by ADAM BRUNS
eptember 2004
saw hurricanes on two coasts and a major earthquake on another,
but it was a federal appeals court decision in the U.S. heartland
that packed an economic development wallop still awaiting measurement.
On Sept. 2, the U.S. Court of Appeals for the
Sixth Circuit — whose jurisdiction encompasses automotive corridor
states Michigan, Ohio, Kentucky and Tennessee — ruled after 19
months of deliberation that the State of Ohio's machinery and equipment
investment tax credit program violates the Commerce Clause of the
U.S. Constitution. The same ruling
 |
| At press time, the Toledo
DaimlerChrysler plant at the heart of the court decision
was proceeding with an expansion announced this summer. |
determined that the state's property tax abatement program passed
federal and state muster.
An immediate move was made to file an en
banc petition, placing the case — Charlotte Cuno, et al. v.
DaimlerChrysler,
Inc., et al — before the entire 13 active judges on the Sixth
Circuit's roster, rather than just the panel of three that issued
the ruling. Whether ruling on that petition will be expedited
remains to be seen. In the meantime, professionals on all sides
of the site selection equation are scrambling to determine what
the ruling means in the short and long term for projects either
already under way or pending across the country. Many of them
saw some confounding rationale in the 18-page document.
"It's a very broad and troubling decision,
based on peculiar legal reasoning," says Jay Biggins, managing
director, national incentives, for Stadtmauer Bailkin Biggins,
based in Princeton, N.J. "It injects uncertainty into a process
that craves predictability. It's turned a lot of planning involving
billions of dollars on its head."
Briefs of support for Ohio and DaimlerChrysler
have been filed by a wide cross-section of industry players. That
includes the United Auto Workers, whose membership includes 3,628
active members at the Jeep plant in Toledo, Ohio, where incentives
related to its 1998 construction precipitated the lawsuit. The
original project was a $1.2-billion blockbuster, and the company,
along with several suppliers, just announced another $900-million
investment in the complex in the summer of 2004.
"We don't expect it to derail the project,"
says Eileen Granata, interim COO for the Regional Growth Partnership
in Toledo, noting another ongoing expansion at Libbey Glass. In
fact, Toledo industrial activity is booming at its highest level
in years. As for other prospects, "it's early to say it's driving
projects away," she says, but it "hasn't been a helpful part of
those discussions, particularly against other states not in the
sixth district. Look at projects in which we're competing with
Indiana — we have seen that in a couple of those cases, we're
significantly more at risk. From a manufacturing standpoint, one
of your biggest tools is suddenly gone."
In contrast to the court panel's apparent
aim to level the proverbial playing field, the UAW attorneys note
that the decision, by not taking into account the historical development
of different states' economies, "creates a situation in which
the playing field has not been leveled but rather has been tilted
— even if unintentionally — in favor of some states."
The brief goes on to cite a 2003 study by
the Center for Automotive Research: Because of differences in
how their regional economies have developed, northern states offer
incentive packages averaging 83 percent tax abatements and 13
percent infrastructure improvements, while southern states' packages
include only 38 percent tax abatements, 44 percent infrastructure
improvements and 18 percent employee training and recruitment.
Other briefs in support come from Nissan
North America and Ford Motor Co.
 |
| DaimlerChrysler and
the State of Ohio are receiving across-the-board support
from rival manufacturers and states alike. |
Prelude to Tax Reform?
"Stunned" was one adjective used by Bruce
Johnson, director of the Ohio Dept. of Development, and others
in describing their reactions to the ruling." 'Curious' would
be another one," Johnson tells Site Selection, "and frankly, reading
the decision doesn't give me any more confidence."
Johnson appeared with other dignitaries in
Columbus in September to honor Honda's 25 years of operations
in the state, including five plants and a major R&D center. Part
of the festivities was devoted to noting that for every dollar
of the $27 million in direct incentives Honda has received in
that time, the company has invested $226 in Ohio operations. But
away from the spotlight, "the manufacturing community is extremely
concerned about it," Johnson says of the ruling. "How do we handle
our credits already offered? How is the state tax department going
to handle various filings?"
"The only way to compete on a global basis
is to keep costs down for these companies," says Michael Mullady,
senior associate with the Industrial Properties division of CB
Richard Ellis, based in Columbus, Ohio. "Issues with labor rates
or tax incentives are typically why we're losing." He says " 'our
abatements are burning off, so we're moving' " is a constant threat,
but notes that "the states do a great job of balancing out each
other on incentives."
As several experts point out, the language
of the decision casts no aspersions on direct subsidies —"according
to this decision, just handing them cash is okay," says Johnson.
This and other aspects of incentives will no doubt be front and
center on the agendas of several state legislatures.
"In the spring, the legislature will have
to confront this," says Johnson, hopeful of comprehensive tax
reform that addresses "lowering rates, broadening the base, reducing
the penalty on capital expenditures and regulatory reform too."
Meanwhile, he doesn't want to exaggerate
the impact on Ohio's competitiveness of this one legal ruling:
"We think Ohio started out and continues to be competitive," he
says. "The bottom line is how do we encourage people to make investments
in our state? Some [incentives] create jobs and some just create
productivity. Both are critically important."
In the Same Boat
In some ways, Granata adds, DCX and others
are as worried about the effects on other states as much as Ohio
— in Michigan, a machinery and equipment tax credit is part
of the single business tax. Michigan Economic Development Corp.
was indeed one of many filing briefs in support of the petition.
And that's fitting, since its chief, Don Jakeway, was not only
at the helm of RGP when the original Jeep deal was negotiated,
but headed the Ohio Dept. of Development when the investment tax
credit program under scrutiny came into being.
"This is the first real win for folks that
really don't want anybody to do anything in this arena," he says.
"I'm not pushing any panic buttons, and I'm not recommending anybody
else do that, yet it's very important we be proactive and step
forward and be supportive, because the issues that are going to
be addressed are very important issues, whether this is Ohio or
Michigan or Arizona or Louisiana or Mississippi. This could represent
a rather dramatic change in how economic development has taken
place for at least as long as I've been doing it, over 20 years."
Jakeway is concerned about the level of risk
now introduced into both past and prospective investment agreements.
And he's concerned about a setback for economic development professionals,
who he says have come a long way in not only professionalizing
their methods, but in making incentives performance-based — something
often lost on incentives critics.
"These are the kind of programs that turned
around Ohio's entire economy in the 1990s," he says. "Tax credits
were used for people to spend their money when we needed them
to do it. They worked. Every company that got to take advantage
of them would tell you that. And a lot of factors calculated into
that ROI."
"The arguments they used for the interstate
commerce clause being violated could have been applied to any
tax structure a state has," says Brian Corde, director, location
strategies, for New Jersey-based incentives negotiation and site
selection firm, Mintax. "In the state of Ohio, they use a mulitiple
factor apportionment scheme. The argument would be 'If I build
this facility in Ohio, by doing that I'd create tax, increase
the factor, and increase tax in that state. Why shouldn't Ohio
reduce my tax then?' They're just giving back a portion of what
they're taking anyway." (Ohio's apportionment scheme is 60 percent
sales, 20 percent payroll and 20 percent property.)
Consulting firms like these are analyzing
the ramifications for similar credits offered in more than 40
states, "and we are exploring alternative transaction structuring
strategies which would safeguard projects from this uncertainty,"
says Biggins.
The Ultimate Authority
Several experts point out that tax systems
themselves, with their varying apportionment formulas, create
incentives to be in one state or another. In other words, it's
not that big a leap from the particulars of this one case to the
general principles that it calls into question. But don't make
the leap too fast, cautions Corde.
"The broad ramifications of this decision
probably aren't as widespread as some people would like to believe,"
he says, describing how many companies may not reach the tax level
that causes the credits to kick in that quickly.
But the fact that the original case was backed by
a Ralph Nader-affiliated group means the threat of similar suits
in other circuits is very real. And Jay Biggins says the protracted
length of time it may take the en banc petition to slog through
the legal process only further destabilizes decision-making.
Allusions made in the ruling to Supreme Court
statements prompt the question on many minds: Will the question
of incentives — like the question of eminent domain currently
before the justices — eventually get an answer from the country's
highest judiciary authority? Jakeway and others say that's a possibility.
If it does, Jay Biggins volunteers some historical context.
"Most litigation surrounding the Commerce
Clause occurred within the first 50 years of its adoption," he
says, "when all the states were still trying to get used to the
pre-emptive power of the federal government. This is an anachronistic
interpretation of the Commerce Clause."
The panel of judges, he goes on, "purports
to premise the decision on an economic reality test, when the
economic reality is that any state that chooses to compete for
incremental investment can do so. States determine where on the
playing field they want to stand. Companies determine what states
they want to locate in. It is an open, free, functioning and
efficient market, best left alone."
