Connecticut’s small business community is warning that state Democrats’ proposals to increase income taxes (follow this link to read a PDF of the tax proposals) and eliminate dozens of sales tax exemptionswill hit them especially hard at a time when they are already struggling to retain jobs.
That’s because tens of thousands of Connecticut businesses pay a significant portion of the state’s income tax since they are set up as pass-through entities, which means they pay personal income tax on the income generated by their businesses.
“These tax increases are going to have a disproportionate impact on small businesses,” said Andy Markowski, Connecticut director of the National Federation of Independent Business. “I think they are going to get hurt tremendously.”
Other proposed tax increases include a three-year 30 percent surcharge on corporate earnings and a reduction in the corporate tax credit from 70 percent to 65 percent in 2009 and to 50 percent in 2010.
The Democrats’ plan (follow this link to read a PDF with the full fiscal analysis) increases from 5 percent to 6 percent the income tax for couples earning more than $250,000.
The rate increases to 7 percent for couples earning more than $500,000, and then to 7.5 percent for combined salary over $750,000. Earners of more than $1 million will pay 7.95 percent, the top rate.
The income tax proposal is retroactive to Jan. 1.
Markowski said that the income tax hike will undoubtedly affect all types of businesses, including sole proprietors, limited liability companies and certain S corporations.
He said 75 percent of small business owners report their business income through a personal tax return.
“This will stifle expansion and investment in businesses,” he said.
State Sen. Toni N. Harp, D-New Haven, said she does not believe the income tax will hurt businesses’ ability to retain and add jobs.
“I don’t think this hurts as much as a sales tax does,” said Harp, co-chairman of the budget-writing Appropriations Committee.
Still, the Democrats’ proposal also puts an end to almost 50 sales tax exemptions that would directly impact businesses, especially in key state industries, such as fuel cells, information technology, life science, and manufacturing.
“I have very strong concerns about the entire tax package,” said Joseph Brennan, senior vice president of public policy for the Connecticut Business & Industry Association.
“Further eliminating the value of sales tax credits will have a direct impact on jobs in Connecticut,” Brennan said.
House Minority leader Lawrence F. Cafero Jr., R-Norwalk, who said Republicans were left out of budget discussions, maintained that the proposed tax increases will do nothing to increase business activity in the state.
“We’re going to add a 30 percent surcharge to the corporations for the next three years,” Cafero said. “How that stimulates the economy is beyond me.”
Democrats say their budget is necessary to account for what they project to be a $2.8 billion funding gap in Gov. M. Jodi Rell’s biennium budget proposal.
Rell has proposed a $38.4 billion budget for the next two fiscal years, but she recently acknowledged that the state faces a much steeper deficit of $7.4 billion, compared to $6 billion her office calculated when she released her budget in February.
Democrats have long argued with the governor’s deficit projection, saying the two-year figure is even higher, at $8.7 billion. Even still, Democrats know their tax proposals will be unpopular.
“We are going to receive criticism from virtually every direction, and we accept that,” Harp said.
The proposed tax increases are expected to bring in about $3.3 billion in additional revenue over the next two years, according to the Office of Fiscal Analysis and Office of Legislative Research.
Democratic leaders are eyeing spending reductions of 27 percent and revenue increases of 37 percent, which intentionally follows measures adopted during the early 1990s and 2002-2003 recessions.
“Our plan is very consistent with the two deficit mitigation proposals we dealt with in previous recessions in the past 20 years,” said Rep. Cameron C. Staples, D-New Haven, co-chairman of the Finance, Revenue and Bonding Committee.
According to state Department of Labor statistics, Connecticut shed about 158,000 jobs during the early 1990s recession, mostly in the manufacturing sector, when the state first instituted a personal income tax.
The state lost about 61,000 jobs between 2000 and 2003. Connecticut has already lost 52,900 in the current downturn, and the governor’s economic council projects the state will lose between 80,000 and 100,000 in total.
The elimination of sales tax exemptions, which state researchers say will generate $79.5 million in revenue starting the 2011 fiscal year, include computer and data processing services and commercial machinery and equipment used in the biotech, fuel cell and printing industries.
“The overall budget has to be something that grows our economy to help us get out of the mess we are in,” Brennan said. “This is only going to prolong our problems.”