Topeka — Facing a lawsuit threat from insurance companies, the Legislature in 1997 gave the companies tax breaks.
Now some lawmakers, mostly Democrats, are saying the breaks created loopholes that were never intended and that have cost the state tens of millions of dollars.
GOP lawmakers say Democrats should blame Insurance Commiss-ioner Kathleen Sebelius, left, a Democrat, for "miscalculating" effects of tax breaks for insurance companies.
Closing the loopholes, some say, would be a more equitable way than raising state sales and gasoline taxes to get money needed to increase funding for public schools.
A recent state audit lends credence to the idea that the breaks gave away much more than was intended.
"These changes have cost the state much more than the Legislature expected," the audit says of the tax breaks.
The report by the Legislative Division of Post Audit suggests that: " ... armed with better cost data, the Legislature may want to revisit the premium tax law and the level of tax cuts it granted."
Democrats say that is exactly what they want to do.
State Rep. Nancy Kirk of Topeka, the ranking Democrat on the House Insurance Committee, filed legislation last week to close what she called loopholes in the law.
But she's worried that Republicans in league with the insurance industry will work to kill the legislation.
"They'll cry foul and call it a tax increase," Kirk said. "But it was never the intent of the Legislature that the insurance companies would reap the kind of money they have."
State Rep. Robert Tomlinson, R-Roeland Park, chairman of the House Insurance Committee, said the tax breaks have worked exactly as lawmakers intended. And, he said, if Democrats have problems with the law's cost, they should blame Insurance Commissioner Kathleen Sebelius, a Democrat, for miscalculating the effects.
How it started
For years, Kansas levied higher taxes on out-of-state insurance companies doing business in Kansas than in-state companies had to pay, despite a U.S. Supreme Court ruling that said states couldn't do that.
Out-of-state insurers threatened to sue. They had won such lawsuits in every state where they had gone to court. Sebelius told lawmakers that Kansas faced a potential liability of $500 million.
So in 1997, the Kansas Legislature equalized premium taxes for in-state and out-of-state companies.
It also allowed companies with Kansas employees to take a tax credit. The tax credit was added to help in-state companies that now were going to be taxed at a higher rate. But because of the Supreme Court ruling, the provision had to apply to all insurance companies.
According to the audit, as the premium tax bill worked its way through the Legislature, insurance industry representatives added a provision that allowed insurance companies that "affiliate" with each other to share salary credits. So if three companies were affiliated and one of them had employees in Kansas, the other two companies could take advantage of the tax credit.
Impact underestimated
When the Legislature adopted the bill, it was estimated that the tax breaks would reduce premium tax receipts by about $3.7 million in fiscal year 1999, the first year the tax changes would have been felt, and $7.1 million in fiscal year 2000. But the loss in tax revenue was much greater $20 million the first year and $27 million the second year.
In fiscal year 1999, for example, five companies that weren't included in the Insurance Department's fiscal estimates took salary credits of nearly $5 million, according to the audit. State Farm Mutual Automobile Insurance Group received the most $2.4 million in salary credits after paying $16 million in Kansas salaries.
According to the audit: "The drop (in tax revenue) was so much greater than anticipated because more out-of-state companies were able to take the salary credit than the Department (of Insurance) projected, either because they had operations the Department was unaware of, or because of the affiliate provision."
Kirk and other Democrats say a real problem has been uncovered by the audit, and it should be easy to fix.
Her bill would eliminate the affiliate provision and reduce the percentage of salaries that can be claimed for the salary credit.
Sales, gasoline tax
Kirk said closing the loopholes would be a much more equitable way of raising revenue for public schools than enacting state sales and gasoline tax increases, as has been recommended by Gov. Bill Graves.
But Tomlinson said the Legislature intended to give the tax breaks to insurance companies to avoid a lawsuit where the state's liability was upwards of $500 million.
In addition, the breaks have brought jobs into the state, Tomlinson said.
"How fair is it to ask companies to bring jobs into the state and then change the rules on them?" he asked.
In any event, if Democrats want to claim that the law shorted the treasury by more than it was supposed to, they should ask why Sebelius miscalculated its effects.
"This is her baby," Tomlinson said.
Bill Sneed, a lobbyist for insurance companies, said it was unfair to describe the tax changes as loopholes.
"What was done in 1997 did not create loopholes. That doesn't capture the whole picture because the insurance industry left $500 million on the table," he said.
Misplaced blame?
The audit said the Insurance Department was unaware some out-of-state companies had locations and employees in Kansas. And the department failed to take into account the "affiliate" provision when it made its estimates on how much tax revenue would be lost.
Sebelius conceded the agency missed the estimate of the tax breaks by not getting an accurate count of how many insurance employees were in the state.
"Frankly, we didn't keep that payroll data," she said.
The department's estimate was based on a survey of some companies and was done before the affiliate provision was placed into the bill, Sebelius said.
After the law was passed, the department became aware that the measure would cost much more than previously estimated and Sebelius notified the governor's budget staff and key legislative committees.
She said some Republicans are trying to blame her.
"The reality is that we had 10 years of a tax collection that was blatantly unconstitutional and nothing had been done about it until we did something about it," Sebelius said.
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