Why is this Topic Important to Financial Professionals? This article will examine factors that either increase or decrease the desirability of any one of the fifty states in regards to the formation of a corporation.  Clients want a business climate that is economically efficient.  A financial professional should be able to provide clients at least a cursory explanation of the company law and tax differences among the states.

Considerations regarding which state for incorporation will best meet a client’s scenario include, non-exclusively -

• convenience of incorporation
• costs of incorporation
• annual fees
• annual filing requirements
• management and shareholder liability laws and
• taxes.

Of these, most clients focus on the state income tax aspects.  While it may not be the decisive factor in a client’s choice of location of a business, or residence, or both, it will certainly be one of the important factors to be weighed.  Thus, a financial professional should at least be able to generally discuss the impact of tax on a business amongst the states before referring in a team specialist in this area.

In the Tax Foundation’s 2010 State Business Tax Climate Index it ranks the 50 states according to a matrix which includes corporate and personal income taxes, sales tax, property tax, and unemployment tax rates.[1] The study noted different businesses’ and economists’ perspectives regarding the impact of these taxes on a business.  By example, the well known economist Timothy Bartik has proposed that high property taxes, because they are paid annually by a business regardless of its profit or loss situation, have the strongest negative effect on business nationwide.

The Winning States

According to the study, the top ten business friendliest tax environments are: (1) South Dakota, (2) Wyoming, (3) Alaska, (4) Nevada, (5) Florida (6) Montana, (7) New Hampshire, (8) Delaware, (9) Nevada, (10) Utah.  These states provide the best business environment given all the factors evaluated by the Foundation.

The study notes an analysis by economists Leslie Papke and J.A. Papke which found that, “consistently high business taxes can represent a hindrance to the location of industry.”   Another analysis cited in the study, also by Timothy Bartik, “provides strong evidence that taxes negatively impact business start-ups.”   The study gives one example of how favorable business climates may be negatively affected by new taxes.  For example, Kentucky, the study notes “rose through the ranks faster than any other state this year, up 14 spots from 34th best in the 2009 Index to 20th this year.”  What is interesting however is that Kentucky had no significant state tax changes.  Rather, as the study notes, “sometimes standing fast is a virtue.”  The author attributes the rise in ranks to the changes in the other states.   “Many economically damaging changes were enacted in other states that previously ranked better than Kentucky.”

The Losing States

The Foundation found that two of the three largest populous states ranked two of the worst three for their “Business Climate Index”, unsurprisingly California and New York.  The other bottom states include New Jersey, Michigan, Minnesota, Rohde Island, Vermont, Maryland and Ohio.

To provide an example of just how high the combination of state and local personal income tax rate that may be applied to a client may be, the study noted that persons living in Manhattan, New York pay the highest state and personal local income tax combination in the country 12.62%!  This figure does not include the other state and local taxes mentioned previously such as property and sales tax, nor does it take into account federal income tax, much less that often overlooked taxes of excise and gasoline.

For a detailed analysis of the tax and non-tax Advantages of a Close Corporation see AdvisorFX Main Library Section 14. Close Corporations G—Professional And Executive Corporations

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[1] The Tax Foundation.  2010 State Business Tax Climate Index (Seventh Edition) http://www.taxfoundation.org/research/show/22658.html.  Last Accessed 8/9/2010.

Tags: business planning, state tax

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