Blockbusters Buried in “Tax Administration”

by Tom Yamachika, President, Tax Foundation Hawaii

Every year, our Department of Taxation submits bills to the Legislature for their consideration. Those bills are included in the Governor’s Package. Under our laws (section 231-3(7), HRS), the Department is supposed to recommend “any amendments, changes, or modifications of the laws as may seem proper or necessary to remedy injustice or irregularity in taxation or to facilitate the assessment of taxes.”

So the Department of Taxation is sponsoring SB 3145 and HB 2177 (same bill, introduced in both chambers of the legislature) “Relating to Tax Administration.”

That bill contains a few things that do sound like boring administrative stuff. It expands the Department’s authority to require electronic filings. It makes professional tax preparers file returns electronically. It takes away the fee for certified copies of tax clearances (but that doesn’t affect the Department’s ability to charge for tax clearances themselves, even though they don’t charge for them now).

Then we get to penalty enhancement. This is where the bill starts getting scary.

First, it says that late filing penalties, which are now 5% a month but are capped at 25%, can go to 75%. That wouldn’t be relevant to most of us who are diligent and file our taxes on time all the time, but if a person falls off the system for one or two years for whatever reason, the penalties can get pretty intense. Right now, unlike in the federal system, a taxpayer who misses a return can and occasionally does get written up for 70% penalties (25% for failure to file, 25% for negligence, and another 20% for substantial understatement). Penalties are added to the tax and bear interest at 8% just like tax, so everything adds up quickly. The bill would change the 70% to 120%, more than the tax owing.

Next, it adds a new penalty for returns that are late but that do not show tax due (including situations where the government owes the taxpayer money). Those returns aren’t currently penalized. The bill gives the Department the authority to impose a penalty anyway and determine the amount of that penalty itself without further legislative action.

Next, it takes aim at informational returns where no tax is due. These would include the Hawaii versions of Form 1099 and Schedule K-1. If these forms aren’t filed on time, the penalty is $200, times the number of recipients of the forms, times the number of months that the returns are late. The federal code has a version of this penalty in place and the Department’s saying that it’s high time we adopted it too.

It then makes a grab for interest on money paid on disputed taxes on appeal. Occasionally folks don’t agree with the Department’s assessment of tax due, and the system allows the taxes to be paid and set aside while the courts or the Board of Review determine who is right. The bill says that if the taxpayer wins, the State will pay the taxpayer 4% on the money held if the taxpayer is an individual, 3% if the taxpayer is a corporation getting back less than $10,000, and a measly 1.5% if the taxpayer is a corporation getting back more than $10,000. But if the taxpayer wins, it’s the taxpayer’s money so why is the State allowed to profit by giving the taxpayer a below-market interest rate? The Hawaii Supreme Court used to have a rule saying that because the money is held in a special account, the actual earnings in the account attributable to the taxpayer’s money would be refunded to the taxpayer if the court ruled in the taxpayer’s favor. Perhaps we should go back to that rule.

Both the House and Senate bills are alive at this point in the legislative session. We’ll give you more session updates in the coming weeks.