February 2008

Improving Iowa’s Business Tax Climate

by Amy K. Frantz

Businesses will consider the tax climate, among other criteria, when determining where to locate. How does Iowa’s business tax climate stack up compared to the other states in the nation?  Not very well, according to the Tax Foundation’s annual State Business Tax Climate Index for 2008.

Attracting new businesses and retaining existing businesses are important issues for most elected officials. Quite often, however, the officials are “tempted to lure businesses with lucrative tax incentives and subsidies instead of broad-based tax reform,” said Curtis Dubay and Chris Atkins, authors of the 2008 State Business Tax Climate Index.[1]  Rather than grant special exceptions for certain businesses, lawmakers should treat all taxpaying businesses the same by creating a business tax system that is “simple, transparent, stable, neutral to business activity, and pro-growth.”[2]  The State Business Tax Climate Index annual series was created to provide lawmakers with a tool to compare their tax systems with other states and to point the way toward reforms that could improve a state’s tax climate for all businesses.

The 2008 State Business Tax Climate Index ranks Iowa as 45th out of the 50 states, making it one of the ten worst states in the Tax Foundation report.  Two of our neighboring states, Minnesota and Nebraska, join Iowa in the bottom ten states, while another neighbor, South Dakota, is ranked the second best business tax climate state by the Index.

The ten states with the best business tax climates in the Tax Foundation’s report are: Wyoming, South Dakota, Nevada, Alaska, Florida, Montana, New Hampshire, Texas, Delaware, and Oregon.  The bottom ten, with the worst business tax climates, are: Maine, Minnesota, Nebraska, Vermont, Iowa, Ohio, California, New York, New Jersey, and Rhode Island.[3]  Daniel Mitchell, Senior Fellow and tax expert with the Cato Institute, points out two interesting facts that are apparent from these rankings.  “First, the top five states (and seven of the top 10) have no state income tax. The flip side is that the worst-performing states all have income taxes, generally with steeply ‘progressive’ rates.”[4]

The report’s criticism of Iowa’s corporate income tax in particular helps earn our state such a low ranking. Iowa’s top corporate income tax rate is 12 %, a higher rate than any other state.  “No other state has a double-digit rate on the books,” according to the State Business Tax Climate Index.[5] Iowa also scores poorly in this area because the corporate income tax brackets are not indexed for inflation and because Iowa has an alternative minimum tax on corporations.  Lowering the corporate income tax rates and indexing the rates for inflation are two reforms to Iowa’s tax system that would help all businesses in the state.

Property taxes are also one of the measures used to calculate the best and worst business tax climates. “States that maintain low effective rates and low collections per capita are more likely to promote growth than states with high rates and collections,” said Index authors Dubay and Atkins. Iowa lawmakers should keep this advice in mind when considering any reforms of our state’s property tax system.

While businesses consider a variety of factors when deciding where to locate, taxes are one of those factors. Curtis Dubay and Chris Atkins sum up the importance of low taxes to a state’s business climate:

If taxes take a larger portion of profits, that cost is passed along to either consumers (through higher prices), workers (through lower wages or fewer jobs), or shareholders (through lower dividends or share value). Thus a state with lower tax costs will be more attractive to business investment, and more likely to experience economic growth.[6]

Reform to Iowa’s corporate income tax and property tax systems is necessary if we want to move up in the ranks, and no longer be considered one of the states with the worst business tax climate.

Amy K. Frantz is Senior Research Analyst at Public Interest Institute. 

The views expressed herein are those of the author and not necessarily those of Public Interest Institute or Tax Education Foundation. They are brought to you in the interest of a better-informed citizenry.

[1] Curtis Dubay and Chris Atkins, “2008 State Business Tax Climate Index,” Tax Foundation Background Paper, October 2007, Number 57, p. 2.

[2] Ibid, p. 4.

[3] Ibid, p. 5.

[4] Daniel J. Mitchell, “Absence of Income Tax is Key to State Competitiveness,” Blog entry at Cato@Liberty, October 12, 2007.

[5] Dubay and Atkins, p. 16.

[6] Ibid, pp. 3-4.