In the quiet of the Friday before Christmas, the Pennsylvania Department of Revenue published a policy change covering depreciation of capital investments that marks a 180-degree reversal from a 2011 change made under the Corbett Administration. Governor Tom Wolf is doing an end-around a General Assembly that for nearly four years has held fast against his yearly quest for tax increases.
The federal Tax Cuts and Jobs Act, which was championed by U.S. Senator Pat Toomey (R-Pennsylvania), helps employers buy new equipment to expand production, but the state Department of Revenue intends to prevent those benefits from being reflected in state tax law.
A Revenue spokesman wrote in an email that the new policy is needed to spare the General Fund from lower collections. It goes much further than that, however. Under the change, Pennsylvania businesses will overpay hundreds of millions in taxes, endure greater administrative burdens by having separate state and federal compliance records, and, as an outlier among states with this new policy, lose out on capital investments the federal changes were enacted to encourage. Manufacturers, which are inherently capital-intensive, will be particularly hard hit.
“By preventing the benefits of the federal Tax Cuts and Jobs Act from being extended to Pennsylvania, the Wolf Administration will forfeit new business investments and the long-term, high-paying jobs that go with them,” said PMA President & CEO David N. Taylor. “Look at the economically high-performing states and I guarantee they will not enact similar restrictions because it’s bad for attracting new investment and expanding current operations. The Wolf policy is the antithesis of how to help the economy grow.”
The history of the Department’s changing policy on depreciation dates back to 2002 when in reaction to a then “bonus” depreciation of 30 percent approved by Congress, the General Assembly enacted legislation that would allow the same level of depreciation, but spread it out over multiple years to deflect a hit to the state General Fund. With that move to decouple the state’s depreciation policy from the federal policy, the legislature was clear about its intent, said Reed Smith tax attorneys Christine M. Hanhausen and Robert E. Weyman in a phone interview, who along with Kenneth R. Levine wrote an analysis of the new policy.
“The important point is that lawmakers even though they spread out the depreciation over time clearly intended for businesses to take full advantage of the changes,” Hanhausen and Weyman said.
The 2011 policy change by the Department of Revenue under Corbett was in reaction to Congress approving a 100 percent bonus depreciation. In this instance, the Department allowed state policy to mirror the federal changes, in part, because the General Assembly did not update the 2002 law.
The Wolf policy strips all that away and then some: it allows no depreciation until the asset is disposed of or sold.
“No other state reacted so quickly to the changes on the federal level,” Hanhausen and Weyman said. “And we can’t imagine any state will react the same way.”
The General Assembly will have to act quickly to update the 2002 law and at the very least mitigate the changes made by the Administration. The bonus depreciation period has already started: the federal changes will allow businesses to fully and immediately deduct the cost of certain equipment purchased after Sept. 27, 2017, and before Jan. 1, 2023. After that, the percentage of cost that could be immediately deducted would gradually decrease.
The Reed Smith attorneys expect legal challenges as well. They said that some even challenged the 2011 changes under Corbett; a 100 percent depreciation in the first year might not be advantageous to some Pennsylvania companies because of the cap on deducting net operating losses. There again, Pennsylvania is an outlier among states: we are one of only two states that cap the amount of net operating losses (NOLs) that a company can carry forward to offset their Corporate Net Income (CNI) tax liabilities in future years. And that’s against a CNI rate of 9.99 percent, the highest flat rate in the nation.
Pennsylvania already has one of the least competitive business tax structures in the nation. The new Wolf Administration policy makes this bad situation worse at a time when business confidence is high and companies are seeking new investment in the United States.