Personal Property Tax

In the fall of 1990, the Connecticut General Assembly passed legislation which provided personal property tax relief to manufacturers for a four year period. The new bill revises Subsection (72) of Sec. 12-81 of the property tax statues to expand the definition of certain terms and to provide definitions for terms not previously defined.

The property tax relief statute, as previously written, provided taxpayers little guidance as to what constituted exempt tangible property. Principally, it granted an exemption to property that was predominately used to manufacture, process, or assemble raw materials, parts or manufactured products. The new statute revises the exemption by defining terms in a fashion similar to the existing regulation for sales tax purposes which exempts machinery used directly in a manufacturing production process, while at the same time greatly expanding that definition.

Machinery for purposes of the personal property tax exemption means the basic machine itself, including all of its component parts and contrivances (i.e., operating structures, and all equipment used or required to control, regulate, or operate the machinery including, without limitation, computers and data processing equipment and repair parts, regardless of whether such parts are purchased separately or in conjunction with a complete machine. Machinery and equipment also includes tangible personal property predominantly used in fabricating and for measuring, testing, or metal finishing.

"Manufacturing" is newly defined to mean the act of converting or conditioning tangible personal property by changing its form, composition, quality, or character for ultimate sale at retail or for use in the manufacturing of a product to be ultimately sold at retail. Changing the quality of property shall include any substantial overhaul of the property that results in a significantly greater service life or significantly greater functionality within the original service life. Measuring or testing includes both nondestructive nd destructive testing (previously the statute presumably did not cover destructive testing). The revised property tax statute is applicable to assessment years of municipalities beginning on or after October 1, 1992.

Corporation Tax

The new law allows a credit against corporate income tax for research and experimental expenditures as defined in IRC Sec. 174. Sec. 174 allows taxpayers to treat research or experimental expenditures (R&E) which are paid or incurred during the taxable year as deductible trade or business expenses. Generally, R&E expenses must be undertaken to discover information that is technological in nature and the application of which is intended to be useful in the development of a new or improved business component or process of the taxpayer.

The credit for tax years commencing on or after January 1, 1993, and prior to January 1, 1994, is 10% of the amount spent by a corporation directly on R&E expenses which exceeds the amount spent by the corporation on such expenditures during the preceding taxable year. The credit for increasing expenditures in years beginning on or after January 1, 1994 is 20%.

In terms of measuring a taxpayer's actual R&E credit, certain questions remain unresolved. For example, will the credit only be allowed for research and experimentation performed in Connecticut? Or will the credit be reduced for those taxpayers who apportion only part of their taxable income to the state.?

Assume for example, that Corporation X, a Connecticut corporation, has operations in Ohio and Connecticut. The corporation apportions 60% of its taxable income to Connecticut and 40% to Ohio. All of the research and experimentation expenses generating a 10% credit are incurred in Ohio. Until further guidance is issued by the state,a literal reading of the new statute indicates that Corporation X can take the full 10% credit against the Connecticut tax liability calculated on 60% of its taxable income, even though no R&E activity is being conducted in- state.

Another new section of the Act allows a credit against corporate income tax for corporations that increase amounts spent training employees in Connecticut. This credit however, does not take effect Until 1995. Also, the new act does not outline what types of expenses are considered training expenses.

For 1995 the credit is equal to 50% of the amount spent during the year on such training which exceeds the amount spent in the preceding taxable year. The credit increases 5% a year to a maximum of 25% for tax years commencing on or after January 1, 1999.

A third new credit against corporate income tax is available to corporations that increase the amount spent on grants to institutions of higher education in Connecticut for research and development related to advancements in technology. This credit is equal to 25% of the amount spent which exceeds the average amount spent by a corporation during the three immediately preceding taxable years for such grants. The credit is applicable for tax years commencing on or after January 1, 1994.

Sales tax

The new bill also provides for a sales tax exemption of up to 50%, phased in over a four and a half year period, for certain newly exempt items. Generally, the language of the new section is similar to the language of amended Sec. 12-81, Subsec. (72) of the property tax statutes. Therefore, those items that are now fully exempt for four years for property tax purposes due to the broader definition of manufacturing, machinery, and equipment and that are beyond the scope of the existing sales tax regulation exempting items directly used in a manufacturing process, will now be exempt for a certain percentage of sales tax.

In one respect, however, the new partial sales tax exemption statute goes even further than the new property tax exemption or the existing sales tax perception. The new statute exempts machinery and equipment used at any stage of the manufacturing, processing, or fabricating process from the time any raw materials are received to the time the product is ready for delivery or storage, including overpacking and crating. Previously, machinery used to perform an activity prior to the first production stage of the manufacturing production process and machinery used to control or monitor an activity subsequent to the last production state were specifically defined as not used directly in a manufacturing process.

The phase-in period begins for sales/purchase made on or after January 1, 1993, and will be completed with the period commencing on or after July 1, 1996.

Many observers are critical of this new legislation as being "too little, too late." However, the new tax incentives are the first sign that the state legislature is giving more than just "lip service" to the threat of businesses relocating outside Connecticut to escape the growing burden of corporate and individual taxes.