2005 Rankings Report
Best State Tax Systems for New and Expanding Businesses
South Dakota, Florida, and Alaska lead the pack.
Tax systems are one of the most powerful tools that states use to compete for new jobs; so, when we decided to do a rankings issue we knew taxes had to play a part. Rather than reinvent the wheel, we turned to the experts: The Tax Foundation’s State Business Tax Climate Index has proven to be an excellent resource for comparing state tax systems. It provides a comparative gauge of each state’s tax systems, measuring how much each state tax system is hampering either the efforts of local entrepreneurs or the attraction of new business.
The touchstone of the State Business Tax Climate Index is neutrality. If a state’s tax system maintains a “level playing field” for all types of businesses and business transactions, it’s considered neutral and rated highly. An economically neutral tax system benefits and punishes all businesses equally; so, this index is a measure of each state’s tax friendliness to all business activity, not just small businesses or large businesses, capital-intensive or service-intensive, existing com-panies or start-ups. Therefore, if a state’s tax rates are relatively low, and its tax base is defined so as not to favor some economic activities while penalizing others, the state’s economy will be comparatively efficient and yield broadly higher incomes.
The State Business Tax Climate Index measures the impact of tax competition on economic neutrality in two ways. The first is a comparison of the states’ overall tax collections, and the budgetary institutions they have in place to control taxation or spending. If any state imposes a greater overall tax burden than a neighboring state, business will cross the border to some extent.
How much states take from you in taxes is critical, but how they take it can be just as important, so the State Business Tax Climate Index also compares statutory features of each state’s tax system, such as the top corporate income tax rate, identifying comparative advantages within each state.
The overall index is a composite of five specific indexes devoted to major features of a state’s tax system that influence business decisions or the economy in general: the corporate income tax, the individual income tax, the sales and gross receipts tax, the unemployment insurance tax, and the state’s fiscal balance. In total, the State Business Tax Index consists of five specific indexes, 10 sub-indexes, and 109 variables.
The 10 states deemed to have the most business-friendly tax systems are South Dakota, Florida, Alaska, Texas, New Hampshire, Nevada, Wyoming, Colorado, Washington, and Oregon. On the other end of the spectrum, the 10 tax systems least hospitable to businesses are found in Hawaii, New York, Minnesota, West Virginia, Rhode Island, Vermont, Kentucky, Arkansas, Maine, and Wisconsin.
Generally speaking, states that rank highly manage without at least one of the major taxes—the individual income tax, the corporate income tax, and the sales tax. Of the 38 states that have all three, Colorado (ranked eighth) ranks highest by keeping all of its taxes simple with low, flat rates. The common characteristics of states that rank poorly are: multiple-rate corporate and individual tax codes that impose above-average tax rates; above-average sales tax rates that exempt few business-to-business purchases; complex, punitive unemployment taxes; and high state tax collections with few institutional barriers to taxes and spending.
Best known for its annual calculation of Tax Freedom Day, the Tax Foundation is a nonpartisan, nonprofit organization that has monitored fiscal policy at the federal, state, and local levels since 1937. The complete State Business Tax Index is available at www.taxfoundation.org/bp45.pdf.
