State Insecurity

Faced with alarming budget shortfalls, states are pursuing corporate tax dollars in new and aggressive ways.

Click here to download the complete results of the 2011 State Tax Survey.

When it comes to state-tax enforcement, it’s getting scary out there for corporate taxpayers. Witness the Securities and Exchange Commission’s entry into the state-tax fray with an apparently unprecedented action against Hudson Highland, a staffing firm based in New York.

The SEC charged that the company allowed its Hudson North America subsidiary to fail to collect state sales tax from its customers. Although such failures are typically regarded as state matters, the SEC charged that federal securities laws were also violated. While the $200,000 settlement was not a particularly harsh penalty for the $795 million company (which neither admitted nor denied the SEC findings), the case has sent shock waves through corporate tax departments.

Why the worry? This newfound federal interest in state-tax collection signals a significant intensification of corporate taxation efforts — efforts that were already on the fast track at the state and local level in the wake of the recession (see “The Tax Men Cometh,” May 2009). Faced with huge budget deficits and public antipathy to tax hikes, states are aggressively trying to find new ways to raise revenue.

Many are attempting to expand the definition of what constitutes “nexus,” a business connection to a given state that provides the state with a basis for collecting taxes — an issue that tax authorities, courts, and companies have debated for years. Others want to claw back the incentives they once happily provided to businesses in order to foster economic development.

The situation doesn’t just frustrate companies — it infuriates them. In CFO’s 2011 State Tax Survey, conducted in January with KPMG and yielding responses from 151 tax directors and other finance executives, one respondent complained, “The states are in a pure ‘money grab’ mode and don’t care about policy, the law, or fairness.”

The Budget Abyss

Driving the dash for cash is a plethora of persistently unbalanced state budgets. No fewer than 45 states are expecting 2012 shortfalls relative to their 2011 outlays, according to the Center on Budget and Policy Priorities, a think tank. (For most states, fiscal 2011 began in mid-2010.) Further, while most states have had budget deficits in the past two years, federal stimulus money helped them fill the gaps temporarily, notes Harley Duncan, managing director in the state and local tax group of KPMG’s national tax practice. By the middle of this year, however, most of the stimulus money is likely to run out. “State bills are going to have to be paid with real money at some point,” Duncan says.

One way states are attempting to raise revenue without tax hikes is through clawbacks of corporate tax incentives. Because of the recession, some companies have not performed as well as states expected when they provided tax sweeteners in exchange for corporate relocation or expansion. In such instances, the states can make a strong case, experts say. “The company is benefitting from the services and the infrastructure that the state provides…and the company is not paying its fair share of the costs,” says Robert Willens, a tax accountant and CFO columnist. “That becomes a very persuasive argument to the courts.” Indeed, survey respondents fear that California and Illinois, two of the most financially battered states, are among those “very likely to pursue clawbacks.”


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