2021 Arizona Legislative Report: Financial Focus

By Ryan DeMenna

From the outside looking in, it appears that the Arizona State Legislature doesn’t have much focus. To some extent, this is true. There’s a lot happening. But there are always a few policy areas that eventually receive lawmakers’ undivided attention.

This year, state lawmakers focused a lot on the state’s election procedures in the wake of the 2020 General Election. But it’s safe to say that you’ve already heard more than enough about that.

Lawmakers also focused quite a bit on tax policy. When compared to previous legislative sessions, their focus on tax policy was greater than ever.

Close observers of Arizona politics likely recall that when Governor Doug Ducey was first elected in 2014, he promised supporters he would do everything he could to reduce, if not eliminate, the state income tax.

Over six years later, and with less than 18 months left in office, Governor Ducey is closer than ever to achieving that goal.

The recently enacted $12.8 billion state budget included a “flat tax” of 2.5% that will be phased in over three years – assuming certain state revenue “triggers” are met. The flat tax eliminated the state’s progressive taxation system that ranged from 2.59 to 4.5%.

Proposition 208, an initiative approved by Arizona voters that imposed a 3.5% tax surcharge on high-income earners, spurred the renewed focus on a flat tax. The revenue produced by the surcharge is intended to boost the salaries of teachers and other school employees. Proposition 208 would have raised the top tax rate to 8%, but the flat tax ensures that individuals with income above $250,000 and couples with income above $500,000 will pay no more than 4.5%.

In the wake of his legislative victory, Governor Ducey has already hinted that more income tax reductions are coming.

The flat tax, however, wasn’t the only noteworthy policy change in the state’s financial realm.

Senate Bill 1783, sponsored by Senator J.D. Mesnard (R-Chandler), will create an alternative income tax on certain businesses, retroactive to Jan. 1, 2021. The legislation provides an option for individuals to be taxed under either the regular individual income tax or the alternative income tax created by SB 1783.

Proponents of the measure have claimed that the legislation was not in response to Proposition 208, but it’s not easy to argue that point.

An individual who elects to be taxed under SB 1783’s alternative income tax is not subject to the 3.5% surcharge created by Proposition 208, and the taxes collected under SB 1783’s alternative income tax will be deposited in the State General Fund.

Unrelated to Proposition 208 and in response to a provision included in the 2017 federal Tax Cuts and Jobs Act (TCJA), lawmakers across the country have introduced State and Local Taxes (SALT) “parity” legislation.

In Arizona, Representative Joe Chaplik (R-Scottsdale) sponsored legislation that will create an optional entity-level income tax for partnerships and S corporations. Retroactive to Jan. 1, 2021, if the partners or shareholders of a pass-through entity (PTE) elect to be taxed at the entity level, the PTEs would be taxed at 4.5% of their Arizona taxable income. Under the TCJA, the amount of itemized deductions that can be claimed is limited to $10,000, but this election will allow PTEs to claim the full deduction on their federal partnership return for state taxes paid at the entity level.

With this legislation in place, Arizona joins roughly 20 other states that have adopted SALT parity legislation since the TCJA took effect.

The Arizona Society of CPAs (ASCPA) plays a critical role in the policymaking process, and given the focus on tax policy, the ASCPA was more central to the process than ever.

This session, the ASCPA and the Tax Legislation Review Committee tracked and provided feedback to lawmakers on over 120 bills.

The ASCPA also sponsored an event hosted by the Arizona Capitol Times, called the Morning Scoop. Morning Scoops cover various hot-button topics throughout the year, and this particular Morning Scoop focused on Arizona’s tax climate.

The panel of tax experts included the ASCPA’s Past Board Chair, Jared Van Arsdale, and the panel discussion served as a terrific platform to educate state lawmakers – especially the newbies – about the importance of income tax conformity and getting it done as far in advance of Tax Day as politically possible.

Changes made at the federal level, however, made this year’s conformity effort an especially heavy lift. Full conformity meant that Arizona would be conforming to every change made to the Internal Revenue Code, which included the Families First Coronavirus Response Act, the Coronavirus Aid, Relief, and Economic Security Act, the Paycheck Protection Program Flexibility Act, the Consolidated Appropriations Act, and the American Rescue Plan Act. The resulting price tag in Arizona for full conformity was estimated to be in excess of $620 million.

With that hefty price tag in mind, conformity was going to be folded into the broader budget discussions, which typically don’t occur until late May or June – well after the filing deadline has passed.

It was the ASCPA, however, that informed state policymakers that federal relief funds could be used to backfill any hit to the state’s coffers. When lawmakers learned that they could treat conformity separate from the budget discussions, full conformity advanced and was signed into law by Governor Ducey on April 14 – well in advance of the May 17 delayed filing deadline.

It’s safe to say that the 2021 session was unlike any other as lawmakers conducted nearly every aspect of the policymaking process virtually. Adjusting to this new dynamic was not easy, but the ASCPA didn’t skip a beat in pivoting from in-person to digital advocacy efforts.

The ASCPA’s new President and CEO, Oliver Yandle, along with the ASCPA’s Director of Government Relations, John Baumer, did a terrific job of enhancing the ASCPA’s advocacy efforts in today’s digital environment.

An overarching and ongoing goal of the ASCPA is to ensure that members are in the know when it comes to the Legislature, regulation of the profession, and state politics, and Oliver and John launched a number of advocacy efforts that do just that. These efforts include: • Inside the Legislature – Interviews with legislators that provide short video and audio updates to members with relevant, timely information; • Tax Talk – An annual post-session panel of lawmakers and tax experts who review and discuss any recent tax-related changes enacted that year; and • Advocacy Roundtable – An annual event connecting ASCPA members with their state lawmakers.

Advocacy at the legislature is more important than ever. Knowing this to be the case, Oliver and John rose to the challenge in this virtual environment and worked to ensure that the ASCPA had the structure and team in place necessary to continue making a meaningful impact in the policymaking arena.

The successes of the 2021 legislative session, in light of the unprecedented circumstances, only serve to reinforce that the ASCPA is the gold standard for advocacy at the Arizona State Capitol. l

Ryan DeMenna is a partner with DeMenna Public Affairs, the ASCPA’s lobbying firm. For more information, contact www.demenna.com. For more information on the tax package and ASCPA Tax Talk, refer to page 14..