UNL law professor: Tax breaks raise important questions; legislation likely needed to require online sales tax collection

LINCOLN — A pair of tax breaks that target high-income Nebraskans passed decades ago raise important questions for state lawmakers to consider, a University of Nebraska tax law expert said at OpenSky Policy Institute’s Legislative Symposium.

The tax breaks — the s-corp and LLC non-Nebraska income exclusion and the special capital gains and extraordinary dividends election — have the state ceding considerable taxing authority and revenue with seemingly little tax policy rationale for doing so, said Adam Thimmesch, who teaches tax law at the University of Nebraska College of Law.

That being the case, Thimmesch said the biggest question the tax breaks pose to state leaders as they consider addressing state needs and priorities is, “Is this what we want to do?”

Thimmesch said the tax breaks are largely unique to Nebraska and that:

• The s-corp and LLC non-Nebraska income exclusion allows Nebraskans to avoid paying income tax on earnings from S-Corporations and Limited Liability Companies that are generated from goods or services sold outside Nebraska, even when the income isn’t being taxed in another state; and
• The special capital gains and extraordinary dividends election is a one-time tax exclusion that allows Nebraskans to sell stock in their employers’ companies without paying state income taxes on the capital gains. The election was expanded in 2007 to include income from special stock dividends and again in 2013 to allow participants in employee stock ownership programs to sell their company stock tax free.

Both the tax breaks were passed in 1987 as part of the discussions regarding the LB 775 tax incentive package that was enacted in the wake of Enron leaving Nebraska and the looming threat that ConAgra might leave, too.

Goals of tax breaks unclear

If the goal of the tax breaks is to offer high-income earners tax breaks, then they are working, Thimmesch said, noting that their combined annual revenue loss of about $100 million overwhelmingly goes to wealthy Nebraskans.

But it’s hard to see what other rationale exists for maintaining the tax breaks, he said.
In the case of the s-corp and LLC non-Nebraska income exclusion, Thimmesch noted that rather than incentivizing investment and business in Nebraska, the tax break actually incents Nebraska taxpayers to do business outside of the state, particularly in states with no income taxes, so they can avoid paying any state tax on that income.

Legislation likely needed to ensure collection of online sales tax

Thimmesch also spoke about the implications of a recent Supreme Court ruling that cleared the way for states to begin collecting tax on online sales. Nebraska lawmakers, Thimmesch said, will likely need to pass legislation to mandate the collection of the tax by online sellers. After the ruling last year, the Nebraska Department of Revenue issued a letter that some deemed sufficient to ensure online retailers collected the tax. But the letter would be unlikely to stand up in court should a business choose not to collect the tax, Thimmesch said, noting that the letter references a current statute that says sellers must have a physical presence in Nebraska before the state can mandate the collection of sales tax.

Internet sales tax revenue already included in budget proposal

It would be advisable for Nebraska to pass legislation mandating collection of the tax, he said, especially considering the $30 million to $40 million in new state revenue expected to be generated by the tax has already been included in the Appropriations Committee budget proposal. If the state is prevented from collecting the tax because it lacks the authority, lawmakers could be faced with having less revenue to balance the budget, Thimmesch said. This would make the $95 million budget shortfall senators currently face even larger, he said.

The good news in that regard, Thimmesch said, is that several proposals to mandate the collection of the tax are expected to be put forth by senators this session.

You can watch a replay of the Facebook Live stream of Thimmesch’s presentation here. His presentation begins at about the 42 minute mark.