Fiscal Note & Local Impact Statement

125 th General Assembly of Ohio

Revised

Ohio Legislative Service Commission

77 South High Street, 9th Floor, Columbus, OH 43215-6136 ² Phone: (614) 466-3615

² Internet Web Site: http://www.lsc.state.oh.us/

BILL:

Sub. H.B. 127

DATE:

November 12, 2003

STATUS:

As Passed by the House

SPONSOR:

Rep. Jolivette

LOCAL IMPACT STATEMENT REQUIRED:

Yes

 

 


CONTENTS:

Permits municipal corporations and townships to acquire tax-delinquent land for redevelopment free from tax liens, and exempts from municipal taxation certain S corporation income

 

State Fiscal Highlights

 

STATE FUND

FY 2004

FY 2005

FUTURE YEARS

General Revenue Fund

     Revenues

- 0 -

- 0 -

- 0 -

     Expenditures

 

 

 

School Districts

Potential increases

Potential increase

Potential increase

Other Local        Governments

Potential decrease

Potential decrease

Potential decrease

Other State Funds

 

     Revenues

- 0 -

- 0 -

- 0 -

     Expenditures

- 0 -

- 0 -

- 0 -

 

·        Permits municipal corporations and townships to acquire tax-delinquent real estate before the foreclosure proceeding begins without necessarily assuming the entire tax debt.  This could increase the number of local governments acquiring such properties, thus increasing the number and total value of property that is exempt from taxation.

·        The state General Revenue Fund (GRF), which finances the 10% and 2.5% rollbacks on real property taxes and the state base cost funding for Ohio schools, would be affected by these exemptions.  By reducing the amount of property taxes due, the amount of the rollbacks provided by the state is also reduced.  However, in most cases the exemptions also increase the base cost funding payments made to school districts where these properties are located.  The base cost increase is the larger of the two effects.


Local Fiscal Highlights

 

LOCAL GOVERNMENT

FY 2003

FY 2004

FUTURE YEARS

School Districts

     Revenues

- 0 -

Potential loss

Potential loss

     Expenditures

- 0 -

- 0 -

- 0 -

Counties and Other Local Governments

     Revenues

- 0 -

Potential loss

Potential loss

     Expenditures

- 0 -

Potential savings

Potential savings

Note:  For most local governments, the fiscal year is the calendar year.  The school district fiscal year is July 1 through June 30.

 

·        The bill permits municipal corporations and townships to acquire tax-delinquent real estate before foreclosure proceedings begin without necessarily assuming the entire tax debt.  This may result in a savings to county governments.

·        Under the bill, tax debt on such tax-delinquent real estate is forgiven to the extent other taxing districts waive their claims to delinquent taxes on the properties.  Any waiver of delinquent taxes would reduce potential revenue for taxing districts.  If a taxing district declines to waive its claim to the delinquent taxes, the liens for such taxes and costs would continue. 

·        Exempts acquired property from further taxation for as long as it is owned by the municipal corporation.  This exemption reduces potential future tax revenue for local taxing districts.  Statewide, school districts receive 65% of property tax revenue.  The remaining 35% of property tax revenue benefits counties, municipalities, and other local taxing districts.

·        As a result of the property tax exemptions, most school districts could see an increase in base cost funding, which is funded by the state.  This is because the exemption would lower the taxable property valuation.  School districts that are “on the guarantee” would not see an immediate increase in funding.

·        Exempts from municipal income tax an S corporation shareholder’s distributive share of the S corporation’s net profits, except any income from Ohio-based activities that represents wages.  Municipal income tax revenues from Ohio-based activities that do not represent wages and from any non-Ohio-based activities that represent wages would be reduced.  The bill does not alter municipal income taxation of S-corporation income at the business entity level, which is probably the principal method of taxing S-corporation net income.

·        Rounds homestead exemption tax reduction amounts for the low-income elderly and disabled to the nearest $10 rather than $100 when indexed for inflation.  In the aggregate, the fiscal effect of this change is expected to be small, but effects on individuals will vary with some gaining and others losing.

 


 


 

 

Detailed Fiscal Analysis

 

Acquisition of Tax-Delinquent Real Property

The bill authorizes municipal corporations and townships to acquire tax-delinquent real property without necessarily incurring the entire tax debt, and before substantial costs are undertaken by the county in proceeding with the foreclosure.  The tax debt is discharged to the extent that overlapping taxing units (school districts, etc.) release their claims on the delinquent taxes.  Under current law, municipal corporations and other local governments generally may acquire tax-delinquent property on relatively favorable terms only after the property has been offered for sale at public auction, and only after most of the costs of the foreclosure proceedings have been assumed; even then, the tax debt remains with the property, to be discharged, at least in part, from the eventual sale of the property by the local government. 

 

The fiscal impact of this bill is difficult to determine.  Legislative Service Commission believes there could be significant savings to counties by forgoing the foreclosure process.  However, the provision may entice municipal corporations to acquire more real properties than they would under current law.  If this is the case, not only will taxing districts have the ability to forgo tax liens on the properties, but the number of properties no longer subject to taxation will also increase.

 

The 10% rollback on real property taxes and the state base cost funding for Ohio schools are both financed by the GRF.  By increasing the number of properties exempt from taxation, thus reducing the amount of property taxes due, the amount of the rollback would also be reduced.  On the other hand, the exemption would lead to a lower property tax valuation in the corresponding school district, and this could cause the state’s base cost funding payments to the school district to increase.  The base cost funding increase is by far the larger of the two effects.

 

The cost of the provision will depend upon the assessed value of properties acquired by municipal corporations, the tax rates in the corresponding taxing districts, and the likelihood that taxes would have been collected had the municipal corporation not acquired the property. 

 

Municipal Taxation of S-Corporation Income

The bill expands the scope of the exemptions from municipal income tax for net profits flowing through S corporations to a shareholder.  Under current law, such S corporation income attributable to the corporation’s business activities outside Ohio is exempt from municipal income taxation, unless the income represents wages for services performed by the shareholder for the corporation, or the municipality taxed such income as of December 6, 2002, and voters approve continuing such taxation at the 2003 general election.  The bill would exempt all non-Ohio S corporation net profits flowing to a shareholder from municipal income tax, including any that represents wages.  Also, under current law, a shareholder’s distributive share of Ohio-source S corporation net profits may be taxed by a municipal corporation.  The bill exempts such income from municipal taxation unless it represents wages.  Removing these two types of income from the municipal income tax base represents a loss of revenues to municipal corporations.  However, some municipalities may not tax this source of revenue while a few others may not have any current payments from this source.  The impact would vary widely among municipalities.  The bill does not alter municipal income taxation of S-corporation income at the business entity level, which is probably the principal method of taxing S-corporation net income.

 

Only limited information on municipal income tax is available.  We have no data on S-corporation income’s share of Ohio municipal income tax collections.  Neither municipalities for which we have information nor the Ohio Department of Taxation’s data provide any breakout of the portion attributable to S-corporations as a share of total business income subject to tax or as a share of distributions to individuals.  We do not have data breaking out municipal income tax collections on S-corporation shareholder distributive shares of S-corporation net profits from Ohio-based activities that do not represent wages or on any collections from non-Ohio based activities that represent wages, the two categories of taxable income that could no longer be taxed, with the exception noted above, by municipalities under the provisions of the bill.

 

Table 1 Current Law

The chief fiscal effect of H.B. 127 would be to exempt from municipal taxation the part of S-corporation income distributions attributable to its business activities in Ohio, except any which represent wages.  Effects pertaining to distributions of net income that represent wages probably would be small.  Businesses deduct expenses, including wages, from revenues in calculating net income, thus their net income excludes wages.  Municipal income tax law, in referencing the S-corporation shareholders’ distributive share of net profits that represents wages as defined in the Internal Revenue Code, was aimed at abuses under which compensation for personal services the shareholder performs for the S-corporation was classified as net income rather than wages.

Table 2

Data on federal tax collections, which do separately break out data on S-corporations, but include both Ohio and non-Ohio based income, provide an indication of the share of S-corporation income in total taxable income.  This approach is not fully satisfactory as a measure of the magnitude of S-corporation income in Ohio municipal income tax collections both because the share of S-corporation income in total income in Ohio may differ substantially from that nationwide and because Ohio municipalities may use different definitions of taxable income than the federal definitions.  Also, the federal data is based on distributed shares whereas most of the Ohio tax is at the entity level.  While these two methods should give approximately the same result at the national level, the two bases would lead to substantial differences at the municipal tax level.

In tax year 2000, federal tax statistics for the United States show individual adjusted gross income (AGI) for federal tax purposes totaling $6.37 trillion.  S-corporation net income in 2000 was $199 billion, or about 3% of individual AGI.  These figures suggest that S-corporation income may be a significant component of the income tax base of Ohio municipalities, but it could be a larger or smaller share than nationwide.

Current Ohio law pertaining to municipal income taxation of S-corporation income was shaped in recent years by three bills and a court case.  H.B. 477 of the 123rd General Assembly, which became law in 2000, defines an S-corporation as a pass-through entity.  It required that from January 1, 2003, any municipal corporation that taxes income from a pass-through entity credit a taxpayer domiciled in the municipal corporation for taxes paid to another municipal corporation by a pass-through entity that does not conduct business in the municipal corporation.  It permitted a municipal corporation, also effective January 1, 2003, to tax S-corporation income either at the entity or the individual level, not both.  (See Table 1.) 

In 2001, the Ohio Supreme Court, in Tetlak v. Bratenahl, ruled that distributive shares of S-corporation earnings are taxable by Ohio municipal corporations, unless the income was intangible when received by the S-corporation.  Tetlak’s contention had been that his distributive share of net profits from a S-corporation in tax years 1990, 1991, and 1992 was intangible income, which was and is currently not taxable by Ohio municipalities. 

S.B. 180 of the 124th General Assembly, effective April 9, 2003, precluded Ohio municipal corporations from taxing a S-corporation shareholder’s distributive share of the S-corporation’s net profits that are attributable to non-Ohio activities and that do not represent wages as defined by the Internal Revenue Service.  It carved out an exception, however, for municipal corporations which taxed such income on December 6, 2002, and whose electors vote on November 4, 2003, in favor of continuing to tax such income.  Legislative Service Commission thinks few municipalities benefit from this exception.

S.B. 180 also deleted S-corporations from the definition of a pass-through entity for municipal income tax purposes, and so eliminated the requirement, put in place by H.B. 477, that a credit be given a S-corporation shareholder for taxes paid by the S-corporation to another municipality.  The requirement that such a credit be given remained in place, however, for those municipalities subject to the exception noted above.  H.B. 95 of the current biennium restored the credit for income tax paid to another municipality on distributive shares of S-corporation net profit.[1]

H.B. 127 shifts the exception described above, for income taxed on December 6, 2002, and approved by electors on November 4, 2003, for continued taxation, from  S-corporation net profits attributable to non-Ohio activities that do not represent wages, to  S-corporation net profits attributable to Ohio activities that do not represent wages.  Meanwhile, municipalities already taxing S-corporation net profits at the entity level would be unaffected.  Those municipalities taxing at the individual level would have an incentive to shift to tax at the entity level. 

In CY 2001, Ohio municipal income tax collections totaled $3,353.9 million.  On average 90% was collected from individuals and 10% from businesses, statewide.[2]  If approximately 3% (from the national figures above) of the roughly $3 billion of municipal income tax collected from individuals was taxes on S-corporation income, about $90 million of Ohio income taxes might be derived from taxation of S-corporations, assuming all municipalities tax S-corporation income and that taxing at the entity level in many instances and the individual level in others produce a similar result to the national figure.  The loss of municipal income tax collections from passage of S.B. 127 could be much smaller than this.  S-corporation net profits would still be taxable at the business entity level by Ohio municipal corporations.  If, contrary to the provisions of H.B. 127, shareholder non-wage distributive shares of S-corporation net profits from Ohio activities remained taxable but those taxes were offset by credits as required under current law, taxes collected net of these credits on those distributive shares might be small. 

However, S-corporation net profits apportioned to areas of the state not subject to the municipal income tax, taxed at a lower rate than in the municipality of residence of the S- corporation shareholder, or apportioned to another state would escape in whole or in part municipal income taxation.  This would be more favorable treatment than is accorded to other types of pass-through entities, such as partnerships and limited liability companies, whose owners benefit from the requirement that credit be given for municipal income taxes paid at the business entity level but whose distributive shares are taxable at the individual level if not offset by such a credit.  According to one official, this disparity could prompt some businesses organized as other types of pass-through entities to reorganize as S-corporations, although there would be many factors to consider.      

 

Rounding of Tax Reduction Amounts for Low-Income or Disabled Property Owners    

Under current law, low-income elderly or disabled property owners may reduce their property taxes.  In tax year 2003, those with total incomes of $12,800 or less may reduce their property’s taxable value by the lesser of $5,200 or 75%; those with total income of $12,801 to $18,700 may reduce their property’s taxable value by the lesser of $3,200 or 60%; and those with total incomes of $18,701 to $24,700 may reduce their property’s taxable value by the lesser of $1,000 or 25%.  These income and tax reduction brackets are indexed to inflation, and under current law the results of the calculation are rounded to the nearest $100.  The bill would change rounding of the tax reduction amounts to the nearest $10.

 

            In the aggregate, the effects of this change are likely to be small, but some individuals would gain and others lose.  For example, a 1.3% inflation adjustment (about the recent annual rate of increase in the gross domestic product implicit price deflator, the inflation index required by this law) would increase the $5,200 reduction in taxable value to $5,300 but leave the other reductions unchanged, under current law with rounding to the nearest $100.  If rounding is instead to the nearest $10, the reduction in taxable value for those in the lowest income bracket would instead raise to $5,270, $30 less than with current law, so those in the lowest income bracket would be disadvantaged by the change.  For the higher income brackets, rounding to the nearest $10 would result in larger reductions in taxable value.  The $3,200 reduction would rise $40 to $3,240 and the $1,000 reduction would rise $10 to $1,010.  Individuals in these income brackets would benefit.  Overall, however, effects of this change will be small.  In general, the difference in tax reduction would be roughly 8% of the valuation difference so that a $30 valuation difference might mean about a $2 tax difference.

 

 

LSC fiscal staff:  Phil Cummins, Economist

  Nickie Evans, Economist

                       

 

HB0127HP.doc/lb



[1] Essentially the same language, changing ORC 718.14, is contained in the As Passed by the House version of     Sub. H.B. 127.

[2] According to Ohio Manufacturing Association publication.