U.S. court decision exposes dirty secret of state tax breaks

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September 12, 2004|By JAY HANCOCK

A FEW YEARS ago, Peter D. Enrich was working for Massachusetts, drafting tax discounts for companies threatening to move out of state unless they got corporate welfare.

Being a Harvard-trained lawyer, he thought: This is unconstitutional.

Being a state employee reporting to politicians who loved getting corporate contributions and credit for "saving" jobs, he shut up and got the laws passed.

But these days he is atoning. Now at Northeastern University in Boston, Enrich is behind this month's court decision striking down Ohio tax breaks that are similar to high-profile business incentives offered by Maryland, Massachusetts and dozens of other states.

The opinion, by a panel of the Cincinnati-based U.S. Court of Appeals for the 6th Circuit, has gotten little attention outside the Midwest. But if upheld, it could reshape economic development incentives nationwide, and it has already caught the eye of Maryland officials.

"We acknowledge that this reasoning, if adopted by the 4th Circuit [affecting Maryland], would be a problem for us," says Laila Atallah, top lawyer for Maryland's Department of Business and Economic Development. "But as things stand now, we still believe that our program is constitutional."

Corporate welfare critics on the left and right hope the Ohio decision is a landmark in dismantling what has become an unfair, two-tier state tax system: Tier 1. Subsidies and tax cuts for companies demanding them as a condition for moving to or staying in your state. Tier 2. Sticker price for everybody else.

"Among tax scholars, it's sort of like the emperor's new clothes," says Enrich, a law professor who helped litigate the case for several Ohio small businesses. "Everybody was waiting for somebody to point out that these provisions were unconstitutional."

Unconstitutional they are, the 6th Circuit judges pointed out Sept. 2. The three-judge panel exposed the dirty little secret of state-based preferential business incentives: They violate the Constitution's commerce clause, which gives the federal government, and only the federal government, the power to regulate interstate economic activity.

The panel ruled unanimously that tens of millions in investment tax credits granted to a DaimlerChrysler Jeep plant in Toledo, Ohio, unconstitutionally discriminated in favor of in-state capital projects and against out-of-state ones.

This nation's founders wrote the commerce clause to keep states from levying tariffs and waging other kinds of trade wars against each other. Historians view the language as being decisive for the developing country's cohesiveness and eventual transformation into an economic powerhouse.

The 6th Circuit judges found that Ohio's investment tax credit, which sharply cuts tax bills for DaimlerChrysler and other firms that build plants in the state, was illegal commercial meddling. Think of it as an interstate export subsidy for Ohio-made Jeeps.

"For those of us who have been working on this issue for a long time, this is potentially a very big deal," says Greg LeRoy, head of Good Jobs First, a Washington-based, union-backed incentives watchdog.

"Potentially" is a key word: Ohio has appealed the case to the full 6th Circuit, and then the ruling would have to be upheld by the Supreme Court to apply nationally.

Maryland grants investment tax credits in connection with its enterprise zone program and with the 1999 One Maryland plan, both of which encourage business projects in underdeveloped areas. The state also has granted at least $4 million in job-creation tax credits under a 1996 law that also is threatened by the 6th Circuit decision.

"It will be very interesting, and we will be eagerly awaiting any action by the Supreme Court on this issue," says DBED's Atallah.

Even if Enrich and his clients lose, state corporate welfare ought to be vulnerable to other assaults. A double-standard tax system violates another constitutional provision - the 14th Amendment's promise of equal treatment under the law for everybody. And emoluments such as the multibillion-dollar package granted recently by Washington state to Boeing Co. patently violate World Trade Organization rules against international export subsidies.

You want to cut business taxes? Fine, cut them for everybody. Don't play favorites.

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