IVCA Opposes the Governor’s Proposed New Gross Receipts Tax
After months of rumors, on Wednesday, March 7, 2007 Governor Rod Blagojevich proposed the largest tax increase in the state’s history with his new gross receipts tax (GRT). Given the tax’s likely negative impact on private equity firms and investments in the state, the IVCA quickly informed Governor Blagojevich that we oppose the tax. Despite months of advocacy by the Governor, broad and strong business opposition to the tax prevented it from moving forward in 2007. To date, the Governor has not re-proposed the GRT.
IVCA is opposed to the GRT – it harms entrepreneurial companies and the investors that back those companies
- Imposing a GRT on Illinois private equity/venture capital firms’ revenue will place this industry at a severe competitive disadvantage relative to other competing money center states for domestic and foreign investment. The GRT will add a significant new operating cost for these firms, costs that are not incurred by their competitors in most other states. IRRs for Illinois-based funds will inherently be lower due to these costs.
- A VC portfolio generally is comprised of a substantial portion of companies that generate revenue but that operate at a loss for years before making a profit. If a gross receipts tax were in place, most young companies in Illinois would immediately become uncompetitive in the funding selection process due to new increased operating costs relative to those companies in states without gross receipts taxes. Add to this the increased input costs for these companies from the pyramiding effects of a gross receipts tax and not only would private equity and venture capital investments likely dry up but many of these new struggling companies would not survive.
- The exemption for small businesses with annual sales in Illinois under $2 million will not address this problem given that many small companies with private investment support have sales well in excess of $2 million in Illinois annually yet continue to operate at a loss.
- IVCA is disappointed that the Governor would now propose a tax that would in effect have the same investment dampening effect on the private equity/ venture capital sector in Illinois that the Personal Property Replacement Tax (PPRT) did.
Many Problems with Gross Receipts Taxes
- GRT does not specifically exclude passive investment income from the tax. A tax on investment income would significantly reduce the cash returned to investors from VC/PE funds and make Illinois uncompetitive.
- Gross receipts taxes violate fair tax principles of transparency, fairness, economic neutrality and competitiveness and would have a negative effect on economic and business growth in the state.
- The Governor’s GRT would apply to most service industries making them uncompetitive with similar service providers in non-GRT states.
- Gross receipts taxes punish businesses with low or no profit margins which is the norm for many start-up and venture-backed companies. The current income tax structure requires businesses to pay on their profits. The GRT would require companies to pay based on their revenue regardless of profits.
- The Governor’s proposed exemption for businesses with $2 million in annual sales in Illinois is set at too low a level to cover many low-or-no profit businesses including many of our members’ portfolio companies.
- GRTs will make Illinois companies uncompetitive. GRTs result in pyramiding because every step of the manufacturing process is taxed on its full value (experts have estimated the cost of gasoline will increase $.10 - $.15 per gallon). As a result, GRTs interfere with private market decisions creating a non-market-based series of incentives and disincentives for business operations. They favor manufacturers which vertically integrate and out-of-state suppliers whose prices don’t reflect the additional cost layering of GRTs.
- A GRT will make Illinois services and products more expensive for consumers and is a stealth tax which is not readily transparent to consumers.
- Given all these problems with the GRT, only a handful of states have them and all differ significantly from the Illinois situation. Other states which had GRTs have repealed them (Indiana, Michigan and West Virginia) recognizing their many problems including their negative competitive effect on in-state businesses.
- In 2004 the Blagojevich Administration recognized and eliminated the PPRT for Venture and Private Equity funds because of its non-competitive nature and negative impact on attracting increased private equity/venture capital investment in the state.
Details of the Proposed Gross Receipts Tax
Just weeks after initially announcing the largest tax increase in the state’s history, the Governor, in an effort to boost weak support among legislators for his gross receipts tax proposal, increased his proposed tax rates to raise an additional $1 billion for property tax relief. This brings the total projected business tax increase to a whopping $7.6 billion a year. It also indicates a troubling signal that the Governor is perfectly willing to raise this hidden tax, if his proposal is enacted, every time he thinks he needs new funding for new or expanded government programs. This “easy” increase in the GRT rates flies in the face of one of his basic rationales for imposing a GRT – the broad-base business tax would keep rates low. Even before this latest increase, his proposed rates were higher than the rates in most of the very few states which have gross receipts taxes.
The new changes were introduced on March 30th by Senate President Jones in amendment number 001 to S.B. 1. Among other things, the legislation:
- Increases the proposed GRT rate on service providers from 1.8 percent to 1.98 percent;
- Increases the proposed GRT on sales of tangible personal property from 0.5 percent to .85 percent; and
- Broadens the exemption on revenue from businesses with $1 million in annual sales in Illinois to $2 million in annual sales in Illinois (the exemption remains too low to effect many businesses).
Other exempt receipts include:
- Sales to purchasers outside of Illinois (imports would be subject to the tax)
- Essential products and services—drugs, food for immediate consumption and services to Medicaid patients
- Businesses subject to alternative taxes—the gaming and insurance industries
- Not-for-profit organizations
- Transactions with related parties (not yet defined), and
- Traders would have a deduction for the cost basis of the securities sold
If enacted, the gross receipts tax would become effective on January 1, 2008; however, the corporate income tax would not be phased out for a two-to-four year period. Any corporate income tax paid during the phase out would be credited against the gross receipts tax to avoid double taxation.
The Governor’s articulated rationale for such a sweeping change in business tax policy
- businesses are not currently paying “their fair share of taxes.”
- new taxes are necessary to pay for large current budget deficits and fund expansive new programs such as broad health care coverage and improved school funding. The Governor estimates that his GRT will raise more than $6 billion in net revenues per year.
- gross receipts taxes have a broad base and typically low rates (although his rate is significantly higher than most of the rates that apply in the five other states with GRTs. Additionally, most of these states do not have income taxes plus GRT as Illinois would.)
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gross receipts taxes are applied the same to all businesses in an industry.
2007 Legislative Action
- The sweeping tax change and huge business tax increase prompted much discussion and debate in Springfield through the year.
- All Republicans were and remain staunchly opposed to the GRT.
- Senate President Emil Jones publicly supported the tax, although he had difficulty in garnering enough support in his caucus to bring the measure to a floor vote. The Senate President was able to get the GRT bill voted out of committee on a 7 to 6 vote on May 8th (the Senate Executive Committee amended SB 1 to increase the GRT rates to 2.0 percent on services and to 1.0 percent on goods, with a tax credit equal to $2,000 per full time employee for companies with 25 or fewer employees). But the bill was referred to the Rules Committee in December were it remains.
- In early May, House Speaker Madigan held a rare open all-day hearing with both the Senate and House present, The Governor also testified in support of his GRT, but opposition to the proposed tax was fierce and widespread. The Speaker also finally indicated his opposition to the tax after weeks of silence on the issue.
- Following the hearing, the House voted on a non-binding resolution on the GRT and voted against it 107 to 0.
- The three statewide Democratic office holders -- Lt. Governor Pat Quinn, State Treasurer Alexi Giannoulias and State Comptroller Dan Hynes – were opposed to the GRT as well.
- Mayor Daley also voiced strong criticism, especially with regard to the Governor demonizing the business community for not paying its fair share of state taxes. As the Mayor noted, businesses “don’t have to be here.”
- Despite weeks of an intensive public relations campaign by the Governor to convince voters across the state that the GRT is the correct – and only – method to address key budget issues in the state as well as provide for necessary new programs, legislative support for the measure was almost non-existent. The Governor, however, continued to push hard for his GRT and publicly stated that he will never support an increase in the income or sales tax to address the state’s severe budget deficit (something that many observers see as the only alternative to solve the deficit).
- After months of debate well past the May 31st adjournment deadline for the Legislature, a budget was finally approved without the GRT
- The Governor did not raise the issue of a GRT in his 2008 budget address.
