tax code in a state with 208 different deductions, exemptions and credits has been a goal of lawmakers in both parties in recent years. But ideological differences, complexity and the sheer political power wielded by the special interests who receive them have stood in the way of any meaningful attempts at reform.
Polis emphasized the elimination of tax “loopholes” in his recent State of the State address, but the governor’s office did not respond to repeated requests for more details. And while the Democrat has identified at least one tax break he wants to trim — the $102 million vendor fee given to retailers — a slew of questions remain over how he’ll be able to eliminate enough tax breaks to achieve his campaign pledge: a 3 to 5 percent cut to the state’s income tax rate.
A Colorado Sun analysis of the state’s tax breaks found it could be difficult for Polis to reach his goal through trimming corporate tax cuts here and there. Instead, he’ll have to eliminate as many as a quarter of the discretionary tax benefits provided to major state industries like retailers, oil and gas, aerospace and agriculture.
Here’s what you need to know about state tax breaks — where Polis can find money and where he probably can’t.
1. Lawmakers have been trying for years to get a handle on how much the state gives out in tax breaks — and to whom.
The topline numbers are eye-popping. Colorado gave out more than $6.6 billion in tax breaks, also known as “tax expenditures,” to individuals and corporations the last year data was available. (That’s 2016 for income taxes and 2017 for sales and use taxes.)
But the deeper you dig into the data, published in the biennial Tax Profile and Expenditure Report, the murkier the issue becomes. About $2.9 billion worth is what accountants call a “structural” tax expenditure — a technical term for a tax break that isn’t really a tax break, in the traditional sense. Instead, a structural tax expenditure prevents something unfair, such as getting taxed twice for the same thing because of a quirk in state or federal law.
The largest of these is the $2.1 billion wholesale exemption, which protects businesses from having to collect sales taxes again and again on a product as it moves along the supply chain before it reaches the end consumer.
Other prominent examples include:
- The $348 million net operating loss deduction. This allows businesses to recover or reduce taxes paid on profits, when a loss in a different tax year wipes out some of those profits.
- A $241 million sales tax exemption for gasoline. Consumers are charged a 22-cent gas tax instead, which is 8.8 percent on a gallon of gas that costs $2.50 — or about 3 times the 2.9 percent regular state sales tax rate.
- A $194 million individual credit for income taxes paid to another state, so you aren’t paying state taxes twice on the same income.
- A $25 million state income tax refund deduction. This just means you don’t pay taxes on your tax refund.
Once you rule out those, and overwhelmingly popular tax breaks, such as the $451 million deduction on retirement income, there aren’t many places left to find money.
Further complicating matters, state revenue officials aren’t even sure how much a lot of tax breaks are worth. Over $1 billion worth are unitemized. Some are partially or completely unaccounted for because reporting requirements vary. Dozens aren’t used at all.
At the legislature’s direction, the Office of the State Auditor has begun evaluating all 208 state tax breaks over the next five years. So far, it’s reviewed 15.
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2. Incomplete data makes it impossible to determine which industries benefit the most. But a handful are clearly favored by the state tax code.
A number of industries, including retail, agriculture, aerospace and oil and gas, receive special tax benefits unavailable to other types of companies. Advanced industries, such as biotech, receive research and development tax breaks and deductions.
Consumers, meanwhile, get tax breaks on some essentials, such as groceries and medicine, but not others, such as rent or school supplies.
And while some have a clear-cut purpose — incentivizing clean energy to help the environment, for instance, or things that serve the public good, like newspapers or charities — others are head scratchers. Buy computer software on a CD, for instance, and you have to pay sales tax. But downloadable software is tax-free. Downloadable movies and music albums, on the other hand, are considered tangible property — “something that exists in the physical world,” according to state regulators, so they get taxed.
One place Democrats will be tempted to look: fossil fuels. Incentivizing oil and gas production through a $272 million property tax credit, or coal production through $5.4 million worth of credits appears at odds with the administration’s goals of combating climate change and achieving 100 percent renewable energy by 2040.
But politically it is difficult to touch. Targeting tax breaks for oil and gas in a year when Democrats also are looking to steer the Colorado Oil and Gas Conservation Commission toward stricter regulation could be seen as a controversial move against one of the state’s signature industries.
The $272 million tax credit, for instance, has been a fixture of the Colorado tax code since severance taxes were first created in 1977. It varies wildly from year to year, but a Colorado Legislative Council analysis found that it effectively cut the oil and gas industry’s severance tax bill by 57 percent between 2008 and 2016.
The Colorado Oil and Gas Association has argued in the past that despite the size of these exemptions, oil is still taxed at a higher rate than other industries. The state property tax credit, for instance, helps offset the severance taxes the industry pays at the local level.
3. It will be a challenge for Polis to reach his target through corporate tax breaks alone.
Assuming “structural tax expenditures” for items like double taxation are off-limits, there isn’t as much much money left on the business tax side to reach the governor’s goal as one might expect.
Out of the $3.7 billion in non-structural tax breaks, $700 million goes to individuals, and over $600 million of that is from four tax breaks: the pension or annuity deduction (which includes Social Security income), the earned income tax credit, the tuition deduction and the child care contribution credit.
That leaves about $3 billion. And of that, sales tax breaks for the public sector or charities total $300 million, while another $700 million are sales tax exemptions for consumer essentials, such as groceries, prescription drugs and the fuel used for residential heat and electricity.
That leaves Polis with $2 billion in tax breaks to find $450 million in cuts to meet his goal.
So it’s still possible — but not by capping existing tax cuts or eliminating small ones here or there. The state would have to eliminate nearly 23 percent of what remains — and the bulk of that goes to oil and gas, agriculture and retailers, who may pass on costs to consumers if their tax breaks go away.
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4. Polis plans to start by capping the vendor fee. But it’s not clear by how much.
The vendor fee allows retailers to keep 3.33 percent of all sales taxes they collect to help recoup their administrative costs. It totaled $102 million in 2017.
Polis’ argument for capping the tax is that large retailers, such as Amazon and Walmart, are profiting just fine without the added allowance. And thanks to economies of sale, the largest corporations spend a lot less on compliance costs than do small businesses.
A study by tax services firm PricewaterhouseCoopers found that nationwide the average retailer spent 3.09 percent of total sales taxes collected on compliance costs in 2003. But there were huge disparities between large and small businesses. Large ones spent just 2.17 percent, while small retailers spent 13.47 percent.
The Bell Policy Center, a liberal policy group, has cheered the idea of a cap, but not to reduce income taxes — as a way to raise needed revenue for state services.
But to conservatives, a reduction of the vendor tax is tantamount to an added burden on businesses, who may spend more on compliance costs here than in the typical state because of Colorado’s convoluted sales tax code.
“Colorado businesses are counting on these vendor reimbursements and will be need to make cuts, while still being forced to serve as the state’s chief tax collectors,” Assistant House Republican Leader Kevin Van Winkle told The Sun in statement. “We could at least have the courtesy of simplifying our tax code first, which is the most complex in the nation, before pulling out the rug from beneath thousands of job creators.”
The governor hasn’t said where he wants to set the cap, but a fiscal analysis of a 2016 Republican bill to increase the vendor fee affirms Polis’ assertion about which businesses benefit the most. Legislative analysts found that 24 percent of the fee went to businesses collecting $75,000 or less in state sales taxes, or roughly $2.6 million in taxable sales. The majority went to larger retailers.
5. Lawmakers may prefer to use the money for services. But TABOR complicates things.
It’s not immediately clear that Polis has the buy-in he needs from the Democratic-led legislature to pass an income tax cut.
Democratic lawmakers for years have eyed the tax expenditure list as a way to raise revenue for roads or schools. The Colorado Education Association, the state’s largest teachers union, even is asking lawmakers this year to eliminate corporate breaks until classrooms are adequately funded.
The problem is, eliminating a major tax break without voter approval may violate the Taxpayer’s Bill of Rights in the state constitution.
“Specifically, TABOR requires voter approval of ‘tax policy changes directly resulting in a net tax revenue gain,’ ” state auditors wrote in a recent report. “It is unclear how this provision may limit the General Assembly’s ability to change or repeal tax expenditures, when doing so results in a net revenue gain to the state.”
In 2018, the Colorado Supreme Court upheld a law allowing the Regional Transportation District to repeal a tax exemption on the grounds that it was a minor change that didn’t generate much new revenue. But lawmakers have also eliminated larger exemptions in the past. The most prominent came under Democratic Gov. Bill Ritter, when the legislature got rid of a dozen sales tax breaks that generated an additional $100 million in annual revenue.
If Polis insists on a tax cut — rather than spending the new revenue — Democratic lawmakers may look for more targeted options, such as a tax credits or deductions for poor and middle-class people. That could set the stage for a complicated negotiation on a topic already fraught with political challenges.
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