Pass-Through Exemption Doesn’t Work for Kansas

Nathan Madden
Feb. 28, 2017

The controversial “LLC Loophole,” or pass-through income exemption from state income taxes, faces strong opposition for two reasons: it doesn’t work to stimulate business or employment growth. It also costs the state hundreds of millions in revenue that should be used to invest in schools, roads, public safety, and health.

By all measures of the pass-through income exemption, it has drastically missed the mark of being a “small business accelerator.” Previous analysis from KCEG demonstrated that this policy was a misstep from the beginning; not enough businesses saw a big enough tax cut to create even one modest-paying job.

Now, new data allows us to evaluate whether or not this piece of Governor Brownback’s tax policy is working to net the state more businesses and to grow jobs in those businesses. Put simply: it hasn’t on either account.

The net number of new business filings in the state for 2016 is actually behind 2015’s pace and still quite far below our pre-recession high of over 7,800 – back when pass-through entities still paid state income taxes.

Even though we’ve taken these businesses off the tax rolls, there is no evidence to indicate that pass-through entities in Kansas are adding jobs at a faster rate than our neighbors or the nation. In fact, despite the loophole that allows these businesses to pay no state income taxes, we’re actually lagging our border states and the nation in employment growth.

After almost five years, the point is clear: businesses don’t magically add jobs when they get a tax cut. Basic dynamics of supply and demand dictate that – it’s Economics 101. Further, for start-up businesses, tax policy is not a top concern; these companies seek a skilled workforce and high quality of life when they choose a place to get their businesses off the ground. How do you get those things? You invest: in high-quality schools, colleges, and universities, good roads to bring your products to market, and safe communities with access to strong health care. By giving pass-through entities a free pass on taxes, we’re doing the opposite of what new businesses desire as we cut from education and the safety net and sweep money from our highways.

The verdict is in and it is clear: the LLC loophole hasn’t delivered as promised and has helped throw our budget into chaos. We need to repeal this component of failed policy as part of a comprehensive tax reform package to get Kansas back on stable financial footing so we can all reinvest in our state.

ClayPass-Through Exemption Doesn’t Work for Kansas