State budget deal includes tax increase for Microsoft

The budget deal agreed to by state lawmakers this week quietly targeted Microsoft for a $57 million tax increase over the next two years, and the Redmond software giant is apparently willing to go along with it.

They haven’t advertised it, but the budget deal agreed to by state lawmakers this week quietly targeted Microsoft for a $57 million tax increase over the next two years.

And the Redmond software giant — which has drawn criticism over its corporate tax tab — is apparently willing to go along with it, raising no public objections.

The Microsoft-specific tax boost was written into the budget pact in the waning days of the Legislature’s special session as Republican and Democratic negotiators agreed to close a few tax breaks and increase delinquent tax penalties to raise $185 million in new revenue.

The tax change was referred to only obscurely in the budget-deal summary that lawmakers released, which referred to repeal of a “software machinery & equipment sales tax exemption.”

But bill language underlying that change made it clear the tax break would end just for a particular “ineligible person” — defined in Senate Bill 6138 as a software company with more than 40,000 employees in Washington that has been around since at least 1981.

Only Microsoft fits that description, state officials confirm. Other companies can continue to claim the sales-tax break enacted in 1995, which exempts manufacturers and software makers from paying sales tax on equipment they buy to help make their products.

The Legislature has frequently granted tax breaks for big employers in the state — most notably the 2013 extension of $8.7 billion in tax preferences for Boeing to secure manufacture of the 777X jet in Washington.

But targeting a single company for a tax increase? “Yes, it is unusual,” said Drew Shirk, assistant director of the state Department of Revenue. “I can’t think of (another) one.”

Also unusual is Microsoft’s agreement to waive taxpayer confidentiality so that state budget analysts could disclose the amount of estimated additional taxes that will be paid by the company.

In the next two years, the change will boost Microsoft’s state tax bill by $57 million, the state estimates. Over four years, the company will pay an additional $128 million.

That’s pocket change for a company that reported revenue of nearly $87 billion and profit of $22 billion in fiscal year 2014. But it was among the largest tax exemptions closed by state lawmakers this year — and the only one that singled out one corporation.

In an emailed statement, DeLee Shoemaker, Microsoft’s senior director of government affairs, confirmed the company expects to pay the higher tax amounts once the bill is enacted. Legislators approved the tax legislation this week, and it was awaiting a signature by Gov. Jay Inslee on Wednesday night.

Shoemaker did not say whether the company supported or opposed the tax shift — but lawmakers would have been unlikely to impose the higher tax if the company had objected.

The $38.2 billion two-year operating budget agreed to by lawmakers was negotiated in part by two former Microsoft employees.

“We had a discussion with them about this, and they didn’t object to it,” said state Rep. Ross Hunter, D-Medina, the chief House budget negotiator, who worked for Microsoft for 17 years.

“When we looked at the tax exemptions, we were looking at ones that would do the least amount of economic damage. This was one that did not cause economic damage,” said Sen. Andy Hill, R-Redmond, also a former Microsoft manager.

While Microsoft executives have pushed the state to better fund its transportation and education systems, the company has at times been slammed by critics who point to its efforts to lower its tax burden — including by shifting its software-licensing unit to Nevada in the 1990s.

In a March interview, Microsoft’s general counsel, Brad Smith, indicated some willingness for the company to pay more in state taxes. While not commenting on the sales-tax exemption, which had not yet publicly emerged, Smith said Microsoft was open to proposals to cap tax credits for research and development, for example.

“We’re comfortable getting less than we used to,” Smith said. He added “of course if our taxes are going up, we would really like the money spent well, which from our perspective would mean actually investing in education and transportation but doing it with a strong sense of accountability.”

The final state budget approved by the Senate and House on Monday included $12.4 million for 350 new slots in advanced computer-science and engineering programs at state universities. It also funds development of a baccalaureate of computer-science degree for Bellevue College starting in 2016.

State Rep. Reuven Carlyle, D-Seattle, who chairs the House Finance Committee, credited Microsoft’s stance, saying “their desire for that investment, in my personal opinion, has forced a willingness to engage in a discussion about quality of life and not merely pushing for lower taxes.”

Unlike most of the tax breaks lawmakers agreed to close, the Microsoft tax change surfaced abruptly at the end of the session in a Senate Republican budget offer. Hunter said that was in part because the tax couldn’t be discussed until the company signed the waiver allowing disclosure of its fiscal impact.

Republicans had argued higher taxes were unnecessary and refused to go along with proposals by Inslee and House Democrats to raise $1.5 billion largely through new taxes on capital gains and carbon pollution.

But nearing a government-shutdown deadline, the GOP and Democrats agreed to a final deal that ended a few tax breaks, including the Microsoft tax. Lawmakers also ended a preferential tax rate for royalty payments on patents, copyrights and other intangible property, which officials say also will affect Microsoft as well as other tech companies.

At the same time, lawmakers agreed to create or extend several tax breaks for industries including aluminum smelters, food processors and newspapers. Those tax breaks are worth about $35 million over the next two years.

One of those could benefit Microsoft as well as other companies that build or refurbish data centers. The state estimates that break, which exempts server equipment from sales taxes, could cost $12.5 million in foregone tax revenue over the next two years.

Efforts to re-examine tax breaks for businesses have picked up steam in recent years as lawmakers struggled to fund K-12 education and other state services. Two years ago, lawmakers agreed to open more tax breaks to scrutiny by requiring disclosure of the benefits to individual companies if they receive new breaks.

Hunter said the Legislature’s tax changes this year are a far cry from the restructuring that is needed. The tax system has failed to keep up with the Internet economy, even as modern companies have become increasingly sophisticated in their ability to legally reduce their taxes by shifting revenue and affiliates to low-tax states or countries, he said.

“They’ve taken advantage of this structural constriction of our tax code and don’t pay what many people regard as their share,” Hunter said. “This is an improvement. I still think we have one of the worst tax codes in America.”