I read the story in the Los Alamos Daily Post regarding the Governor’s plan of “targeted tax relief” to New Mexico small businesses. Yeah. Nuts to that.
First it must be emphasized, and is never emphasized enough, that for the small business owner business Income IS personal income. More correctly business income minus costs of business = personal income. Since business income is taxed on gross receipts then no matter how you slice and dice it the personal income of a small business owner is taxed twice.
Second, it must be understood by the public that gross receipts tax is NOT a sales tax. It is a business income tax, which the State kindly allows businesses to pass on to the consumer. A sales tax is a tax on the consumer and must be paid by the consumer. (By the way — 42 states use sales tax — only eight use a gross receipts tax — and most of those are a modified form.)
Third, State personal income tax is computed based on the federal 1040 gross adjusted income (line 39 or 40 depending on what the Feds add or not to the line list to get to gross adjusted). For a self-employed person — and GRT applies to all self-employeds — the magic line 39 is obtained by starting with total income by type, including line 12, which is “profit from business”. It doesn’t say “total business income”, it says “profit from business” Sched C. Sched C starts with total income from business then deducts all costs of business to arrive at a personal income profit, which is then considered as part, or all, of line 39 gross adjusted income.
The Federal Government takes a cut of business income minus costs — net income. The State simply takes a cut of all business income.
Let’s crank some numbers. Assume the business earns $50,000 for the year. Assume that costs (based on federal allowable deductions enumerated in Sched C) equals $25,000 for the year. That 25,000 is the income that the business owner has available to pay for personal housing, food, personal transportation, personal insurance — all the same bills you pay out of your paycheck. Keep this in mind.
Here’s how it currently works:
The State gets 7.3 percent of 50,000 = 3,650. This counts as a business deduction as far as the Feds are concerned so the Sched C profit of 25,000 is reduced by 3,650 to 21,350. This also means personal income has been reduced to 21,350.
The Feds start at 21,350 on line 39 then deduct personal costs (or allow a standard deduction in lieu of chasing down every receipt one has collected over the year). Gross adjusted income minus the cost of being a human being = taxable income.
The State does likewise: 21,350 on line 39 minus what the State considers the legitimate cost of being a human being = state personal taxable income. Notice that while the State has already collected 7.3 percent on that 21,350 (as the penalty for not simply being an employee and drawing a paycheck like a normal person), it still insists that it is entitled to get a bit more out of the 21,350. The first time they got it they called it a business tax; the second bite at the apple is called a personal income tax.
Net result — the business owner who makes $50,000 gross winds up with a personal income after business costs and taxes of somewhere near the poverty line.
The Governor proposes to provide “tax relief” by allowing the business owner to deduct, as part of the costs of being a human being, the 3,650 from the 21,350. Isn’t that sweet? Doesn’t actually increase what the small business owner has available for paying the bills associated with being a human being, simply reduces, slightly (by about 4 percent) the amount of second bite taxes the State gets.
If New Mexico is at the bottom of any number of lists, which a state really doesn’t want to be at the bottom of, this would be a goodly part of why.
What is needed is a deduction from gross business income as representative of personal income — in recognition of the fact that business income minus costs really is personal income, which is used to pay the same bills as anyone has who does not own a business. If the politicians, regardless of party, seriously want to help small business they can institute a $35,000 deduction from total business income before applying any business tax.