Outline of the Michigan Tax System
For a second consecutive year, the state Legislature’s most significant effort to overhaul state tax laws had its fate decided not by roll call votes on the floors of the House and Senate but by a vote of the people at polling stations across the state. In 2014, state policymakers enacted legislation phasing out the personal property tax (PPT) on most commercial and industrial property; but that package was tied to an August 2014 statewide ballot measure related to the earmarking of use tax revenue towards reimbursement of local governments for PPT revenue losses. The August Proposal 14-1 was approved by voters.
Just months after that public vote, the Legislature – after years of deliberations – reached an agreement on tax changes that would generate roughly $1.3 billion in new annual transportation revenue to address growing problems with Michigan’s road infrastructure. A ten-bill package passed in the final days of the 2013-2014 legislative session. Once again, however, the changes were tied to a public vote held on May 5, 2015. Proposal 15-1 would have directly allowed for an increase in the state sales and use taxes, generating new revenues to ensure in particular that the education system and local governments were not adversely impacted by a provision in the transportation legislative package that would exempt gasoline and diesel fuel from the sales tax.
The PPT and transportation ballot measure were similar in many ways. Both were designed to approve tax law changes aimed at holding certain stakeholders harmless from the revenue impacts of the fundamental elements of each set of tax changes. Both ballot proposals were also tied to other enacted legislation, creating an “all-or-nothing” decision for voters. Failure of either proposal would send state policymakers back to the drawing board on the major legislative issue at hand.
The ballot measures, however, were not entirely the same. Proposal 15-1 was a vote to amend the state’s Constitution, whereas Proposal 14-1 was a referendum on one specific public act that was part of the broader PPT package. Most significantly, while Proposal 14-1 was approved comfortably by voters, Proposal 15-1 was rejected by a 4-to-1 margin at the ballot box.
Transportation Funding: Back to the Drawing Board
By rejecting the May ballot proposal, Michigan voters effectively repealed a package of legislation that was expected to generate roughly $1.8 billion a year in new state revenue – $1.3 billion of which would have been earmarked for transportation infrastructure improvements. The package aimed to achieve the dual goals of increasing transportation taxes and ensuring that the revenues from those taxes would be dedicated exclusively for transportation purposes. A common complaint from the public with regard to previous attempts to raise transportation taxes was that the state’s 6 percent sales tax was also imposed on gasoline, but those revenues were not used to address transportation needs. The legislative agreement that resulted in Proposal 15-1 would have addressed this concern by raising the state’s motor fuel taxes on gasoline and diesel fuel, but at the same time, exempting those motor fuels from the sales tax.
With the failure of the ballot measure, the legislature will need to decide how and when to move forward on a new plan to fund transportation needs. In doing so, it will once again need to decide whether these funds should be generated through tax increases or be realized by redirecting existing revenues currently used for some other purpose. Either approach is likely to produce criticism from those adversely impacted by the new plan, meaning that these follow-up efforts at producing a road funding solution are unlikely to be any easier than they were last year.\
Mainstreet Fairness: Nexus and Michigan’s Sales and Use Taxes
Beyond the transportation funding debates, state policymakers also enacted legislation aimed at expanding the taxation of remote sales, including certain e-commerce transactions. Public Acts 553 and 554 of 2014 revised Michigan’s sales and uses taxes to add several presumptions to the laws regarding when a seller is “engaged in the business of making sales at retail” in Michigan – and thus is liable for collecting and remitting sales and use tax. The acts address the revenue problems experienced by Michigan, and many other states, because of the growing popularity of online remote purchases. Under Michigan’s Use Tax Act, Michigan residents are liable to remit a use tax payment to the state for goods purchased online from out-of-state sellers. However, the enforcement of this requirement is difficult, and many residents – either out of ignorance of the law’s requirements or intentional avoidance of their tax liabilities – do not make these required use tax payments.
Michigan and many other states developed the Streamlined Sales Tax Project in 2000 in an effort to simplified sales and use tax structure nationally to encourage voluntary use tax compliance with the assistance of sellers. More recently, states have begun to enact so-called “Amazon” laws in order to compel the collection of some portion of the tax owed on Internet sales. These laws have also commonly been referred to as “Mainstreet Fairness” laws as they attempt to equalize the tax burden between in-state brick-and-mortar businesses and their out-of-state e-commerce competitors. Michigan’s new public acts create presumptions in the law that a seller is “engaged in the business of making sales at retail” in Michigan when: (a) the seller or a person affiliated with the seller engaged in certain specified activities related to sales (e.g., utilized an in-state business location to facilitate deliveries; had in-state operations to perform maintenance or installation services); or (b) entered into certain agreements with one or more Michigan residents for customer referrals, including on-line activities.
Legislative analyses suggest the bills could generate up to $60 million in new state revenue depending upon how the acts’ provisions are applied and how sellers and affiliated businesses respond to the legislation.
Repeal of the Multistate Tax Compact Act
One of the bigger tax policy stories in 2014 came in July when the Michigan Supreme Court sided with the IBM Corporation in a lawsuit against the State of Michigan regarding the apportionment of IBM’s tax liability under the former Michigan Business Tax. The suit centered on how IBM – a corporation that operates all across the world – should apportion its income and gross receipts to Michigan as opposed to other states and countries in which it operates. The MBT Act based this apportionment on one factor: sales in Michigan. However, another pre-existing state law known as the Multistate Tax Compact allows multi-state firms operating in Michigan to use a three-factor apportionment formula that includes not only sales, but also property and payroll within the state. For a firm like IBM that sells in Michigan but does not retain a significant business presence in terms of offices, equipment, and employees, the MTC’s approach is much more favorable. Using the three-factor approach, the court found IBM was due a $4.7 million tax refund from the state.
Unfortunately for the state, the ruling generated ripple effects that went well beyond IBM. Court documents suggested Michigan was involved in 134 other open cases regarding the same apportionment issue, and the Michigan Department of Treasury estimated the potential revenue impact of adverse rulings in these cases to be over $1.1 billion. In response, the legislature approved Public Act 282 of 2014 which, among other things, retroactively repealed the Multistate Tax Compact. The legislation was aimed at precluding future court action, but it is possible that despite the state legislation, legal disputes on apportionment may now move to the federal courts.
Other Tax Policy Changes
While transportation funding, the PPT changes, and Mainstreet Fairness dominated headlines during 2014, a number of other significant tax policy changes were approved. These changes include:
— The restoration of the state’s use tax on Medicaid managed care organizations, which had previously been repealed. The restoration provides new revenue to fund the state’s Medicaid program.
— The creation of a new specific tax for certain hydroponic and aquaculture production facilities; these facilities will now be exempt from levies under the General Property Tax Act.
— A reduction in the rate imposed on paid health claims under the Health Insurance Claims Assessment from 1 percent to 0.75 percent.
While the public gave its strong approval to the PPT ballot measure in August 2014, it withheld its support from the recent proposal from state policymakers to bolster the state’s road funding revenues. The failure of Proposal 15-1 at the polls will require the Legislature and Governor to go back to work on a critical public policy issue that some believed had been solved last December.
With the ballot measure now behind them, the Legislature and Snyder Administration will now have to decide how to proceed with putting together a new road funding plan. Those decisions will involve answering a number of difficult and politically sensitive questions: How much new revenue should be raised, and how soon? Should the revenue be achieved through tax increases or by redirecting existing state revenues to transportation? And, of course, where should that revenue come from?
Further, the challenge of achieving a new consensus on road funding has implications that go beyond just tax policy. The state has supplemented constitutionally dedicated transportation tax revenues with general fund revenue in a limited fashion in recent years. In FY2014, about $450 million in general fund/general purpose (GF/GP) revenues were appropriated for transportation purposes, and another $285 million is currently appropriated for transportation in FY2015. With no plan in place, the state may need to draw on GF/GP dollars once again – which has ramifications on all other programs and entities that lean on the general fund for support. That includes high-dollar state programs such as Medicaid, higher education, and corrections.
The Legislature’s next steps are likely to be difficult, both from a political standpoint and in terms of the policy issues at hand. Still, many argue that some form of action to raise new transportation revenues is now a necessity.