The Tax Foundation says Iowa has the 10th-worst business tax climate among the states. Their detailed overview of Iowa’s tax system explains:
States that score well on the Index have broad bases and low rates, but Iowa has narrow bases and high rates on many taxes…
Competing states like South Dakota and Indiana offer more competitive corporate tax climates while Iowa can leave prospective businesses with sticker shock because of its 12 percent corporate income tax rate.
Further, many Iowa businesses file income taxes through the individual tax code, which has a high top rate of 8.98 percent. Even Illinois is more competitive in this regard; it files individual income at a single rate of 5 percent.
All true. Of course, defenders of Iowa’s tax system can make some worthwhile points:
Most states don’t allow deductions for federal taxes. Iowa does, making the effective top rate lower than the rates quoted by the Tax Foundation.
Iowa corporations can use “single-factor” apportionment. This allows Iowa corporations to pay taxes based only on Iowa sales, so Iowa-based corporations with a national market pay a lower effective rate than corporations based in states that use a traditional tax system that takes into account property and payroll in-state, as well as sales.
Iowa allows a “refundable” research credit that can result in startups, especially software companies, receiving cash subsidies even in loss years.
Iowa has dozens of other special tax credits that can eliminate taxes; some can even result in a negative income tax, with the state writing checks for qualifying taxpayers.
And what Iowa's defenders say is true. Big Iowa companies can find themselves paying surprisingly little tax here.
Unfortunately, by the time Iowa advocates get to the tax credit part of the story, the audience has already tuned out. It’s easier to tell South Dakota’s story: “We don’t have any income taxes!”
Even after all of the explaining, the Tax Foundation’s main points remain true. Iowa’s corporation tax rate is the highest in the U.S. (even taking the deduction for federal income taxes into account). In fact, it is the highest in the developed world. Our individual tax rate is high, even considering the federal tax deduction. All of the special breaks make Iowa's income tax very complex. And while Iowa has many tax credits, they are often narrowly tailored and require consulting and string-pulling to obtain. Many small businesses don’t qualify for the wonderful tax breaks, but they still have to pay their accountants to comply with the resulting complex and confusing tax system.
While there is recognition at the Statehouse that Iowa’s tax system is a problem, there’s a long way to go to overcome forces that like the current system. Every special tax credit and tax break benefits somebody who’d hate to see it go. Politicians like “targeted” tax breaks, as they can attend ribbon cuttings for companies that get the special deals.
Meanwhile, nobody cuts a ribbon for the businesses that don’t get the special breaks. There is no press release to tell the story of the Iowa business that has to pay taxes at the top Iowa rate, while competing with South Dakota competitors. There is no press conference when an business leaves Iowa to take its state tax rate from 12 percent to zero. There’s no ribbon cutting for a business that loses business to competitors with lower tax burdens.
I believe Iowa is a great place to do business. That’s in spite of its tax system, not because of it. Iowa could collect the same amount of tax with a much better tax system. We’ll talk about how it could be made better next time.