Senate Budget Committee Briefed on Fiscal Effects of Local Income Tax Case

The Comptroller’s Office briefed the Senate Budget and Taxation Committee today on the state and local financial effects of a recent court case, Comptroller v. Wynne. The case focused on whether the failure to allow a credit against the county income tax violates the commerce clause because it discriminates against interstate commerce. The U.S. Supreme Court ruled recently in a 5-4 decision that Maryland’s income tax system, specifically the application of the local income tax, is unconstitutional and must be altered to grant more credits for Maryland residents’ out-of-state income.

In the presentation, the Comptroller’s Office explained the issue and the effects on the Comptroller’s Office and local governments. The Comptroller’s Office has estimated that it will review and process more than 10,000 protected claims and up to 50,000 amended tax returns. Protected claims are those amended returns that have already been filed by taxpayers with the Comptroller’s Office dating back to tax year 2007. Now that the case has reached its final decision point, current taxpayers will have up to three years to file amended returns for refunds. The Comptroller’s Office will review all amended returns closely for eligibility.

The decision will have severe fiscal consequences for local governments. Recent estimates indicate that up to $200 million in tax refunds could be likely, and the ongoing effect could be $40-50 million per year. To lessen the immediate fiscal blow and specify how the credit would be applied, the General Assembly adopted language in HB 72, The Budget Reconciliation and Financing Act of 2015 (BRFA).  The language specifies that the credit would be applied first to the state income tax and any remaining credit to the local income tax, consistent with the first set of refund estimates received from the Comptroller’s Office.

The refunds would be paid from the Local Income Tax Reserve Account (which protects the State’s general fund) with counties and municipalities reimbursing the account from quarterly income tax distributions in 9 equal installments. The reimbursements would not begin before June 2016. One reimbursement would occur in FY 2016, with 4 reimbursements in each of the next two fiscal years, FY 2017 and FY 2018.

In the 2014 session, the interest rate that would apply to these refunds was set at approximately 3.5%. This will save local governments approximately $40 million to $60 million.

Although the case has been decided and is now behind us, other issues may arise. Two potential law suits were mentioned during the briefing. One, could potentially be a class action suit to allow taxpayers to file amended returns back to 2007. The other suit could involve the reduction in the interest rate applied to refunds.