Summary. July 30, Blue Ribbon Revenue Panel c/o: Mr. Jim Ritsema, City Manager City of Kalamazoo 241 West South Street Kalamazoo, MI 49007

Transcription

1 July 30, 2015 Blue Ribbon Revenue Panel c/o: Mr. Jim Ritsema, City Manager City of Kalamazoo 241 West South Street Kalamazoo, MI Dear Panel Members: Plante Moran has been commissioned by the City to act as a resource to the Blue Ribbon Revenue Panel whose charge is to recommend revenue alternatives to City Commission. One of the alternatives that the Panel has requested our analysis is a city-wide income tax. We have worked diligently with City staff in the development of an estimate as well as with WE Upjohn Institute both have contributed to our approach and provided valuable insights. We anticipate that the Panel will have several questions related to the revenue estimate, its potential impact on residents and businesses, and the mechanics of an income tax. We anticipate that this summary is the first step toward this broader discussion and it is likely that analysis of additional scenarios will be requested of Plante Moran and/ or additional policy research may be requested of WE Upjohn Institute. In addition to the central policy question of whether an income tax is feasible for Kalamazoo from a financial perspective, there are also practical considerations about administering an income tax and political considerations related to the tax burden shift that would be created. We offer observations of these issues as well. We present these findings to assist in deliberations but do not advise on whether Kalamazoo should pursue an income tax. Summary The results of our analysis indicate that a 1.0% tax on income of residents and businesses (0.5% on nonresidents) with $600 exemption for individuals and seniors would produce approximately $20.4 million in revenue per year for the City. Administering the tax would likely cost the City $0.8 million per year, which would net the City an estimated $19.6 million per year. The breakdown of revenue by source is as follows: Residents: $9.8 million ($10.3 million less $0.5 million for residents who pay income tax in other jurisdictions) Non-residents: $7.5 million Businesses: $3.1 million Total of $20.4 million or $19.6 when administrative costs are subtracted The City Charter (Section 77a) requires a reduction of the millage rate if the City adopts an income tax. The City s current millage (less Headlee rollback) is mills. The maximum allowable millage with an income tax is 14 mills. This would result in a minimum reduction of 5.27 mills, or approximately 27 percent for all property tax bills. In addition, there is a Charter restriction (Section 77b) on uses for revenues from an income tax. It states that if revenue produced by a combination of property tax and income tax exceeds 20 mills, then the

2 excess funds can only be used for capital improvement or debt. Applying this to the above revenue estimates, yields the following: Up to $1.1 million in General Fund for operations (equivalent of Headlee Rollback) Up to $1.8 million to relieve budgeted subsidy to street programs Up to $2.7 million to relieve scheduled transfer to capital improvement program (CIP Fund) The above three lines total $5.6 million that would be available to directly benefit the General Fund projected shortfall Up to $6.1 million could be used for additional capital relief, debt, property tax relief, or a combination City Income Tax in Michigan Under Public Act 284 of 1964, Michigan cities are able to tax income provided that the issue is approved by city voters. Kalamazoo can tax at a maximum rate of 1.0 percent for individuals and corporations that reside in the City and 0.5 percent for non-residents who earn income in the City. Taxable income includes salary, wages, dividends, interest, net capital gains, net profit from rental properties, and other income. Income not subject to tax includes pensions and retirement benefits, unemployment benefits, armed forces compensation, and employee reimbursement for business expenses. The Public Act states that the non-residential tax must be set at no greater than half the rate of the tax for residents. Individuals who live in one taxing jurisdiction and receive income in another taxing jurisdiction cannot be taxed twice the city of employment takes precedence 1 and the taxpayer can deduct that payment on income tax of their city of residence. Net profits of a corporation within the City are also taxable at the same rate as residents. Businesses that conduct part of their operations in the City are required to account for and report the City operations only. Businesses are also required to withhold the appropriate income from their employees and report this to City officials. Currently, twenty-two Michigan cities 2 tax income and all have done so for at least twenty years. Each taxes at one percent for residents unless a greater amount is allowed under the statute. Population and date of instituting an income tax impact the allowable rate but for Kalamazoo, the maximum allowable rate is one percent for residents and 0.5 percent for nonresidents. Cities do vary considerably on the exemption amount for dependents from $600 to $3,000. There is no maximum exemption amount and the minimum amount is $600, which twelve of the cities choose. This, along with whether to allow additional exemptions would be established by City policy. Those who may receive an additional exemption include taxpayers 65 year of age or older, those who are blind, paraplegic, quadriplegic, hemiplegic, disabled, and/ or deaf. It is important to note that an exemption is an amount subtracted from income and not from amount taxed, so one $600 exemption would result in $6 less in tax at a 1 percent tax rate. The last city in Michigan to approve an income tax was Ionia in Since then, several cities (Benton Harbor, Mt. Pleasant, Ypsilanti, Sturgis, East Lansing, Adrian, Ann Arbor, and others) have considered an income tax but none have been approved. 1 On The Map ( includes updated commuting patterns based on Census data. According to this tool, there are an estimated 1,827 individuals who commute from Kalamazoo to either Lansing, Battle Creek, or Grand Rapids. Individuals who commute to other taxing jurisdictions are not included. 2 Cities include Albion, Battle Creek, Big Rapids, Flint, Grayling, Hamtramck, Hudson, Ionia, Jackson, Lansing, Lapeer, Muskegon, Muskegon Heights, Pontiac, Port Huron, Portland, Springfield, and Walker tax at a rate of 1 percent for residents; Detroit, Grand Rapids, Highland Park and Saginaw tax at a higher rate as permitted by statute. 2 P a g e

3 Data Included Data that is used to estimate potential revenue returns must take into account local demographic and economic conditions. The most widely used data source for this information is the US Census which served as the basis for Kalamazoo s estimates. Plante Moran worked with WE Upjohn Institute in gathering the most recent data sets that the US Census has to offer. In addition, Plante Moran surveyed other communities to gauge key characteristics such as costs to administer the income tax, audit standards, potential efficiencies, and general advice. The jurisdictions who participated included Grand Rapids, Big Rapids, Lansing, Battle Creek, Jackson and Muskegon. The administrative costs they shared (3.9 percent) demonstrated an efficiency from previous surveys (7.7 percent) due in part to advancements in technology, e-filing, taxpayer compliance, and standardization across Michigan municipalities. The major data elements included in the analysis are: Mean household income (both for Kalamazoo residents and commuters) Number of direct exemptions and number of senior exemptions Commuting patterns (both into and out of Kalamazoo) Estimated business sales (as a proxy for potential profits which would be taxable) Potential costs for administering the tax In addition to these data elements, City Commission would be responsible for drafting an ordinance to be considered by the electorate which would determine tax rates and exemptions. Since City Commission was not consulted by Plante Moran on potential preferences, the characteristics exhibited by the majority of other jurisdictions were included in the projections. These major assumptions include: Tax rate 1.0 percent for residents and local corporations and 0.5 percent for non-residents was used Types of exemptions only direct exemptions and seniors were included Exemption amount $600 was used, which is the minimum allowable and most common amount used by other municipalities The results of the analysis appear in the appendix. Efforts to confirm this estimate with actual filings made with the State Treasurer were not successful for this report. Future iterations of tax estimates may include refinements based on this data set as well. Administrative Issues If City Commission and Kalamazoo voters vote to institute an income tax, there are some administrative issues that the City should consider. These issues are at purview of City Commission and are presented here for your information and consideration. With the exception of the first two item, costs incurred with the items below have been incorporated into the estimate based on the experience that other jurisdictions have shared. Project Costs. When beginning a new program, there are project costs associated with program design, setup, and initial administration. These costs are not included in this estimate, as there are no recent examples of cities who have adopted an income tax. City Commission are advised to develop a project plan and budgeting for these one-time costs before moving forward. Public engagement and communication about compliance will be an important part of this step. Potential Loss of Residents and/ or Businesses. A concern has been raised by Blue Ribbon Panel members that an income tax has the potential to drive businesses and residents from Kalamazoo which would deepen the City s fiscal problems, rather than help them. Estimating this issue is not incorporated into the analysis shared in this memo, as twenty years have passed since a city last instituted an income tax. In addition, some jurisdictions with an income tax exhibit some of the most robust local economies in the state, while others are the least robust. (In 3 P a g e

4 fairness, the less robust outnumber the more robust.) Research on this topic is likely to be shared at future Panel meetings. Administrative Costs. Other municipalities have created City positions to monitor, account for, and audit the tax. In the past, this cost was high (7.68 percent) relative to the revenue received. Due in part to a variety of efficiencies including those below, this has decreased to 4 percent. Lock Box Payment. Four years ago, Grand Rapids, Battle Creek, Flint, and Lansing negotiated with Chase Bank (which processes State income tax payments) to process paper-filled returns. State Filing. The State has invested in the ability to process municipal income tax payments. The State will begin processing Detroit income tax payments in 2016 as a pilot project. Reportedly, it is the State s intention to allow other municipalities this option at some future date. Software. Twenty municipalities use the same software system (Innovative Tax Software) to track tax receipts and compliance. While Plante Moran will not endorse a particular vendor, we do note that the majority of income tax jurisdictions use the same product. Some also contract with this firm for administering the tax. E-Filing. As much as one-third of returns are filed electronically. As is the case with lock box, this can reduce administrative burden. However, it does require interaction with software vendors. Common Form. The City will need to approve a form for tax filing. Most jurisdictions use a common form that captures the same data in order to make administration and benchmarking easier. Cash Flow. Most cities have the majority of cash received during months on or around the dates that property tax bills are due. Income tax is received throughout the year (primarily through employer withholdings) and is more normalized by month. Appeal Process. City Commission must appoint a three person income tax board of review to handle appeals. This board operates in a manner similar to the property tax board of appeals. Policy Considerations In addition to general operational issues, there are several policy issues that the City might wish to consider. Rate and Exemption Amounts. Our estimates assume a 1.0 percent tax rate for residents and a $600 exemption. Both items are most common among income taxing cities but Kalamazoo can change these as allowed by statute. Enforcement. The City has a choice about whether to handle failure to pay in civil court or criminal court. Most cities choose civil court. Grand Rapids chooses criminal court and believes it has a much higher compliance rate. Audit. For effective administration and compliance, auditing of returns is needed. The extent to which the City chooses to invest is at the determination of the City. Policy. In general, funds produced from an income tax would be accounted for within a city s general fund and could be used for any legal purpose. However, as noted above, Kalamazoo s City Charter restricts the uses for income tax revenues. A voter approved Charter amendment could change this, should City Commission choose this path. 4 P a g e

5 Referendum. If City Commission believes an income tax is sound policy, they will need to adopt an ordinance that details the income tax rate, exemption rate, etc. Signatures will then need to be gathered in accordance with PA 284 as revised to hold an election. At least ten percent of registered electors who voted in the last general municipal election are required to place the issue on a ballot. Details of the estimates are included in the appendix. We are happy to discuss the results of our analysis in more detail. Very truly yours, PLANTE & MORAN, PLLC Joe Heffernan Partner Scott M. Patton Associate 5 P a g e

6 Appendix A 6 P a g e

7 APPENDIX A CITY OF KALAMAZOO CALC - INCOME TAX RESIDENTS Mean Household Earnings 47,589 # Households 27,961 Est. Household Earnings $ 1,330,636,029 Average household size 2.38 # Households 27,961 Estim. # of direct exemptions 66,547 Est. Senior Citizen Exemptions 7,102 Total Estimated Exemptions 73,649 Exemption Rate $ 600 Est. Exemption Amount $ 44,189,215 Estimated Taxable Earnings $ 1,286,446,814 Tax Rate 1% Est. Tax Potential $ 12,864,468 Est. Collection Rate 80% Est. Total Tax Received $ 10,291,575 NON-RESIDENTS # individuals who work in Kalamazoo 47,430 # individuals who live in Kalamazoo (8,982) # Commuters TO Kalamazoo 38,448 Mean Earnings for Individuals $ 53,680 Est. Commuter Earnings $ 2,063,888,640 x Persons per Household 2.53 Estimated # of Exemptions 97,273 Estimated Senior Citizen Exemptions 5,306 Total Estimated Exemptions 102,579 Exemption Rate $ 600 Est. Exemption 61,547,558 Estimated Taxable Earnings $ 2,002,341,082 Tax Rate 0.5% Est. Tax Potential $ 10,011,705 Est. Collection Rate 75% Est. Total Tax Potential 7,508,779 7 P a g e

8 Appendix A (cont d.) BUSINESS Reported Sales $ 4,015,517,559 Collections as % of Sales 0.077% Est. Tax Potential $ 3,104,291 RESIDENTS WHO WORK IN OTHER TAXING JURISDICTIONS Battle Creek, Lansing, Grand Rapids 1,827 Per Capita of Taxable Earnings (commuter) 52,079 Total Earnings 95,148,698 Tax Rate to Other Jurisdictions 0.5% Est. Tax Adjustment $ 475,743 Resident + Commuter - (resident commuter) 17,324,610 ADMINISTRATION COSTS Est. Total Revenue 20,428,901 Est. Admin Rate 3.85% Est. Admin Cost 786,966 Total Net Revenue Potential 19,641,935 CHARTER MILLAGE REDUCTION 2015 TAXVAL 1,506,388,780 Millage Rate New Millage Rate Millage Reduction Property Tax Revenue Reduction 7,939,422 ESTIMATED NEW REVENUE Estimated Income Tax Gain 19,641,935 Estimated Property Tax Loss 7,939,422 TOTAL ESTIMATED GAIN 11,702,513 8 P a g e

9 Appendix B 9 P a g e

10 City Charter section 77b Calculation with 14 mills Expected tax revenues: Taxable Value 1,506,388,780 Property tax revenue 21,089,443 Income tax revenue 19,641,935 Total 40,731,378 Baseline - 20 mills would bring in 30,127,776 Excess revenue, to be used for Capital Improvement 10,603,602 Projected Capital uses: Subsidy to Street funds for street improvements, ,800,000 Subsidy to CIP fund, ,700,000 Additional resources available for infrastructure investment 6,103,602 total capital uses 10,603,602 Calculation of the Financial Benefit Realized From Levying an Income tax Anticipated total revenues 40,731,378 Current millage at mills 29,028,865 Increased revenue 11,702,513 Available for operating purposes: Current millage at mills 29,028,865 Baseline of 20 mills 30,127,776 total 1,098,911 Available for Capital purposes (above) 10,603,602 Total use of increased revenue 11,702,513 Direct benefit to the general Fund: to offset operating expenditures 1,098,911 to offset capital or debt: 4,500,000 Total available to benefit General Fund 5,598,911 Available for additional capital, debt, or property tax forgiveness 6,103, P a g e