President Donald Trump’s $400 billion federal tax cut for pass-through businesses has emerged as a top target of Colorado Gov. Jared Polis as he looks to eliminate corporate tax breaks to pay for a statewide income tax cut.
The Democratic governor’s goal: A permanent cut to the state income tax rate that would lower the tax bills of most Colorado households and many businesses. But to pay for it, some wealthy households and businesses — namely large retailers and a wide category of companies that includes law firms and much of the financial industry — would see their taxes go up.
In a briefing with The Colorado Sun, Polis administration officials provided new details of his tax plans, and sought to blunt criticisms from the left that an across-the-board tax cut would disproportionately benefit the wealthy.
The new governor is eyeing a more progressive set of tax changes than liberal advocacy groups initially feared, but the specifics about who would benefit and who would pay more in his proposed tax shift remain murky. And Democratic lawmakers — whose support he’ll need to adopt any changes to the tax code — told The Sun they still have reservations about Polis’ stated goal of reducing the state income tax rate.
The governor’s office declined to make Polis available for an interview, but the new details provided the clearest picture yet of a tax reform plan that has emerged as a surprising priority for the Democratic governor in the first year of his administration.
Here’s what we know so far about Polis’ plans.
Polis wants to eliminate an unspecified amount of corporate income tax breaks to pay for a cut to the state’s income tax rate. In the campaign Polis said he hoped to reduce income taxes by 3 to 5 percent — or up to $450 million. But administration officials now are cautioning that the number will depend on the value of the tax breaks they’re able to eliminate.
To get there, administration officials disclosed that Polis plans to find $150 million to $220 million a year for his tax cut by eliminating the Trump tax law’s new 20 percent deduction for so-called “pass-through” businesses — such as sole proprietorships, partnerships and S corporations whose income is taxed through their owners’ individual income tax returns. Most legal, consulting and accounting firms are set up as pass-through businesses, as are many hedge funds and private equity groups
Polis also wants to cap the $102 million vendor fee, which currently allows retailers to keep 3.33 percent of all sales taxes they collect to help recoup their administrative costs. Officials say they haven’t determined how much new revenue the cap would generate, and they wouldn’t provide details of how the cap would work. But they told The Sun that 90 percent of retailers would not be affected.
Why the pass-through deduction?
The new 20 percent federal deduction on pass-through income that Polis is now targeting was among the most controversial provisions of the 2017 Tax Cuts and Jobs Act, passed by Republicans in Congress and signed by President Trump.
The law’s supporters argued that the new deduction was needed tax relief for a category that includes over 90 percent of American businesses today, and employs more than half of all private sector workers. So the president couldn’t just reduce the federal corporate tax rate and deliver on his promises of broad business tax relief, because pass-through businesses don’t pay the same taxes as corporations.
“The corporate tax cuts do nothing, really, for small businesses — 86 percent of our membership are pass-through entities,” said Tony Gagliardi, the Colorado state director of the National Federation of Independent Business.
But the new pass-through deduction has also drawn criticism from tax policy groups on the right and the left. In testimony to Congress, the conservative Tax Foundation called the deduction unnecessarily complex, and said it “arbitrarily” favors some businesses over others. The liberal Brookings Institution, meanwhile, complains that it predominantly benefits the wealthy.
The nonpartisan Joint Committee on Taxation found that households making more than $1 million would receive 44 percent of the tax benefits from the new pass-through deduction in its first year. Those making less than $200,000 received less than 25 percent of the total.
“I know it was done under the guise of supporting small business, but the reality is it’s not really helping them,” said Hunter Railey, the Colorado state director of the Small Business Majority, a left-leaning business advocacy group. “It’s just been a tax break for the larger firms.”
The Polis administration offers another reason to eliminate it: unlike the federal tax code, corporate income in Colorado is taxed at the same rate as individual income, so an additional deduction isn’t needed to level out the state tax rates paid by different types of businesses.
Democratic lawmakers diverge from Polis tax plan
State Sen. Dominick Moreno, the top Democratic budget writer, says he’s reserving judgment on Polis’ tax plans until lawmakers can assess the long-term effects of what he’s proposing. But some of the initial details, he said, raise concerns.
“I share the governor’s goal of middle class tax relief,” Moreno told the Sun in an interview. “I think it can be done differently.”
Specifically, the Commerce City Democratic lawmaker would prefer to see targeted tax credits that directly benefit the middle class, as opposed to an across-the-board rate cut for all income levels. A cut to the state’s 4.63 percent income tax rate would inherently benefit the wealthy more than the middle class or poor, because they make more money and pay more taxes.
Polis officials say that after factoring in the eliminated tax breaks, corporations and individuals making more than $500,000 would pay higher state taxes on average under his plan than they do today, but they have not provided any data showing how his plans would affect people of different income levels.
Meanwhile, Moreno says that while he’s supportive of eliminating tax breaks that don’t make sense, he has “serious concerns about an income tax reduction.”
“History in Colorado has shown that once the income tax is lowered, it never goes back up,” he added. “There could be a real revenue loss to the state when we have increasing demands on services.”
Republicans, meanwhile, support an income tax cut. But it’s unlikely that Polis can count on their votes for a broader reform package.
Sen. Jerry Sonnenberg, R-Sterling, said it doesn’t “make sense” to eliminate tax breaks to offset a proposed tax cut when the state is already expected to owe people refunds under the Taxpayer’s Bill of Rights.
“There’s probably room to talk about how tax credits favor some groups of people over others — I’m happy to talk about those and let’s look at those,” Sonnenberg said in an interview. “But when it comes right down to it, we shouldn’t be raising taxes when we have a surplus.”
It’s not clear when Polis will release the full details of his plan. But in the meantime, lawmakers are pressing ahead with their own efforts to study the 208 different tax breaks the state current gives out to a wide array of industries and individuals.
Moreno said the Joint Budget Committee, which he chairs, recently signed a letter calling for more staffing to help the state auditor’s office with its ongoing evaluation of each tax break. The goal: to determine how, exactly, the state is spending $6.6 billion a year on tax breaks, and which ones are no longer worth their cost. But to do so will take years, and could delay immediate action.
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