Illinois State Tax Increase May Pave Way for Other States to Fix Budget Woes

Jan. 14, 2011 — -- Illinois companies are slamming the state's move to the third-highest corporate tax rate in the country, signed into law Thursday, saying they are concerned about its effect on business.

But amid local budget shortfalls, other states might not find such tax hikes such a bad idea, and some tax policy experts said other Americans should brace themselves for inevitable tax increases in their states.

Joseph Henchman, tax counsel for The Tax Foundation in Washington, D.C., said the Illinois tax hike is only the beginning of what will be a tumultuous year for state tax rates.

"It will be quite an active year," said Henchman. "It might be a year of dramatic tax increases given the constraints states are under. There's always pressure to increase spending more than revenue growth, but the Tea Party and limited government dynamics will add to that pressure."

Henchman said other states that will definitely see tax increases are those in the worst fiscal trouble -- California and Maryland, and potentially New York.

But the new Illinois tax rate legislation, signed into law Thursday evening by Gov. Pat Quinn, already is making waves in the Upper Midwest.

James O'Donnell, vice president of a manufacturing company outside of Chicago, said he is not just troubled but angry that legislators this week approved a 30 percent corporate tax rate increase. The rate increased to 9.5 percent from 7.3 percent, and the individual income tax increased to 5 percent from 3 percent, retroactive to Jan. 1, 2011.

"Someone asked me if this was that big of a deal, and I answered immediately, 'Yes, it definitely is a big deal,'" O'Donnell said. "It's bad for our employees, the future of our company, and it's not good for our customers either. This does nothing but increase our costs."

O'Donnell said his company, CamCraft Inc., had to make "painful decisions" in 2009 to stay afloat without raising customers' prices during the downturn. He said he is bitter that the state legislature did not do the same.

"The Illinois legislature made a very strong statement that they don't care about businesses and manufacturing," O'Donnell said.

He said his company, which has 275 employees and one facility in Hanover Park, Ill., may consider adding a second location in the future. And the Illinois tax increases give more reason to look outside the state.

Nick Kalivas, vice president of financial research with brokerage firm MF Global, said that the tax increase was an "anti-growth" measure.

"My concern from an economic standpoint is that gasoline prices are very high in Illinois, you've got fairly strict worker compensation laws, the regulatory environment is relatively stiff here, and you're taking money from the consumer," said Kalivas from his office in Chicago. "This tends to dampen the growth outlook."

State Governors Make Tax Decisions

The governors in Wisconsin and Indiana have been quick to comment on Illinois' tax increase. The neighboring states hope the increase will inspire businesses to move, with their tax revenue, to their states.

"We already had an edge on Illinois in terms of the cost of doing business, and this is going to make it significantly wider," Indiana Gov. Mitch Daniels told The Northwest Indiana Times last week.

The newly inaugurated governor in Wisconsin, Scott Walker, has used the slogan "Wisconsin Is Open for Business" since he was elected in November to try to lower his state's taxes.

Illinois' income tax increase to a flat 5 percent still is lower than Wisconsin's top income tax rate of 7.75 percent.

Doug Whitley, president of the Illinois Chamber of Commerce, said he was surprised by the size of the corporate tax increase, but he does not anticipate a "great fleeing of employers."

"I think it was a mistake personally. Illinois should never have a corporate income tax rate that is higher than your neighboring state," said Whitley. "The other big troubling concern about the action was there was no significant effort to cut spending or make any commitments to cut spending."

But other states also may move toward higher tax rates -- and at least one already has.

California Gov. Jerry Brown, in a effort to solve the state's fiscal crisis, increased the income tax for every bracket by 0.25 percent after a surcharge ended on Dec. 31, 2010.

California's state sales tax is set to drop one percentage point on July 1, but Brown has proposed a bailout initiative to extend the tax, which Henchman predicts will succeed.

Of the state tax increases in the country in 2010, Henchman said most were aimed at specific groups, including high-income earners, smokers or out-of-state business transactions.

Illinois Taxes Still Lower Than New York and New Jersey

New Jersey's "millionaire's tax" income tax rates, which had a max of 10.75 percent, expired on Dec. 31, 2009. The new top rate is 8.97 percent, which matches that of New York.

The individual income tax rates of New York and New Jersey may look gargantuan compared to Illinois' new rate of 5 percent. But Henchman said Illinois' individual income tax was the last bastion of refuge from expensive taxes that is no more.

"It used to be the tax that balanced out all the other problems," said Henchman. "The corporate tax was kind of high originally. The sales tax was famously high and burdensome. The property tax was burdensome. Having that low income tax rate balanced those things, but now it won't."