The State Business Tax Climate Index, a flagship publication of the Tax Foundation, provides a comprehensive assessment of the competitive landscape of state tax systems across the 50 United States. This annual index, now in its 30th year, serves as a valuable resource for businesses, policymakers, and researchers seeking to understand the impact of state taxes on economic growth and business location decisions.
Key Findings of the 2024 Index
The 2024 State Business Tax Climate Index highlights several key findings, including:
- Top 10 States: Wyoming, South Dakota, Alaska, Florida, Montana, New Hampshire, Nevada, Utah, North Carolina, and Indiana emerged as the top-ranked states in terms of their favorable tax climates for businesses. These states generally feature low tax rates, broad tax bases, and minimal tax complexities.
- Bottom 10 States: Rhode Island, Hawaii, Vermont, Minnesota, Maryland, Massachusetts, Connecticut, California, New York, and New Jersey occupied the bottom ten positions in the index. These states often face challenges stemming from high tax rates, complex tax structures, and a limited scope of tax exemptions or credits.
- Notable Ranking Changes: The 2024 index witnessed several notable ranking changes compared to previous years, reflecting recent tax reforms and policy shifts in various states. For instance, Arizona and New York experienced significant improvements in their rankings, primarily due to reductions in individual income tax rates and other tax reforms.
- Upcoming Tax Changes: The index also acknowledges upcoming tax changes that are likely to influence future rankings. These changes include alterations to individual and corporate income tax rates, property tax reforms, and other adjustments aimed at enhancing the business tax climate in certain states.
The Role of Taxes in Business Location Decisions
The economic literature has extensively explored the relationship between taxes and business location decisions. Early theories, such as Charles Tiebout’s concept of “voting with their feet,” suggested that individuals would relocate to communities offering the most favorable combination of public goods and taxes. This theory highlights the role of local taxes in shaping individual decisions about where to live.
Businesses, driven by profitability, respond to taxes differently. Tax considerations play a more significant role in corporate decisions due to their potential impact on profitability. The economic literature over the past half-century has gradually converged on the notion that taxes indeed influence business location decisions. Studies and analyses have consistently demonstrated that taxes significantly impact the location of businesses, employment levels, and investment.
For example, research has shown that state taxes, particularly corporate income tax rates, can have a substantial impact on the location decisions of businesses. Studies have also highlighted the importance of property taxes and other local taxes in influencing business start-ups and growth. Furthermore, research indicates that businesses are sensitive to relative tax burdens and often engage in “yardstick competition,” comparing the costs of government services across jurisdictions.
The State Business Tax Climate Index Methodology
To effectively assess the competitiveness of state tax systems, the State Business Tax Climate Index employs a comprehensive methodology that incorporates five major components:
- Individual Income Tax: This component evaluates the impact of state individual income tax rates, bracket structures, and credits.
- Sales Tax: This component assesses the impact of state sales tax rates, exemptions, and credits.
- Corporate Income Tax: This component evaluates the impact of state corporate income tax rates, bracket structures, credits, and deductions.
- Property Tax: This component assesses the impact of state property tax rates, assessment practices, and exemptions.
- Unemployment Insurance Tax: This component evaluates the impact of state unemployment insurance tax rates, experience rating systems, and maximum taxable wages.
Each component is evaluated based on the impact of tax rates and tax bases, which are composed of scalar and dummy variables. To ensure fairness and reflect the relative importance of different components, components are not weighted equally but rather based on the variability of the 50 states’ scores from the mean. This approach allows for a more significant weighting of components with greater variability, reflecting areas of tax law where some states have substantial competitive advantages.
Additional Details About the Index
The State Business Tax Climate Index employs several additional features to enhance its effectiveness:
- Relative Scoring: The index utilizes a relative scoring system, ranging from 0 to 10, where 0 represents the worst among the 50 states. This relative approach facilitates meaningful comparisons among states with similar tax rates and provides valuable insights for businesses seeking the most favorable tax systems within their respective regions.
- Normalizing Final Scores: To address the variation in average scores across the five components, scores are normalized to bring the average score for all components to 5. This ensures that each component carries an equal weight in the overall index, allowing for meaningful comparisons between states.
- Time Frame (Snapshot Date): The index provides a snapshot of each state’s business tax climate at the start of the standard state fiscal year, which is July 1. Consequently, the 2024 Index reflects the tax climate as of July 1, 2023, corresponding to the first day of fiscal year 2024 for most states.
- District of Columbia: The District of Columbia is included in the index as an exhibit – and for the benefit of those who may operate businesses in Washington D.C. – but does not affect the scores or ranks of other states.
- Past Rankings and Scores: The report includes rankings from 2014 to 2023 for comparison with the 2024 rankings. Discrepancies in rankings and scores may occur due to retroactive statutes, methodological changes, or corrections to variables.
Conclusion
The State Business Tax Climate Index serves as a valuable resource for understanding the impact of state tax systems on business location decisions and economic growth. The index’s comprehensive methodology, encompassing five major tax components and incorporating relative scoring, normalization, and other features, provides a robust framework for assessing the relative competitiveness of state tax climates. While state tax structures vary significantly, the index effectively evaluates these diverse systems, offering insights for businesses seeking favorable tax environments and policymakers seeking to enhance their states’ economic attractiveness.
The index’s findings consistently demonstrate that states with lower tax rates, simpler tax structures, and fewer tax complexities tend to enjoy more competitive business environments. As the competitive landscape for businesses continues to evolve, the State Business Tax Climate Index remains a critical tool for understanding the role of taxes in shaping economic prosperity.
