Beware of Changes in State Tax Laws

3/18/2010

By David J. Bayens, CPA

All states are in a financial bind. Along with chopping expenses, they are looking for ways to raise additional revenue any way they can. For banks that are subject to state income taxes, tax law changes may lead to surprising consequences.

As a case in point, the State of Colorado, as part of a revenue-raising package, recently passed a bill that limits the amount of a net operating loss (NOL) carry forward that may be deducted from taxable income to $250,000 per year. This limitation is effective for three years, starting in 2011. The effect of this is that income that would otherwise be sheltered would now be subject to state income taxes.

There can also be a “double whammy.” Loss carryforwards are one of the components of a deferred tax asset. For regulatory capital purposes, the amount of a deferred tax asset that may be included in Tier 1 capital is limited to the tax benefit that the bank would expect to realize within one year. In other words, any excess amount included in the deferred tax asset must be deducted from Tier 1 capital. So, even if a bank has millions of dollars of state NOL carryforwards, the maximum amount of the deferred tax asset related to this component would be limited to the tax benefit related to the allowable carry forward of $250,000. For banks in this situation, this could result in a “haircut” to Tier 1 capital.

Bankers and other members of the business community are concerned about state and local tax policy. They realize it is necessary to adequately fund government, recognizing, however, that being perceived as “anti-business” can stifle growth and recovery. Bankers should also carefully assess the full impact that tax law changes can have on their banks.