Introduction

The Commonwealth employs a variety of means to achieve the goals of ‘economic development’—to promote job creation, attract and retain businesses, and foster economic growth in the state. These include long-term strategies to increase the productivity of our workforce and our economy by investing in education and in infrastructure, as well as short-term strategies to try to attract and subsidize specific businesses and industries.

Though states use a combination of these approaches within their economic development programs, most—including Massachusetts—spend a significant share of their economic development resources on economic development tax expenditures. These tax exemptions, deductions, credits, deferrals and the creation of special tax rules are employed by state governments in an effort to attract new businesses to the state and prevent those are already in the state from leaving.¹

The effectiveness of these tax expenditures is rarely examined in any detail and very little data is available to analyze. This brief first examines how much the Commonwealth spends on economic development tax expenditures, how that has changed over time, and how it compares to other elements of state spending both for economic development and other purposes. In addition, this brief outlines improvements that could make it easier to evaluate the effectiveness of tax expenditures.

Each year, the Department of Revenue (DOR) publishes a Tax Expenditure Budget. The Tax Expenditure Budget includes brief descriptions of the state’s tax expenditures along with estimates for the revenue loss associated with each of them. In total, the Tax Expenditure Budget catalogs more than $20 billion in tax expenditures to the state’s personal income, corporate income and sales taxes. In addition, for each tax expenditure, DOR provides cost estimates for each of the previous two fiscal years (FY) as well. The Tax Expenditure Budget is published with the release of the Governor’s budget recommendations in each fiscal year. It is important to note that the total tax expenditure budget encompasses a much broader range of items beyond those that are intended to foster economic development. Many of these are beneficial to moderate and low-income families, such as personal income tax exemptions for public assistance and social security benefits, deductions for dependent children, and exemptions from the sales tax for food and clothing.

Tax expenditures are in many ways similar to direct appropriations. Both seek to achieve certain policy goals through the use of the state’s economic resources, and both have an effect on the state’s bottom line. A primary difference is that budget appropriations must be reauthorized by the Legislature each year, while tax expenditures remain in effect without the Legislature having to take action.²

Massachusetts spends billions of dollars in tax expenditures each year, and those designated for economic development purposes constitute a large sum. As the data below show, the state’s reliance on economic development tax expenditures has been increasing, compared to on-budget appropriations for similar purposes. Given this trend, the Commonwealth should take a closer look at whether or not these expenditures are meeting their intended goals.

¹A tax credit reduces the amount of tax due by providing a credit that applies to the tax liability. A tax deduction reduces the amount of income that a tax is calculated on. A deferral allows a taxpayer to delay the payment of a tax for a certain period of time, and an exemption excludes the taxpayer from being subject to a certain tax. Tax expenditures are distinct from other policy choices that reduce or increase tax revenues, such as changes to overall tax rates or changes to the basic structure of a tax. For more information, see the FY 2009 Tax Expenditure Budget.

²In addition to the tax expenditure budget and budget appropriations, there is a third way that the Commonwealth spends its resources: through the capital budget. The capital budget includes outlays for long-term investments in infrastructure, such as roads and public transportation. These projects are financed though bonds that the state pays back through line items in the state budget dedicated to debt service on these bonds. Though these are economic development investments, they are not included in the analysis for this report.