Illinois House proposes ‘privilege tax’ on investment managers

Illinois House proposes ‘privilege tax’ on investment managers

House Bill 3393 would impose a 20 percent surcharge on fees earned by investment managers.

Illinois’ unemployment rate hovers above national and regional averages, and its out-migration rate surpasses that of every state in the region. Record amounts of income-earning power have left the state in the last five years. Yet lawmakers in Springfield have proposed a slew of new taxes and tax hikes in the first three months of 2017, which would encourage even more employers and residents to flee the state.

House Bill 3393, a “privilege tax” proposal from state Rep. Emanuel Chris Welch, D-Hillside, would hit partnerships and S corporations engaged in investment management services with a 20 percent tax on fees earned from their investment strategies.

The measure is intended to compensate for a federal provision that taxes carried interest earned by investment firms at the capital gains rate, rather than at the higher ordinary income rate. HB 3393 provides that the Illinois privilege tax would cease if Congress passes and the president signs a comparable bill changing federal tax law.

HB 3393 would take effect in July, and proponents estimate the privilege tax would bring in $473 million in revenue. The measure passed out of the House Revenue and Finance Committee March 23 on a party-line vote, with seven Democrats voting in favor and four Republicans voting no. The bill now heads for a hearing by the full House.

Groups such as the Chicago Teachers Union have demonized those in the financial sector for their “outsized fund earnings” and have long backed plans to force investment managers and “the rich” to pay their “fair share” of taxes.

In their zeal to get investment managers to pay up, the backers of HB 3393 would drive financial firms, many of which are highly mobile, out of the state. Many firms in Illinois’ venture capital industry, which provides financing for the tech sector among other job creators, would head for the exits rather than pay the new tax, according to Wirepoints Illinois News.

And while HB 3393’s sponsors have portrayed the bill as taking aim at wealthy hedge fund managers and private equity partners, the bill has broad wording and could reach small-shop retirement investment advisers, according to Taxpayers’ Federation of Illinois President Carol Portman in a statement to Illinois News Network. These advisers would likely pass the tax’s costs down to customers.

While Senate Bill 1719, a similar measure in the Illinois Senate, provides that the tax would take effect only when comparable legislation passes in New York, New Jersey and Connecticut, HB 3393 contains no such language. If HB 3393 were to become law, Illinois would stand alone among states with large financial sectors in imposing this tax on investment managers’ fees.

And even if those states also imposed new taxes on investment managers, states are not just competing against each other. Illinois competes for jobs with other countries, too.

 The poorly thought-out nature of the bill is further reflected in the fact that it fails to account for what’s known as apportionment. That means the Prairie State would tax income that is already properly taxed by other states, in violation of the U.S. Constitution. As the bill imposes an additional tax on fees earned by investment managers, it may also violate the Illinois Constitution’s income tax provision, which states that “[a]t any one time there may be no more than one such tax imposed by the State for State purposes on individuals and one such tax so imposed on corporations.” The bill would almost certainly face legal challenges if enacted.

Rather than seeking to punish successful firms and business people, Illinois policymakers should focus on structural changes to increase the state’s competitiveness and make it hospitable to job creators. Instead of calling for “soak the rich” taxes that would be self-defeating in driving economic activity and taxpayers out of the state, lawmakers should address the state’s out-of-control pension and retiree health care liabilities and government worker costs that drive incessant demands for more revenue.

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