April 9 saw Governor Hutchinson sign a pair of bills comprising many of the Tax Reform and Relief Legislative Task Force's recommended reforms: Act 822 (SB576) requires remote seller collection and provides three major business income tax reforms. Act 819 (SB561) adopts several administrative reforms. Coupled with the individual tax cuts of Act 182 enacted earlier this year, this session has paid off with a comprehensive set of reforms that make significant improvements while fitting sustainably within the state's fiscal and political constraints.
Business Tax Reforms: Single Sales Factor Apportionment, Corporate Rate Cut to 5.9%, and NOL Carryforward Extension to 10 Years
Act 822 implements three changes to make Arkansas's income taxation of businesses fairer and more competitive: single sales factor apportionment, corporate rate cuts, and extension of net operating loss (NOL) carryforwards.
The first of these reforms to come into effect is the extension of NOL carryforwards. Arkansas has been tied with Rhode Island for having a worst-in-the-nation 5-year limitation on how long a taxpayer can carry over NOLs to offset subsequent income. For losses incurred in tax years beginning in 2020, that will extend to 8 years. For losses incurred in tax years beginning on or after January 1, 2021, it will be 10 years. Losses incurred for tax years beginning before 2020 will continue to have the current 5-year limitation; the extension will be for newly incurred losses only. This NOL extension will put Arkansas in the mainstream of most states, where carryforward limits range from 10 to 20 years. The Task Force had recommended that the extension actually go out to 20 years, but the General Assembly walked that back to 10 years likely in large part because of high DFA estimated fiscal impacts.
Single sales factor apportionment will begin for tax years beginning on or after January 1, 2021. For the past two decades, Arkansas has had a double-weighted sales factor formula (50% sales, 25% property, 25% payroll). Moving to single sales factor (100% sales) will reduce the tax burden on in-state employment and property, thereby encouraging more job growth and investment. Arkansas is, however, retaining the throwback rule (which would have been repealed under the original version of SB576). For the income tax on financial institutions, which has its own apportionment formula, the changes are similar: going to single receipts factor for tax years beginning January 1, 2021, and with the throwback rule retained.
The corporate rate cut will phase in over two years with cuts to the top rate of 0.3% each, from the current 6.5%, to 6.2% for tax years beginning in 2021, and to 5.9% for tax years beginning on or after January 1, 2022. This will put top marginal corporate income tax rates on parity with the individual top rate reduction to 5.9% under Act 182.
Remote Seller and Marketplace Facilitator Sales Tax Collection Beginning July 1, 2019
Arkansas will pay for these corporate tax reforms in part with revenue from remote sales tax. Under Act 822, Arkansas will require remote sellers to collect sales tax if, in the current or preceding year, sales into Arkansas exceeded $100,000 or 200 transactions. These are the same thresholds used by South Dakota that were at issue in Wayfair.
In addition to direct remote seller sales, Arkansas is also going to require collection by marketplace facilitators. The same $100,000 or 200 transactions thresholds will apply. For purposes of these thresholds, a remote seller's sale over a marketplace will be attributed to the marketplace facilitator and not the remote seller. Certain safe harbors are also provided to hold marketplace facilitators harmless for errors resulting from bad information from sellers.
Act 822 also requires accommodations intermediaries to begin collecting state-administered taxes, likely effective October 1, 2019. Act 822 does not amend the locally-administered advertising and promotion (A&P) tax statute and thus does not appear to require accommodations intermediary collection of locally administered hotel taxes.
In addition to state revenue, Arkansas cities and counties should see a budgetary windfall from Arkansas requiring remote sellers, marketplace facilitators, and accommodations intermediaries to collect and remit tax.
Administrative Reforms: Franchise Tax Administration to DFA, Biennial Credits and Exemptions Review, and ACD Guidelines
The tax reform package contains significant administrative reforms coming out of Act 819.
Franchise tax administration will move from the Secretary of State to the Department of Finance and Administration (DFA), where it will be administered in conjunction with the income tax. There will also be additional authority to waive fees for defunct "zombie" corporations that fail to dissolve in a timely way after they cease operations. The changes will be effective May 1, 2021.
Perhaps of more interest to taxpayers and industry groups will be the biennial review of income tax and sales and use tax credits, deductions, and exemptions. DFA will provide a report to the General Assembly before each regular session explaining the purpose, amount, and effectiveness of each exemption, discount, credit, or deduction. The effective date for this provision is May 1, 2021, and so it appears that the first report will be due ahead of the 2023 session. The concern by various taxpayer groups surrounding the Tax Reform and Relief Legislative Task Force's evaluation of all credits and incentives in 2017-2018 thus appears set to become a permanent fixture of Arkansas tax policy.
Act 819 also requires the Assessment Coordination Department (ACD) to issue guidelines and rules for county assessors regarding exemption determinations and also assessment of business inventory. The intent is to impose consistent practices across counties. Testimony to the Task Force had revealed significant divergence and inconsistency among counties. Again, this will be effective May 1, 2021.
Miscellaneous Changes: Car Washes, Bus Advertising, and Farm ATVs
Besides these big reforms, Acts 819 and 822 also make three industry-specific changes:
- Car washes will all be exempt from sales tax and will be subject to a water use fee.
- Advertising on public buses will be exempt from sales tax.
- Additional disclosures and paperwork will be required for ATV purchases claiming the farm equipment sales tax exemption.
These are all sales tax changes that will likely be effective October 1, 2019.
Arkansas Can Keep Up the Momentum with Further Reforms
Arkansas's systematic review of its tax structure over the last two years has yielded significant reforms at a reasonable cost. While at the outset of the Task Force there was much speculation about "everything being on the table" in the hope of making large income tax reductions to position Arkansas as more similar to Texas or Tennessee, ultimately major structural changes were avoided. Arkansas will continue to have low property taxes and high sales taxes; now the income tax will have a lower bite with a top rate of 5.9% instead of 6.9% individual / 6.5% corporate. The major sales tax exemptions and business incentives were retained. The state did not opt for the wholesale reform of income tax brackets under the 2-4-5.9 plan. The corporate tax reforms position Arkansas as a more mainstream (rather than below-average) state tax system. The tax cuts and reforms are being paid for with revenue growth, budgetary control, and the post-Wayfair remote sales tax revenue windfall.
The 2019 Task Force reforms, then, constitute major reforms that fit within the state's existing fiscal and political framework. The big question is whether Arkansas can continue on this path in future sessions. With the Governor's desire to get income tax rates below 5%, and with several significant Task Force recommendations yet to be realized (throwback rule repeal, inventory property tax relief, etc.), there is a road map for future reform.