A modest tax increase on insurers seemed to be the least of the Malloy Administration’s fiscal challenges in February. But it triggered a string of unintended consequences that threaten the complicated underpinnings of Connecticut’s emerging film industry: the market value of tax credits.
The unresolved dispute over a seemingly minor tax change is a story of how a new administration found itself in a thicket of competing interests: a financial services company in Louisiana, insurance giants in Hartford, and Twentieth Century Fox’s digital animation subsidiary, Blue Sky Studios of Greenwich.
“This is a very heavily lobbied issue,” said Benjamin Barnes, secretary of the Office of Policy and Management. Weeks after the legislature adopted a budget, the matter remains a subject of behind-the-scenes negotiation.
Buried in the record $1.5 billion in tax increases proposed on Feb. 16 by Gov. Dannel P. Malloy was a bump in the tax on insurance premiums, from 1.75 percent to 1.95 percent. The administration viewed the increase as the insurers’ contribution to what Malloy called the “shared sacrifice” to stabilize the state’s finances.
Major Connecticut-based insurers–Aetna, CIGNA, The Hartford, Travelers and United Health Care–say they didn’t object to the amount of additional taxes–anywhere from $645,660 to $1.2 million each, with a collective jump of $4.7 million. That was a relief to an administration with great hopes for growing jobs in one of Connecticut’s best-known industries.
But they did have a problem with the specific tax Malloy chose to raise that additional revenue.
And that brings us to the first unintended consequence in this tale.
The insurers warned that raising the premium tax would trigger a retaliatory tax by other states, costing them tenfold: For Connecticut to collect $4.7 million, the five would pay $49 million to other states.
Forty-nine states, including Connecticut, have retaliatory, or reciprocal, tax laws. The premise is simple: Keep a level playing field, so an Iowa company selling insurance to Connecticut residents isn’t taxed more on premiums than a Connecticut company selling in Iowa.
“If Connecticut increases its premium tax rate, Connecticut insurers doing business across the country will suffer increased retaliatory tax liabilities in numerous states,” Robert A. Kehmna of the Insurance Association of Connecticut warned the legislature’s Finance, Revenue and Bonding Committee. “The degree of impact will vary from insurer to insurer, based on the specifics of their business.”
As a result, according to the IAC, the big winners of the Malloy premium tax actually would be Texas and Florida, collecting $10 million and $8 million respectively from Connecticut insurers, who sell 90 percent of their policies outside the state.
That is one big unintended consequence, and it got Barnes’s attention.
The view from his desk is reminder enough of the importance of insurance to the administration’s hopes for job growth. Sitting at his computer, Barnes stares every day at thousands of insurance jobs in Aetna’s vast brick, neo-Colonial headquarters.
Happily, the insurers offered a compromise, an alternative way to tax them. They offered to to reduce from 70 percent to 30 percent the amount of their premium tax liability they could reduce by using tax credits.
The state would get needed revenue. The insurers would avoid a retaliatory tax. A win-win, right?
It resolved the insurers’ problem, but created one for two other industries: brokers of tax credits, and the film production business, including Blue Sky and other companies, such as ESPN, NBC Universal and World Wrestling Entertainment.
And that brings us to a second unintended consequence.
The tax credits promised to Blue Sky are worth far more than the company’s own tax liability. But they are transferable, so the real value is what they can fetch on the open market from other companies looking to decrease their taxes.
Companies like insurers.
Barnes said an insurer looking to offset its premiums tax liability can buy film tax credits for, say, 85 cents on the dollar.
“It gives them this ability to go out and buy 85-cent dollar bills.,” Barnes said. “If you could do that a few million times a year, you’d be happy to do it.”
The recipients of film tax credits–technically, Blue Sky is the recipient of a separate credit for animation–love selling to insurers. It is a stable industry, whose book of business does not fluctuate with the economy. And it is full of executives who understand the investment business.
“The insurance premiums tax is the darling of the film-tax credit folks,” Barnes said.
So, in April, when Malloy and legislative leaders announced a revised budget deal, the recipients of film-tax credits were distressed to see the insurers now would be able to use credits toward only 30 percent of their tax liability.
With the cap dropping from 70 percent to 30 percent, the market for film credits was devalued.
No one will say publicly, but Barnes said that the film lobby immediately suggested they had been betrayed by the insurance lobby.
But the Hartford insurers are not in the film credit market. They had reached their 70 percent cap using a credit for their electronic data processing equipment, a provision inserted into the state tax code in the 1990s by House Speaker Thomas D. Ritter of Hartford as a way to keep insurers from bolting the city over personal property taxes.
The market for the credits lay with out-of-state insurers who do business in Connecticut.
The impact on Blue Sky seemed potentially dire. The company is owed $1.5 million annually in credits for 10 years, and proceeds from the sale of those credits were built into the business plan for moving to Greenwich and building a new studio.
What’s worse, Blue Sky has a long-term contract with a syndicator, Stonehenge Capital of Louisiana, which is committed to buying and reselling the credits. But the long-term contract can be abrogated if the cap on the redemption value of those credits drops below 50 percent. And Malloy dropped it to 30 percent.
Days after Malloy and legislative leaders released revisions to his proposed budget and tax package, two lobbyists, Patrick McCabe and P.J. Cimini, escorted a Blue Sky executive into Malloy’s office to personally explain.
Cimini said that neither he nor his client had any comment on the issue.
But Mark Brennan, a lobbyist who represents Stonehenge and ESPN, said the administration was trying to find a way to avoid devaluing the credits. The Department of Economic and Community Development has joined the talks.
“I am reasonably confident we are going to end up in a good place,” Brennan said.
Brennan, a lobbyist for 17 years, said the cascade of unintended consequences seen in this case is not surprising, especially since it grew from a new administration trying to close a deficit of more than $3.2 billion.
“The fact there have been only a couple of hiccups is remarkable,” he said.
Malloy already had his doubts about the reach of the state’s six-year-old film credit program
Blue Sky Studios relocated to Greenwich two years ago as the state’s film tax credit program was coming under fire. Critics said it was so generous that only 11 percent of the $113.2 million spent on tax credits went for “actual Connecticut expenditures.”
Malloy has proposed curtailing the tax credit program, but he was happy to join Blue Sky executives and former Sen. Christopher Dodd, the new chairman of the Motion Picture Association of America, in celebrating Blue Sky and its new release, Rio.
“This is the poster child for what we want done in Connecticut,” Malloy said, noting that the credits prompted a company to locate and build in the state.
But Barnes said the price to attract Blue Sky was high: At $1.5 million a year for 10 years, the 400 jobs at the studio cost the state $37,500 each. Barnes acknowledge the per-job cost will drop as more jobs are added, but it remains an expensive economic development tool.
Barnes said the administration is working to protect the value of Blue Sky’s credits, without further unintended consequences.
“It’s an interesting puzzle,” he said.