Large multi-state corporations take advantage of the fact that North Carolina’s corporate tax rules allow affiliated companies to file separate tax returns as if they are unrelated. The Secretary of the Department of Revenue has the power to force certain affiliated companies to file combined tax returns so that the department can more accurately assess the amount of profits earned in North Carolina by the related group of businesses. In FY 2009-10 the Secretary used this authority to evaluate the tax returns of several corporations and assessed back taxes and penalties that netted the state $272 million in additional tax revenues. Under current state law when a back tax liability is issued the state also assesses a 25% penalty to those tax returns, the proceeds from which are allotted to public schools in keeping with North Carolina’s constitutional requirements.
The Senate’s budget bill included a 6-line provision that would take away the Department of Revenue’s ability to the 25% penalty when it determines that a corporation and its affiliates used their separate filing status to avoid paying the appropriate share of taxes to the state. This 25% penalty gives an important added incentive for these corporations to pay up. In fact, without this additional penalty many of these companies would continue to dispute their tax bills, costing the state hundreds of millions of dollars. The court affirmed that this penalty is legal in its findings in the Walmart case when that company tried and failed to dispute its new, larger, and much more accurate tax bill.
Finally, the Senate’s budget, like the governor’s, included an additional $110 million in anticipated tax revenues in FY 2010-11 from these very efforts by the Department to more accurately assess the tax bills of these corporations. If the department is not allowed to add the 25% penalty to these assessments then much of the incentive for corporations to pay up now goes away, thus putting this extra $110 million in jeopardy.
Of course the simplest solution is to do what the majority of states who levy a corporate income tax have done and force related companies to file combined tax returns rather than simply allowing the Secretary of Revenue to select certain companies and force combinations for tax purposes. But in the absence of this solution the state should at least stick by the Department’s determinations as to which companies should be forced to file combined returns and therefore also may owe more taxes. If state leaders strip some of this authority away by removing the 25% penalty, at the very least they need to be honest and take the additional $110 million in tax revenues out of their budget because it simply won’t be there.