Revenue Fight Divides House

A closely divided state House showed a willingness Wednesday to meet the Senate part way on raising revenue to balance the budget, tentatively approving legislation to close three corporate tax loopholes.

House Democrats joined by six Republicans approved the measure to tighten the state’s treatment of limited liability corporations, royalty payments and subsidiary dividends by a 66-51 vote. The bill, which would generate about $ 61 million, is scheduled for a final vote today.

“This was the easiest one,” House Speaker Jim Black, a Matthews Democrat, said afterward. “I wanted to see how it went. Over the next several days, we’ll be determining what the next step will be.”

The debate about closing loopholes, which Democrats defended as tax fairness and Republicans cast as raising taxes, is part of a larger discussion of whether to raise taxes this session.

Democrat Gov. Mike Easley has called on lawmakers to pass a broader tax increase, saying the state’s reserves are depleted and the state needs an additional $ 800 million over two years to operate on a solid basis.

Black said there isn’t enough support among House members to bring up a 1-cent sales tax increase. But he said the House may consider next week a half-cent local-option sales tax, which would raise the overall sales tax rate to 6.5 cents from 6 cents in counties where it was enacted. Of that, counties would receive 2.5 cents.

But House and Senate Republicans lined up Wednesday at a news conference to oppose any sales tax increase for local governments or the state.

“In North Carolina, Democrats are trying to further strangle a soft economy with tax increases,” said House Minority Leader Leo Daughtry, a Republican from Smithfield.

Senate Minority Leader Patrick Ballantine, a Republican from Wilmington, said the state’s revenue was still growing and its finances weren’t depleted. Republicans suggested budget writers should cut spending rather than raise taxes.

Ballantine said borrowing money temporarily from the tobacco settlement was preferable to raising taxes. “That is a better alternative than taxing everybody in this state,” Ballantine said.

The Republicans were joined in opposing the sales tax by representatives of three advocacy groups, the John Locke Foundation, Citizens for a Sound Economy and the N.C. Budget and Tax Center.

Linda Hunt Williams, deputy director of N.C. Citizens for Sound Economy, said state lawmakers should constrain spending.

“What would families do if faced with the same choice?” she asked. “They would spend within their means.”

Dan Gerlach, director of the N.C. Budget and Tax Center, said the sales tax was an unreliable source of revenue because of its volatility. He said lawmakers should look first at closing loopholes as recommended by the governor and a bipartisan study commission, on which Gerlach served.

House and Senate budget writers are waiting to see what new revenue sources the House, where Democrats hold a 62-58 majority, will support before completing work on the budget.

For starters, budget writers must plug a $ 167 million hole created when they lowered revenue growth estimates to 4 percent this week.

While the state expects to collect $ 560 million more in revenue next year, it faces increases in program costs that outstrip the growth, including a $ 300 million increase in Medicaid costs, more than $ 100 million to cover enrollment increases in schools and colleges and a $ 150 million increase in state health insurance costs.

During the House debate on closing the loopholes, Rep. Joe Hackney, a Chapel Hill Democrat, said the issue was tax fairness.

“We have a duty to the persons who are paying taxes to collect from those who are using some strategy to avoid them,” Hackney said.

One change would prevent a corporation from avoiding paying franchise tax on its assets by transferring them to an affiliated limited liability company. Under current state law, a limited liability company, which is a hybrid between a partnership and a corporation, is not subject to franchise tax.

A third proposal would close a loophole on the taxation of corporate subsidiary dividends by making the way the state taxes those dividends conform to federal law.

Much of the debate concerned a provision that would prohibit companies from deducting royalty payments as a business expense when payable to affiliated companies.

A retailer may have substantial profits in North Carolina but pay little or no state taxes on the profits by paying royalties to an affiliated company in a tax haven state for use of the trade name, and deducting those royalties against its income.

State Rep. Art Pope, a Raleigh Republican, argued the tax changes would hurt North Carolina companies by denying them legitimate businesses deductions.

“We shouldn’t be passing complicated tax uniformity bills in a rush simply to raise revenue when we have a whole budget we need to address,” Pope said.

State Rep. John Blust, a Greensboro Republican, said, “It seems we’re trying to paint with a bad brush companies that have used the laws to lower their taxes. They try to structure their affairs to pay the least taxes they legally owe.”

Responding to Blust’s remarks, Hackney said, “How people can stand here and argue that is fair for that to continue to happen, I can’t fathom that.”

State Rep. Jennifer Weiss, a Cary Democrat, said the loopholes in question fit the governor’s definition of those that don’t help North Carolina families and should be closed.

Meanwhile, with no budget compromise in sight, the Senate on Wednesday passed a second stopgap measure to keep state government running through July 31. Today, the House is expected to take up the measure, which would replace one that will expire Monday.

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House vote on tax bill:

The state House gave tentative approval Wednesday to a bill to close three corporate tax loopholes by a 66-51 vote. Here’s how Triangle legislators voted:

– Voting yes: Leslie Cox (D-Lee), Joe Hackney (D-Orange), Bob Hensley (D-Wake), Verla Insko, (D-Orange), Paul Luebke (D-Durham), Mickey Michaux (D-Durham), Paul Miller (D-Durham), David Miner (R-Wake) and Jennifer Weiss (D-Wake).

– Voting no: Russell Capps (R-Wake), Billy Creech (R-Johnston), Leo Daughtry (R-Johnston), Don Davis (R-Harnett), Rick Eddins (R-Wake), Sam Ellis (R-Wake) and Art Pope (R-Wake).

– Excused absence: Dan Blue (D-Wake).