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May 13, 2015
Who Died and Made GASB King of Tax Breaks?
by Billy Hamilton

Full Text Published by Tax Analysts®

This article first appeared in the April 14, 2015 edition of State Tax Notes.

Billy Hamilton

Billy Hamilton was the deputy comptroller for the Texas Office of the Comptroller of Public Accounts from 1990 until he retired in 2006. He is now a private consultant.

In this article, Hamilton writes about the Governmental Accounting Standards Board's recent focus on taxes and the efforts it is taking to require state and local governments to disclose information about their business tax incentives. Hamilton reports that as drafted, GASB's proposed standard is narrow and omits many types of tax breaks, but he gives the board credit for at least taking a step in the right direction.

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Back when I still tried to order my younger brother around, he often responded with a crack he borrowed from our uncle. "Who died and made you king?" he would ask with all the sarcasm he could muster.

When I worked for the Texas comptroller's office, I sometimes felt the same way about the Governmental Accounting Standards Board, although I knew I shouldn't. The comptroller's office is both the state's tax agency and its chief accountant, and some of GASB's accounting standards caused problems for us, mostly by making us report more financial data than we had in the past. This wasn't bad. It was good, but it often produced some uncomfortable questions from the credit rating agencies and lawmakers. Like eating spinach or getting regular exercise, following GASB's pronouncements on governmental accounting is what state and local governments need to do, but that doesn't mean they have to like it.

GASB has been setting state and local government accounting standards since 1984, and like any group of accountants, it tends to work methodically. It has systematically worked its way through generally accepted accounting principles for state and local governments, allowing plenty of time for the governments -- and anyone else interested -- to make comments. Until now, GASB has mostly been concerned with accounting issues that have nothing to do with taxes.

But recently GASB has turned its attention to taxes and has decided to paddle into the shark-infested waters of state and local tax incentives. With the release last October of an exposure draft of proposed standards for reporting tax abatements, GASB signaled its intent to require state and local governments for the first time to disclose information about business tax incentives.1 The target date for approving the new standards is next August, and the requirement could apply to financial reports after December 15 of this year. GASB has never included this sort of requirement before, and state and local governments don't include this information in their financial statements now. In fact, most probably don't even collect the information in any kind of systematic way, so complying will mean a lot of work and not a little political heartburn.

The proposed standards didn't just spring to life out of nowhere last fall. GASB has been contemplating a standard on this matter for several years. To help define what was needed, the board commissioned research on the subject in 2012. The researchers found that 44 states provide some form of what GASB calls "tax abatements," which are broader in their meaning than simply property tax abatements. The report found wide variation in disclosure practices. It also found that only six states have laws requiring "any level of external reporting after tax abatements are granted." Further, only 14 states had laws that included provisions "for benefit recovery (clawbacks) in instances of nonperformance by the recipient of the abatement," although it does say that some additional states may have administrative requirements for reporting or recapture outside their statutes.

GASB also surveyed citizen groups, local policymakers, and municipal bond analysts in 2013 to gauge the interest in increased tax abatement transparency. The survey found a high level of agreement that governments should generate annual tax abatement and tax recapture reports and should make these reports available to lawmakers and the general public, including investors in public debt.

The board agreed with the survey results because of the potential impact of abatements on a state or local government's financial position. "Tax abatements can significantly reduce the amount of revenue a government receives," GASB Chair David Vaudt said in a statement. "But in many cases, little is known publicly about their total size or their terms and conditions. What the board has proposed would make the financial impact of these transactions much more transparent."

Vaudt has a point. No one knows just how much business tax breaks cost state and local governments annually or what, precisely, they're supposed to achieve, not to mention whether they're actually effective. As Good Jobs First, a policy think tank that tracks business incentives, pointed out in an analysis of the GASB exposure draft: "Because GASB has never ventured into tax expenditures for economic development before, what we have now is the Wild West: a great deal of data of very uneven quantity and quality from some state and local governments."2

Indicative of the problem is that the most widely quoted estimate of state and local business tax breaks -- $70 billion a year -- comes from Kenneth Thomas, a political science professor at the University of Missouri-St. Louis, and is based on now decade-old data. In his book Investment Incentives and the Global Competition for Capital, Thomas estimated that in 2005, state and local governments provided just under $50 billion in "business attraction subsidies" and another $20 billion in subsidies not tied to making an investment, an increase from $48.8 billion a decade earlier.3

In his comments on the exposure draft, Thomas joked that the GASB standard could put him out of the estimating business but said he favors increased disclosure. "In the United States, there is a terrible lack of transparency in the use of these incentives, which makes informed policy analysis very difficult and, in some cases, impossible," he wrote. "Not only that, the lack of transparency hinders the ability of bond and other financial analysts to determine the true long-term financial position of a government entity that may be seeking to borrow through the bond market."4

Thomas is not a fan of business tax breaks. Last year he was quoted in the Los Angeles Times as saying that "companies have learned that the site location decision is a great opportunity to extract rents from immobile governments, and invest considerable resources into doing just that."5 In a 2013 U.S. News & World Report column, he pointed out that the funds invested in business incentives could have been used to hire 1.4 million government workers at $50,000 a year in salary and benefits, not to mention other uses for the money, such as education and infrastructure -- policies that benefit businesses as well as a state's citizens. "Instead," he wrote, "what we have seen in state after state is that there have been sharp cuts to these very areas, even extending to such economic development crown jewels as the state university systems in California and North Carolina, among others."6

As with most technical issues, the devil is in the details, and based on what's in the proposed standard, it won't completely lift the veil on business tax incentives. The standard uses "tax abatement" as an umbrella term to cover programs providing some types of tax breaks but not others. "Tax abatements are widely used by state and local governments, particularly to encourage economic development," GASB noted. "For financial reporting purposes, this proposed Statement defines a tax abatement as resulting from an agreement between a government and a taxpayer in which the government promises to forgo tax revenues and the taxpayer promises to subsequently take a specific action that contributes to economic development or otherwise benefits the government or its citizens." The proposed standards would require that governments disclose general information about these "tax abatements," whether they provide the abatement or another government's abatement affects them.

GASB makes a distinction between tax abatements and the broader concept of tax expenditures. Tax expenditures are revenue losses caused by tax provisions that result from the use of the tax system to promote social or economic goals without making direct expenditures. GASB makes clear that it doesn't intend to capture all forms of tax expenditures, including common business exemptions like the sales tax exemptions for manufacturing inputs and equipment.

The disclosure draft lists three features that distinguish tax abatements from tax expenditures generally: (1) the reduction has an economic development or community benefit purpose; (2) the type of revenue reduced; and (3) the existence of an agreement with a specific taxpayer as the basis of the agreement. GASB describes such agreements as having at least two elements: a government promising to reduce a recipient's taxes, and a taxpayer agreeing to "perform a certain beneficial action."

According to several groups that commented on the draft, this definition significantly narrows the types of tax breaks covered. For example, the standard likely wouldn't cover tax increment financing (TIF). TIF is a popular local economic development tool used in 46 states and the District of Columbia. It is funded through the anticipated increase in tax revenues -- the "tax increment" -- that results from a development project. Local governments sometimes issue revenue bonds against this expected gain to help finance the project, or in other cases, projects may be financed on a "pay as you go" basis as the anticipated revenue is realized over a project's life. Either way, the government is paying for private sector projects with tax dollars, with the government's payoff coming in the form of higher future property tax collections. The size of these programs isn't trivial. As of 2010, before California eliminated its local redevelopment agencies, TIFs in that state, where the concept was born, generated $8 billion of tax increment per year for local governments.

Also excluded are agreements that discount personal income taxes, an increasingly common tax incentive tool. In 2012, Good Jobs First released a study showing that 16 states have a total of 22 economic development programs in which a company receives a share of its employees' state personal income taxes as part of an incentive deal -- either by keeping taxes that would otherwise due to be withheld or by receiving refunds of taxes paid on the employees' behalf. Thomas pointed out that a similar incentive structure is sometimes applied to sales tax. In Missouri, local taxing districts called transportation development districts collect an extra sales tax from customers but keep the money until they have received the full subsidy they have negotiated with the district. Texas local governments have a similar option available to them.

A coalition of New York labor and good-government groups was concerned that "performance-based" incentives would be excluded from the standard. They argued that as currently written, the standard would omit several large incentive programs in New York that are structured to minimize the risk to government from failed deals. These include the state's two largest economic development programs -- the brownfield redevelopment tax credit and the state's film production tax credit, both of which award credits only after the company has accomplished the eligible activity. The two programs cost the state nearly $1 billion annually and have been widely criticized for inefficiencies and lack of transparency. The groups fear that future programs could use the same escape clause. "By excluding such 'performance-based' programs from the new accounting standard, current transparency for these large economic development tax expenditures may vanish," they wrote. "Additionally, programs could be altered or designed in the future in such a way to hide spending through a 'performance-based' structure."7

Whatever is the case, the standard is much narrower than it could be -- and certainly narrower than many of the strongest advocates of transparency would like. Vaudt has said the proposal was deliberately "very narrow" in scope. By one estimate, it captures about a third of the actual tax expenditures governments make. A reasonable question is at what point narrowly defined information becomes useless information.

The standard also narrowly defines how the information it does want collected will be reported. Although GASB apparently considered including the disclosure of the details of specific deals with individual companies, it left that reporting requirement out of the draft, explaining: "Notes to the financial statements should provide a sufficient amount of essential information to the users of financial statements without presenting so much detail that the understandability of the information (and, thereby, its usefulness) is diminished." In other words, the reason for the standard wasn't to list all of a government's business tax breaks but to identify how much they cost the revenue system in aggregate, which is the critical question for financial analysts and investors. In effect, GASB compromised, allowing detailed reporting but not requiring it. Take a guess which one of the two options governments are most likely to choose.

GASB proposes that governments disclose the number of agreements entered into during each reporting period, the total number of agreements in effect, the dollar amount of tax breaks, and any commitments the government has made other than the reduction of taxes that have not yet been fulfilled, such as agreeing to infrastructure upgrades, a common commitment made by local governments trying to lure businesses.

One other omission is that the proposed standard doesn't require the reporting of future revenue effects of existing tax abatements, which is odd since GASB has caused major headaches for state and local governments recently by requiring that they disclose the future costs of other post-retirement employment benefits, such as pensions and retiree healthcare costs, as well as infrastructure replacement costs. In this case, GASB elected not to go that far. Instead, the proposed standard would require the disclosure of the forgone revenue from existing abatements only for the year the financial report covers with no indication given of how many years the abatement might run or what its eventual cost might be.

Despite its relatively limited scope, there's little doubt that the disclosure of this information could significantly affect state and local finances, not to mention tax policy. For that reason, the exposure draft has been the subject of intense interest in the governmental accounting community. In March Governing magazine reported, "Scores of public and private groups support the proposal and it has proven to be one of GASB's most debated topic yet, as nearly 300 groups or individuals submitted comment letters to the board. But many still say the requirements don't go far enough."8 That may be true, but the general consensus seems to be that some standardized tracking of tax breaks is better than none at all.

"This is a huge deal; this is tectonic," Good Jobs First Executive Director Greg LeRoy told a reporter after the exposure draft came out. "These things [incentives] have gotten so out of control, so overgrown, so arcane -- it's been off the radar." Good Jobs First responded to the exposure draft by saying it was an important step toward greater transparency, although LeRoy added, "We're concerned that GASB is missing some money." The group offered a list of issues it would like to see addressed, including an expansion of the types of incentives covered and the long-term effects of the abatements. It also wants GASB to require project-specific disclosure, which it calls the "litmus test for transparency."

In a February analysis of the disclosure draft, the Pew Charitable Trusts noted that "43 states and the District of Columbia have produced either tax expenditure or economic development reports that may have included some of the data needed to comply with GASB"; however, it noted that the standard may present compliance challenges for some governments, "particularly smaller jurisdictions and those that lack the capacity to collect and report on new information."9 In the main, though, it supports GASB's efforts. "Pew has found that a lack of clarity about the objective of economic development incentives is a major obstacle to completing high-quality evaluations," the analysis said.

The fiscal policy think tank Center on Budget and Policy Priorities also supports the standards and submitted its own list of ways to make it stronger. Like Good Jobs First, the CBPP wants specific recipients reported and offers several reasons why, including the growing number of mega-deals that can tie a government's future financial stability to the economic viability of one or two large firms "whose success is anything but assured."10 It points to the deal Nevada recently made with Tesla Motors Inc. to locate a $5 billion battery plant near Reno. In other cases, it says, governments may provide aid to companies on the verge of failing in "a desperate attempt to preserve existing jobs." It also says that many of these deals carry a requirement for expanded schools and infrastructure that the government may or may not be able to afford. "In all of these scenarios," the CBPP says, "the specific identity of the company receiving the tax abatement is highly relevant to an evaluation of whether the granting of the abatement was a wise use of public resources given the risks involved."

On the other hand, the states and their national organizations that are concerned with governmental accounting are, at best, lukewarm about the standard. A collection of five national associations -- the Government Finance Officers Association, the International City/County Management Association, the National League of Cities, the National Association of Counties, and the U.S. Conference of Mayors -- told GASB they supported the proposal's goals but objected to how GASB had approached the issue, arguing that focusing on tax breaks without weighing the economic benefits would be misleading. "Including only a disclosure about the abated tax revenue, without any mention of the return on investment analysis that preceded it or a discussion of the benefits expected as part of this agreement, would mislead, rather than inform, the users of government financial statements," they wrote.11

The National Association of State Auditors, Comptrollers and Treasurers was even more direct in its objections, pointing out the benefits that flow from the tax breaks while admitting that determining what those benefits are is difficult if not impossible. "Many of the constituents providing us comments do not believe the project should continue," the association wrote in January. "They do not agree with the Board's assertion that tax abatements limit a government's ability to raise resources in the future and would assert that the opposite is actually expected. They believe governments utilize tax abatements to grow the economy and revenue base. They do agree with the Board, however, that the benefits are difficult to estimate and should not be reported."12

Of course, the tax community has debated the usefulness of tax breaks for decades, and most economists believe they have little impact and instead unbalance the tax system in favor of some businesses over others. Nevertheless, lawmakers and local officials continue to support the use of breaks as a way to grab jobs and investments from other states or other localities, so it isn't unexpected that their financial staffs would defend tax abatements even while admitting the purported benefits are "difficult to estimate."

Although the exposure draft has drawn many comments, most appear to be favorable. After all, it is hard to argue against greater transparency, even if politically a little more opacity might be preferred. "It's really just a question of how and how much should be reported," Jeff Markert, a public finance expert at KPMG LLP, said in a March interview. "That's where the debate comes into play."

Whatever GASB finally decides, the proposed standard is timely and needed. It comes when many state and local governments -- not to mention economists, policy analysts, and citizens -- are calling for more accountability in state and local economic development incentives. Nevertheless, the costs for these programs, murky as they are, continue to rise, and many companies are adept at playing states and even local governments against one another, creating a cycle of competition that was intensified by the recession and has shown little sign of easing since. One symptom of this competition is the mega-deals that draw states into costly bidding wars for showpiece projects, producing stunning results like Washington state's $8.7 billion deal with Boeing Co. and Nevada's $1.25 billion package of incentives that persuaded Tesla to locate in the state.

Even with all this activity, states aren't doing enough to accurately record their commitments, their future costs, or what they expect to gain. Incentive programs are created, awards are made, and at times even the most basic checks against future failure are overlooked. A 2012 study by the Pew Center on the States found that every state had some sort of economic development incentive program, but that half of the states hadn't taken the basic steps needed to know whether their incentives are effective.13 GASB's standard -- or maybe a future expansion of the standard -- could be the stimulus governments need to begin organizing, reporting, and analyzing economic development incentives in the detail they deserve given their cost in lost revenue.

GASB deserves credit for coming up with a way to expand the conversation about business tax breaks that is so out of the blue that I doubt anyone who wasn't following governmental accounting closely even realized it was coming. Of course, putting this information in the fine print of state or local financial reports won't solve the transparency problem, but making the data available to groups interested in the subject will shine a light where it's seldom been shone before. Maybe it will be the tectonic shift that LeRoy foresees, or maybe it will just be a crack of light in the darkness. Either way, it's a step in the right direction.

GASB really could become the king of tax breaks, like it or not. Wouldn't it be funny if a group of governmental accountants, mostly focused on making financial statements more accurate, managed to do what a half-century of economic research and endless harangues from groups like Good Jobs First couldn't -- force state and local governments to get their houses in order when it comes to business tax breaks?


1 GASB, "Exposure Draft -- Tax Abatement Disclosures" (Oct. 2014).

2 Good Jobs First, "Proposed GASB Standards for Reporting of Tax-Based Economic Development Subsidies," undated.

3 Thomas, Investment Incentives and the Global Competition for Capital (2011). Another sometimes-cited estimate came from The New York Times, which reported in 2012 that state, county, and city incentives totaled about $80.4 billion annually. Louise Story, "As Companies Seek Tax Deals, Governments Pay High Price," The New York Times, Dec. 1, 2012. However, Thomas's estimate is most often cited.

4 Thomas, "My GASB Comments," Angry Bear, Jan. 17, 2015.

5 Richard Florida, "Want to Deplete Your Tax Base? Give 'Job Creators' What They Want," Los Angeles Times, Sept. 15, 2014.

6 Thomas, "Want Jobs Back? Axe Business Tax Subsidies," U.S. News & World Report, Apr. 10, 2013.

7 American Federation of State, County and Municipal Employees, New York, et al., Letter to David R. Bean, CPA, Director of Research and Technical Activities, Governmental Accounting Standards Board, Letter of Comment No. 120 (Dec. 3, 2014).

8 Liz Farmer, "Debate Rages Around Proposed Tax Incentives Rule," Governing (Mar. 2015).

9 Pew Charitable Trusts, "GASB Proposes New Reporting Standards for State and Local Governments" (Feb. 2015).

10 Michael Mazerov and Nicholas Johnson, "Comments of the Center on Budget and Policy Priorities Regarding the Proposed Statement of the Governmental Accounting Standards Board on Tax Abatement Disclosures, Project No. 19-20E," CBPP (Jan. 2015).

11 Government Finance Officers Association, "Exposure Draft on Tax Abatement Disclosures," GAAFR Review (Dec. 2014).

12 Letter from William G. Holland, President, National Association of State Auditors, Comptrollers and Treasurers, to David Bean, Director of Research and Technical Activities, GASB (Jan. 29, 2015).

13 Pew Center on the States, "Evidence Counts: Evaluating State Tax Incentives for Jobs and Growth" (Apr. 2012).

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