Gov. Ralph Northam won the first battle in what’s likely to become a political war over tax policy in the General Assembly.
Faced with a potential loss in state revenue of close to $1 billion, the House Finance Committee voted along party lines on Monday to adopt legislation the governor is seeking to conform state and federal tax policy, with a major exception — a provision of the emergency relief bill Congress adopted last month that would let businesses deduct expenses that were paid with tax-exempt federal grants.
The committee voted 14-8 to adopt the tax conformity bill — an annual ritual that would reset state tax policy to Dec. 31, 2020 — after Secretary of Finance Aubrey Layne said the federal Consolidated Appropriations Act would give a tax windfall to businesses that received forgivable loans under the Payroll Protection Act that other businesses wouldn’t get. Separately, the state also would not agree with Congress to lower the threshold for individual taxpayers to claim deductions for medical expenses.
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“If we accepted this as whole cloth at the state level, it would put a close to billion-dollar ... hole in the budget,” said House Finance Chair Vivian Watts, D-Fairfax, who sponsored the legislation for the Northam administration.
The only Republican to vote for the bill was Del. Joe McNamara, R-Roanoke County, who, like Layne, is a certified public accountant. McNamara and the Virginia Society of Certified Public Accountants would prefer the state to conform to the federal provision and allow deductions on federal grants that aren’t taxed as income, but they don’t want to jeopardize general tax conformity to do it.
“Conformity is so critically important that I’m going to support” the administration bill, McNamara said.
The tax conformity fight is far from over because the state normally adopts the legislation on an emergency basis to set the rules before income tax season opens for taxpayers and the accountants who prepare their returns. Democrats have majorities in both chambers, but they don’t have super majorities of 80% required to pass emergency legislation.
The committee also voted to table two bills that McNamara had proposed. One would ensure that businesses would receive the favorable tax treatment included in the new federal law for forgivable loans they received under the CARES Act adopted in March and in the future. The other would make Virginia tax law conform automatically every year instead of requiring assembly action.
Watts and other members of the committee previously had supported “rolling conformity” for the state tax code, but she said, “The last year’s experience has really been an awakening for me in our responsibility to the state.”
Layne estimates that the provision of the federal law would cost the state up to $500 million based on forgivable grants given to Virginia businesses under the CARES Act and up to $900 million after applying the same tax rules to loans made under the new relief package.
He also called the provision bad public policy because it would help the minority of Virginia businesses that received forgivable loans that would convert to grants under the Payroll Protection Program by allowing them to deduct expenses even though they don’t pay taxes on the federal money they received.
In contrast, businesses that receive grants from the Rebuild VA program Northam created with CARES Act funds must pay income taxes on the money but they also can deduct their expenses, he said.
Business advocates argued that Congress intended to both shield the money from being taxed and allow the deductions to aid businesses that have been hurt badly during the COVID-19 pandemic and shielded their employees from layoffs.
“A lot of small businesses are struggling and what they need is a tax break,” said Nicole Riley, state director of the National Federation of Independent Business.
Steve Haner, representing the Thomas Jefferson Institute for Public Policy, said, “The best tax policy would be to do what Congress intended.”