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May 1, 2005

Ohio Taxes Cat Tax

#Tax Advisor, #2005 Archived

The Big news on the block is Ohio Tax “ Reform”. The legislation has passed the House and is currently under consideration before the Senate. According to Senate Republicans, everyone is a winner under the tax changes as proposed. I instinctively grab for my wallet when a politician states that “everyone is a winner”.

The Tax changes include a new tax on gross receipts at a rate of .26% known as the Commercial Activity Tax (CAT). In general, this tax is imposed on gross receipts in excess of $1,000,000 earned or received in Ohio, for all businesses, including nonprofit as well as for profit entities, with certain exceptions which are still be determined in the Senate. The tax is imposed without regard to the profitability of the business and as such can be viewed as a regressive tax, imposing taxes on businesses that are profitable and unprofitable alike, as well as imposing the same rate of tax on companies with high profit margins and those with low profit margins. The rate of tax can be automatically increased after 2 years if tax collections are less than the 815 million dollar target. This is fairly likely since even under the Governor's projections, the tax as proposed, falls woefully short of offsetting the taxes it is eliminating. The real question is what will the actual rate be in two to four years.

The CAT tax is similar to a Value Added Tax (VAT) since it will be imposed at point of sale within Ohio, such as a Manufacturer purchasing raw materials and services at various points in the manufacturing process. This will cause a pyramiding of the tax at each level of the manufacturing process. This differs from the current Sales tax, (which is being increased to 5.5%) since the Sales tax permits an exception for products purchased for later resale.

For businesses that operate as a flow thru entity, such as a S Corporation or LLC, Ohio continues to impose income taxes on the owners as well, resulting in a second layer of Ohio tax on the same income. With the change in tax laws after 1986 most Ohio businesses operate either as a S Corporation or as an LLC rather than a C Corporation. Most C Corporations tend to be large publically traded Companies.
Passive income, such as dividends, interest and capital gains, as well as return of principal, such as the repayment of loans or bonds, are not subject to the CAT.

The CAT replaces the corporate franchise tax, personal property taxes, a portion of the estate tax and a 21 % reduction in personal income taxes. These taxes are gradually phased out over approximately five years.

One of the positive aspects of the bill is the elimination of the additional estate tax or “sponge tax” on large estates which encourages wealthy Ohioans to retire in low tax states. Not only does Ohio lose the estate taxes and income taxes but the communities in which these citizens are impoverished by the loss of their financial, charitable, and community support.

These tax changes were a predictable response to the continuing increases in state expenditures and the shortfall in Ohio tax revenue during the Taft Administration. Currently, Ohio's high marginal personal and corporate income tax rates placed it within the top 10% of all states in the nation.

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