Policy blowback: Tax headwinds for Colorado manufacturers

By Kreg Brown | Jul 31, 2016

The Colorado tax climate for manufacturers was recently awarded a C grade in the Conexus Indiana 2016 Manufacturing & Logistics Report Card. Is that a fair? Probably. There is no question that Colorado struggles with some tax issues unique to the state. These taxes are having the unintended consequence of creating competitive headwinds for our Colorado manufacturers as compared manufacturers in our neighboring states and also at a national and international level. It's tough enough to compete as a U.S. manufacturer with international competitors that have the benefit of access to cheaper labor and government subsidies, taxes should not be an additional issue.

There are some specific actions that those who wish to build and sustain the Colorado manufacturing industry can do to level the competitive playing field: Most critically, encourage legislators to reduce or eliminate the impact of business personal property tax (BPPT) on small to mid-sized manufacturers. It is also critical that we streamline our complex sales tax rules as it relates our local cities' sales tax ordinances. In many cases Colorado manufacturers are getting more than double taxed on necessary equipment investments they are making to advance their companies from a technological standpoint in order to compete.

Making the grade

Let's begin by looking at what's positive about the Colorado tax climate. First, the state income tax rate is a flat rate of only 4.63 percent. Colorado is one of only six states with a top tax rate under 5 percent. In fact, only two states have tax rates lower than Colorado: North Carolina at 4 percent and North Dakota at 4.31 percent. (There are six states that do not impose a corporate income tax: Nevada, Ohio, South Dakota, Texas, Washington, and Wyoming. However, Nevada, Ohio, Texas, and Washington impose a gross receipts tax in lieu of an income tax, which leaves only South Dakota and Wyoming without some form of corporate tax.)

Second, Colorado "piggybacks" off federal taxable income and has not decoupled like so many states from federal tax benefits, such as bonus and accelerated depreciation or first-year immediate expensing of capital assets. In addition, the state does not have a corporate alternative minimum tax and allows a deduction for foreign taxes paid, not to mention a variety of investment, job, and economic development credits.

Finally, Colorado uses single-sales factor apportionment for taxpayers doing business in more than one state. While Colorado does have a throwback rule for the state's sales factor, single-sales factor apportionment can still be an important tax benefit for those manufacturers who are located in Colorado and sell most of their goods outside of the state. How? In short, it means that a manufacturer can expand its physical plant (by adding more machinery, equipment, and buildings, and hiring additional employees) without increasing its Colorado state income tax.

Our tax headwinds

That sounds good, so why the C grade? There are two key problems facing not just manufacturers but all businesses in Colorado: the business personal property tax and the sales tax.

Currently, a company may be subject to municipal sales tax on the initial purchase of manufacturing equipment and then gets taxed again via an annual business personal property tax. Economically, this is double taxation and one could argue more than a double tax as personal property tax is assessed every year on the value of a piece of equipment. The state has implemented a de minimis filing threshold for property tax purposes; however, the threshold is insignificant. The threshold was a mere $7,300 for the 2016 tax year (and is adjusted minimally biannually for inflation). This minimum threshold needs to be increased by our legislators in order for our state manufacturers to effectively compete with other states.

Additionally, each year Colorado businesses must file business personal property tax declaration schedules with their local counties listing their acquisitions of personal property for that year. The property itself is taxed the year after it is first reported. For example, property first put into use in 2016 will appear on the tax rolls for 2017, which is paid in 2018. Property that must be reported on the schedule includes equipment, machines, furniture, signs, leasehold improvements, and computer equipment but not software. The value is then reassessed each year and you get the gift of giving again in the form of a property tax. For manufacturing equipment, this tax needs to be exempted like it has been for our competitors.

Sales tax headwinds

Sales taxes are hurting us! Wait, you say. The sales tax? How can that be? Colorado has the lowest state sales tax rate in the nation. It is only 2.9 percent. Yes, but city or municipal tax rates are making doing business in the state difficult and this added layer of tax is dragging down the state's grade.

Colorado unfortunately has the worst sales tax compliance issues in the United States. The reason is simple: Colorado's home rule cities. There are 70 cities in Colorado that have their own sales tax ordinances, filing, collection, and reporting responsibilities separate from the state. In fact, more than 90 percent of sales taxes collected in Colorado are collected by home rule cities. For each city in which you are doing business, you must register and get a separate sales tax license and file separate sales tax returns. Even worse are the rules for what is taxable and exempt vary from jurisdiction to jurisdiction. For example, the state of Colorado exempts custom software, but Denver taxes all software, and Boulder does exempt custom software but defines it differently than the state. The cities also charge sales tax to manufacturers that purchase equipment which is exempted at the state level.

What a complex mess! But there is good news. In 2013, the state passed House Bill 1288, which directed the Colorado Department of Revenue to examine the possibility of creating a uniform tax base for the state and the local jurisdictions. While the ensuing report determined that a uniform base was not possible, a uniform dictionary of definitions might be. With the support of the Colorado Municipal League and many cities, tax practitioners, and businesses, the Uniform Definitions Project was launched. The goal of the project is the creation of uniform definitions across state and local tax codes and uniform tax guidance in their application. After two years of work, the Uniform Definitions Project has released its report that includes its body of uniform definitions, and, given the response, it seems likely that Colorado is about to make a significant step forward in simplifying its sales tax compliance.

A call to action

The flight of manufacturing from the United States overseas is well-documented, and some states have become more competitive and attractive to investment by eliminating BPPT on manufacturing and offer a less complex cohesive sales tax rules. For example, two of Colorado's neighbors, Kansas and Nebraska, exempt manufacturing equipment from BPPT, which clearly puts Colorado at a competitive disadvantage.

Admittedly, changing the law is a proverbial uphill battle, but the legislative work continues and needs to continue in earnest. Absent the BPPT and given the progress on the sales tax front, Colorado's tax climate could potentially be as sunny as its 300 plus days of sunshine. But no one here is satisfied with a C grade.

Conexus Indiana, a private-sector initiative focused on making Indiana a global manufacturing and logistics leader, recently released the 2016 Manufacturing & Logistics Report Card for the United States. The report graded states in several different categories relevant to the manufacturing sector. This response is the third in a five-part series examining Colorado's grades; read part one here, part two here, and part three here.

Kreg Brown is Manufacturing Industry Leader at EKSH. Reach him at kbrown@eksh.com or 303/740-9400.