{"id":3939,"date":"2024-02-22T13:07:49","date_gmt":"2024-02-22T19:07:49","guid":{"rendered":"https:\/\/illinoistax.org\/?p=3939"},"modified":"2024-02-22T13:11:25","modified_gmt":"2024-02-22T19:11:25","slug":"tfi-tax-facts-77-2-how-much-illinois-income-tax-is-directly-attributable-to-businesses","status":"publish","type":"post","link":"https:\/\/illinoistax.org\/?p=3939","title":{"rendered":"TFI Tax Facts (77.2): How Much Illinois Income Tax is Directly Attributable to Businesses?"},"content":{"rendered":"

TFI Tax Facts: How Much Illinois Income Tax is Directly Attributable to Businesses?<\/u><\/strong><\/h3>\n

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February 2024 (77.2)<\/strong><\/p>\n

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When we published our Business Income Tax Primer in June, we promised to move beyond the legal and policy examination and follow up with a calculation of how much Illinois\u00a0businesses contribute to state income tax collections.\u00a0 Like all things tax, the answer is not simple and straightforward, all the more so because it takes more than a year to identify which types of income taxes have been collected.\u00a0 In this article, we attempt to quantify\u00a0Illinois income tax collections attributable to businesses, and we will also look at tax\u00a0incentives and credits for businesses (inaccurately called \u201ccorporate loopholes\u201d in the\u00a0parlance of the times) in Illinois.<\/p>\n

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Income Taxes Attributable to Business
\n<\/b>For the purposes of this research, we are going to consider only income taxes directly attributable to a business and will ignore, for example, tax on dividends that a corporation pays to its investors.\u00a0 In so doing we look only at the legal incidence of the tax, not the\u00a0economic incidence which is split among customers, employees, and owners.\u00a0 See \u201cLegal vs Economic Incidence,\u201d Tax Facts, March 2021.\u00a0 <\/i>And we will look only at gross tax revenue, not considering money set aside for or paid as refunds.<\/p>\n

Historically, the Illinois Income Tax Act effectively imposed three income-based taxes, and business activity directly accounted for a portion of each tax:<\/p>\n

Corporate Income Tax<\/i><\/b> (CIT) \u2013 When people think of income tax on businesses, they think \u201cCorporate Income Tax.\u201d\u00a0 C Corporations that do business in Illinois pay a 7 percent CIT on their profits earned in Illinois.\u00a0<\/i>A C Corporation has not made the election under Subchapter S of the Internal Revenue Code to be taxed as a pass-through entity, and is taxed under\u00a0<\/i>Subchapter C instead. Illinois respects the election, and the two are referred to for both state and federal tax purposes as S corporations and C corporations.<\/i><\/p>\n

Personal Property Tax Replacement Income Tax<\/i><\/b> (PPTR) \u2013 This tax was created as part of a package to replace the personal property tax on business assets (primarily machinery and equipment) that was abolished by the 1970 Illinois Constitution.\u00a0 It is imposed at a rate of 2.5 percent on C corporations and 1.5 percent on partnerships, S corporations and trusts.\u00a0 For\u00a0<\/i>C corporations, which account for 60 percent of PPTR, the tax pushes the total income tax rate to 9.5 percent. We classify all PPTR as directly attributable to business.\u00a0<\/i><\/p>\n

Individual Income Tax<\/i><\/b> (IIT) \u2013The share of profits that partnerships and S corporations \u201cpass through\u201d to their individual partners and shareholders is taxed under the individual income tax. For non-resident partners and shareholders, the pass through entity is required to\u00a0<\/i>withhold and remit income taxes, called Pass Through Withholding (PTW).\u00a0 Also attributable to business is the income of sole proprietors, typically in-home businesses or small shops that do not have a separate legal entity and report their income and expenses on the individual\u00a0<\/i>income tax return.\u00a0Both are directly attributable to business.<\/i><\/p>\n

A fourth tax, sort of a PPTR\/IIT hybrid, was added in Tax Year 2021:<\/p>\n

Pass Through Entity Tax<\/i><\/b> (PTE) \u2013Partnerships and S corporations can now opt to pay directly the tax their partners or shareholders would otherwise owe and pay with their individual income tax returns; the partners or shareholders may then take a credit for that tax paid on their\u00a0<\/i>Illinois returns.\u00a0Many states have enacted similar taxes, seeking to sidestep a new federal income tax limitation on state and local tax deductions.\u00a0The new PTE was signed into law in September of 2021, early in Illinois FY 2022.\u00a0\u00a0\u00a0<\/i><\/p>\n

The Department of Revenue categorizes income tax receipts as either Individual Income Tax (IIT) receipts or Business Income Tax (BIT) receipts.\u00a0 We assume that all BIT payments \u2013 be they CIT, PPTR, PTW, or PTE \u2013 are directly attributable to business.<\/p>\n

For FY 2023 the Department of Revenue collected $14.6 billion in BIT payments and $25.6 billion in IIT payments.\u00a0 Table 1<\/b> shows BIT gross receipts (before refunds) for the seven most recent\u00a0fiscal years.<\/p>\n

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What jumps out on Table 1 is the increase in payments between FY 2021 and FY 2022.\u00a0 One major explanation is the new Pass Through Entity Tax; partnerships and S corporations are paying tax, instead of their partners and shareholders.<\/p>\n

The Department of Revenue reports that for Tax Year 2021, individual taxpayers claimed PTE credits of $2.2 billion on their tax returns.\u00a0 That means that at least $2.2 billion was moved from the Department\u2019s IIT system to its BIT system for Tax Year 2021 (FY 2021 and 2022).\u00a0 It also means the PTE saved Illinois taxpayers $550 million in federal income taxes at a\u00a0conservative 25 percent federal marginal rate.<\/p>\n

We can get further insights into the 2022 jump in BIT payments by looking at comptroller\u00a0deposits, which the Department of Revenue breaks down by entity type in a monthly\u00a0report.\u00a0 See Table 2<\/b>.\u00a0 The big increases \u2013 more than 200 percent each \u2013 are in payments\u00a0associated with partnerships and Subchapter S corporations.\u00a0 Again, much of this is\u00a0attributable to the new PTE tax, although higher profits also contributed. For example, C\u00a0Corporation receipts also rose, but at a slower rate than the pass-through entities given the PTE boost.<\/p>\n

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Business Income Tax Quantified
\n<\/b>We need to make an adjustment to the Department of Revenue\u2019s BIT payment total to\u00a0account for sole proprietors, someone like a self-employed house painter who might not\u00a0create a separate business entity but would instead include the business\u2019s income and\u00a0expenses on her\/his individual income tax return.\u00a0 Illinois does not separately track this\u00a0information, so we turn to IRS data.\u00a0 The most recent Statistics of Income<\/i> put sole proprietor income on returns filed from Illinois at 2.3 percent of total AGI.\u00a0 Applying that percentage to IIT collections in FY 2023 yields approximately $600 million and would boost our estimate of income taxes directly attributable to business to $15.8 billion.\u00a0 That estimate may be low\u00a0because it misses partners and S corporation shareholders who continue to report their\u00a0income from pass through entities on their IL 1040, as they are allowed to do, if there has been no withholding or PTE election.<\/p>\n

Total income tax payments received by the Department of Revenue in FY 2023 were $40.2\u00a0billion, making the share directly attributable to business at least 38 percent of the total.<\/p>\n

One caveat here.\u00a0 In the interest of simplicity, throughout we have used gross collections,\u00a0before income tax refunds are paid.\u00a0 One complication we have avoided is the annual\u00a0reconciliation of the Refund Fund, which resulted in a $555 million transfer into the General Revenue Fund in FY 2023, significant but less than the $1.5 billion transfer made in FY 2022.\u00a0 Also note that a higher percentage of BIT collections are used to pay refunds than IIT collections, so the share of income tax directly attributable to business could be slightly\u00a0different if we used net numbers.<\/p>\n

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Business Income Tax \u201cLoopholes\u201d
\n<\/b>An attempt to quantify business\u2019s contribution to Illinois income tax receipts should also\u00a0address what are routinely called \u201ccorporate income tax loopholes,\u201d a concept which gets brought up anytime someone believes the government needs money.\u00a0 In reality, tax breaks are found in all of the taxes imposed by Illinois, not just the corporate income tax.\u00a0 And\u00a0although there are numerous deductions and credits available to businesses and they all\u00a0deserve scrutiny, they are not as extensive as other breaks, and many are in place to improve tax fairness, rather than to simply give business an advantage.<\/p>\n

The technical term for credits, exemptions, deductions and the like is \u201ctax expenditures,\u201d and the Illinois Comptroller tracks them.\u00a0 The latest Tax Expenditure Report is for 2021 and\u00a0enumerates all tax expenditures over $100 million (accounting for 90 percent of all Illinois\u2019 tax\u00a0expenditures).\u00a0 See Table 3<\/b>. The big ones are the retirement income subtraction and the standard exemption on the individual income tax return and the food and drug exemption in sales tax.\u00a0 The only business income tax expenditure on the list is the state net operating loss\u00a0deduction, accounting for most of the $887 million in corporate income tax expenditures. See the October 2021 issue of Tax Facts for a discussion of the need for and importance of net\u00a0operating loss deductions in an equitably structured business income tax.<\/p>\n

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Conclusions<\/b>
\nFrom the data available to us we can conclude that in FY 2023 more than 38 percent of\u00a0income tax collections were directly attributable to businesses, including Corporate Income Tax, Personal Property Tax Replacement Income Tax, Pass Through Withholding on\u00a0non-resident partners and shareholders, and the Pass Through Entity Tax.<\/p>\n

In putting together the data for this piece, a couple of other facts jumped out.\u00a0 First,\u00a0C corporations were responsible for nearly two thirds of business income taxes in FY 2023,\u00a0despite the growth in recent years of other legal forms of doing business.\u00a0 Second, most of the cost to state revenues from tax expenditures comes from tax breaks benefitting individual taxpayers, not from \u201ccorporate tax loopholes.\u201d<\/p>\n

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Tax Year 2021 Belated Surprise, in 2023
\n<\/b>When the Tax Year 2021 returns were finalized in March of 2023, it caused a stir.\u00a0 PPTR, which had been assumed to be $5.2 billion (and had already been distributed to local governments), turned out to be $4.4 billion.\u00a0 Similarly, Corporate Income Tax, which was assumed to have been $7.5 billion, ended up being $7.3 billion.\u00a0 However, Individual Income Tax from pass through entities, which had been deposited as $2.5 billion, turned out to be $3.6 billion.\u00a0<\/i>There was no change in total collections, and for our purposes all collections remained directly attributable to business.\u00a0 The difference was what type of tax it was.\u00a0 That matters because different taxes are distributed differently.\u00a0 <\/i><\/p>\n

The surprise was a welcome one for Illinois state government, which receives most Individual Income Tax receipts.\u00a0 For local governments, which get most of the PPTR, the surprise was\u00a0<\/i>unwelcome.\u00a0 As required by law, the estimated PPTR revenue had been distributed to local governments immediately.\u00a0 As a result of the 2023 surprise, FY 2024 PPTR distributions to\u00a0<\/i>locals have dropped <\/i>and<\/i><\/b> overpayments are being recovered in five installments that began in September, resulting in a double whammy to their cash flow.\u00a0 Replacement tax distributions are estimated to fall $1.3 billion (28 percent) in FY 2024, from $4.5 billion to $3.2 billion.<\/i><\/p>\n

By the time these adjustments for Tax Year 2021 were calculated and finalized, allocations\u00a0<\/i>using the prior formula had been made for all of FY 2023, meaning another significant adjustment will likely be needed in FY 2025.<\/i><\/p>\n

The culprit that caused the big change was the Pass Through Entity Tax.\u00a0 Partnerships and Subchapter S Corporations remitting tax for their partners and shareholders boosted total payments, but the Department of Revenue allocated money based on historical patterns from before the PTE was enacted.<\/i><\/p>\n

<\/a><\/p>\n","protected":false},"excerpt":{"rendered":"

TFI Tax Facts: How Much Illinois Income Tax is Directly Attributable to Businesses?   February 2024 (77.2)   When we published our Business Income Tax Primer in June, we promised to move beyond the legal and policy examination and follow up with a calculation of…<\/p>\n","protected":false},"author":2,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[4],"tags":[5],"class_list":["post-3939","post","type-post","status-publish","format-standard","hentry","category-tax","tag-income-tax"],"_links":{"self":[{"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/posts\/3939","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/illinoistax.org\/index.php?rest_route=%2Fwp%2Fv2%2Fcomments&post=3939"}],"version-history":[{"count":3,"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/posts\/3939\/revisions"}],"predecessor-version":[{"id":3945,"href":"https:\/\/illinoistax.org\/index.php?rest_route=\/wp\/v2\/posts\/3939\/revisions\/3945"}],"wp:attachment":[{"href":"https:\/\/illinoistax.org\/index.php?rest_route=%2Fwp%2Fv2%2Fmedia&parent=3939"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/illinoistax.org\/index.php?rest_route=%2Fwp%2Fv2%2Fcategories&post=3939"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/illinoistax.org\/index.php?rest_route=%2Fwp%2Fv2%2Ftags&post=3939"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}