FRANKFORT, Ky. — Don’t bank on the fact that small-town banks will survive – at least in Kentucky. The Kentucky Bankers Association told state lawmakers yesterday that the commonwealth’s tax structure is jeopardizing community banks.
Kentucky taxes its banks at a rate higher than any other state in the nation at an average effective tax rate of 13.3 percent, said bankers association President Ballard Cassady while testifying before the Interim Joint Committee on Banking and Insurance. He added that Indiana’s effective tax rate for its banks is 6.5 percent, Ohio’s is 7.74 percent and Tennessee’s is 9.33 percent.
Cassady said that is why banks in other states can buy Kentucky banks and essentially fund that purchase with tax savings. He explained that acquiring banks do this by reducing the number of employees, branches and moving investment portfolios to other states. Nine Kentucky banks have been purchased by out-of-state institutions since 2014, according to the bankers association.
To make matters worse, Cassady said, Kentucky is taxing its banks at a rate that is an average of 92 percent higher than it taxes any other corporation in the commonwealth.
But that 92 percent imbalance is just the average, Cassady said. For example, First Community Bank of the Heartland in Hickman was taxed at a rate that was 100 percent higher. First State Financial in Middlesboro was taxed at a rate that was 130 percent higher. Bank of Cadiz was taxed at a rate that was 200 percent higher. And Kentucky Farmers Bank in Ashland was taxed at a rate that was 1,000 percent higher, he said.
“When a bank’s capital remains at work locally, it ripples through local economies so as to be multiplied,” Cassady said of the importance of providing community banks tax relief. “Some economists say by as much as a factor of 10 – enlarging the local tax base and growing Kentucky’s tax revenue the right way.”
Senate Majority Caucus Chair Dan “Malano” Seum, R-Fairdale, asked for a clarification of the word “franchise” as used in describing Kentucky’s bank tax. Cassady said the use of the word is somewhat misleading because it doesn’t mean banks are franchised like many fast-food restaurants. He said the word “franchise” just refers to the industry-specific tax.
Rep. Joseph M. Fischer, R-Fort Thomas, said calling it a “franchise tax” is a misnomer. He said it is a “tax on capital.” Fischer then asked for a brief history of state tax policy on banks.
Cassady said the disparity between bank tax rates and all other corporations in Kentucky could be traced to a series of events that began in 1995. Before that, the taxes on banks and other corporations had different names but the overall rate differed very little, he said.
“In 1995, we had a court case that made its way from the Kentucky Supreme Court to the United State Supreme Court and back,” Cassady said. “Along the way, Kentucky’s method of taxing banks was found to be unconstitutional.”
In response, the industry employed tax professionals and lawyers to work with the state revenue cabinet to develop what is now called the “bank franchise tax” which at the time was the model being used in most states across the country, he said. The new model still taxed banks at about the same rate as other corporations.
“That all began to change in 2005 when Kentucky lowered the top tax rate on corporations from 8.25 percent to 6 percent with no change to the bank tax model – leaving banks at 8.25 percent,” Cassady said.
It only got worse with the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, he said. The federal regulations forced every bank to move more of their assets into capital, the primary component of the state bank franchise tax. Cassady said that immediately skewed state banks’ tax rate upward.
Sen. Morgan McGarvey, D-Louisville, asked what types of institutions are negatively impacted by the bank franchise tax. “Are you talking about the JPMorgan Chase of the world or Kentucky community banks?” he said.
Cassady said it is the state’s community banks that are being crushed by the franchise tax. “It is more than a 10-ton gorilla sitting on their chest,” he said. “They are not only burdened with the compliance costs that came out of the Dodd-Frank … but also the huge tax burden they are going to have at the end of the year.”
Sen. John Schickel, R-Union, asked what the state bankers association’s next step was in trying to get tax reform for their industry during the upcoming session. Cassady said his organization would be asking that banks be taxed the same way, and at the same rate, as other corporations in the commonwealth. He added that the organization would provide additional details of how they would like to see that transition take place during an upcoming Interim Joint Committee on Appropriations & Revenue.