News: CJ Exclusives

Legislative Staff Savages Film-Industry Study Defending Subsidies

Fiscal Research memo: Study rife with errors, 'invalid' assumptions

RALEIGH — North Carolina loses 54 cents for every dollar it allocates to the state film production credit, and the actual return on investment might be even worse, concluded a memorandum from the General Assembly’s Fiscal Research Division.

The memo, dated April 3, summarizes findings of a preliminary review requested by state Rep. Rick Catlin, R-New Hanover, who sits on the House Commerce and Job Development and Appropriations committees.

At issue is a battle over a 25 percent refundable tax credit on film production expenses, which is scheduled to expire at the end of the year. The film industry claims the credit more than pays for itself and should be renewed to protect film-production jobs and maintain the positive publicity Hollywood productions can bring to North Carolina. State Commerce Secretary Sharon Decker has said she wants to preserve subsidies in some form. Critics have argued that the credits are a loser for taxpayers and the industry has wildly exaggerated any benefits to the state.

A group of North Carolina film commissions and the Motion Picture Association of America commissioned A Supply Chain Study of the Economic Impact of the North Carolina Motion Picture and Television Industry from Robert Handfield, distinguished professor of supply chain management in N.C. State University’s Poole College of Management. The industry-funded study hailed the benefits of maintaining the credit.

The Handfield report estimates the state gains a net $5.2 million impact from the incentive, or $1.09 in benefits for every $1.00 it gives out in credits. When combining state and local fiscal impacts, the net benefit is $25.4 million, or a $1.42 return on $1.00 investment.

But in a blistering rebuttal, Fiscal Research found the state actually loses $45.3 million, which amounts to 54 cents for each $1.00 invested. Even after adding local tax collections, the net loss is $33.1 million, or a 39-cent loss for each dollar invested.

“[Fiscal Research] concludes that the reported positive return on investment is based on a series of misunderstandings of the state’s tax laws, invalid or overstated assumptions, and errors in accounting,” the memo stated.

Memo authors Patrick McHugh and Barry Boardman of Fiscal Research noted in several parts of the memo that glaring errors and mistaken assumptions were brought to Handfield’s attention prior to publication of his report, but he did not change his findings.

“We have not, to date, received satisfactory responses from the author on many of the questions related to the methodology and assumptions used in the report,” the memo stated.

Author defends work

In an email requesting comment on the memo, Handfield told Carolina Journal, “I stand by my work, which is thoroughly documented.”

The Fiscal Research authors noted that it was unusual for the Handfield report to project gains in local tax revenues. Typically, local gains are not included in an analysis of a state-level tax credit, they said. But Fiscal Research included local gains in their review of the Handfield report for consistency and comparative purposes.

Among methodological missteps is a nearly $24 million understatement of what the film credit costs taxpayers. Handfield used a $60.1 million figure provided by the state Department of Revenue for fiscal year 2012-13. The actual cost was $84.2 million, which the authors said they pointed out to Handfield before he published his report.

The difference occurs because the lower number reflects only checks cut during that fiscal year. Due to the lag between the completion of production filming, the filing of credit applications, and the payment of refunds, some credits earned during fiscal year 2012-13 were not paid until the next year, thus the higher number is more precise.

While Handfield’s study said the film credit generates $19.6 million in state personal income taxes, Fiscal Research said it is closer to $9.67 million.

Handfield arrived at his figure by using a 6.25 percent effective tax rate. Historical analysis of tax filings by Fiscal Research determined the rate paid normally is closer to 4.75 percent after deductions and exemptions are included.

To generate $19.6 million in personal income at 6.25 percent would require wages paid of $313 million, and wages of $412 million at the 4.75 percent rate. But the Handfield report stated that total industry payroll was estimated at just $224.8 million in 2012. Using apportionment formulas from Handfield’s report, payroll probably was even lower — between $175 million and $203 million.

Sales taxes overstated

The Handfield report overstates the sales tax revenue from film production purchases because, in part, it assumes sales taxes were paid on services, which was not the case in 2012.

“Based on [Revenue Department] reports from 2010 through 2012, roughly 26 percent of all film production expenditures went to purchase goods,” the Fiscal Research memo stated.

Applying that percentage to total direct spending reported by Handfield yields $4.8 million in state sales taxes and $2 million in local sales taxes. Those numbers may be high because not all goods are subject to the sales tax. Yet Handfield concluded that the sales tax generated $5.3 million at the state level and $3.4 million at the local level.

“The Handfield report significantly overstates the tax revenue generated when film workers spend their earnings,” the Fiscal Research memo stated.

The report estimates half of the 4,200 film workers are married to a spouse earning the same wage. If the film worker loses employment due to discontinuation of the film credit, the report assumes, both spouses would leave the state, “which is extremely questionable if film workers are married to a spouse who earns the same yearly income,” the memo stated.

The Handfield report determined that both state and local governments receive $3.3 million in property taxes. Yet the state does not collect property taxes, marking another instance the authors noted an error to Handfield that he did not correct.

Further, it is faulty accounting to say property values would be affected if the film credit were discontinued and film workers moved out of state, according to the memo. Whoever owns the property would continue to pay taxes. Claiming property taxes as a benefit of the film credit overstates the case by more than $6.6 million, the memo stated.

Among other Fiscal Research findings:

• Handfield claims economic activity from the film incentive generates $3.8 million in gas tax revenues. That figure probably is closer to $2.5 million, because some miles traveled by film workers are out of state and North Carolina would not collect fuels taxes on gas purchased in other states. The average vehicle fuel economy used by Handfield probably is too low, meaning less gas actually would be purchased than the study suggests.

• Handfield asserts a $5.3 million corporate income tax gain through apportioning 5 percent of national film industry proceeds to North Carolina. The number is closer to $900,000 because production companies and film distribution companies are separate. Distribution entities are not impacted by the production companies’ investment and employment.

• Handfield’s claims of $9.7 million in sales taxes and $5.7 million in local sales and occupancy taxes induced by film-related tourism “result from the untested and unsubstantiated assumption that 1 percent of all tourism in the state was a direct result of film activities taking place in North Carolina,” the memo stated.

That figure derives from a study commissioned by film credit proponents in Georgia, and there is no basis to prove it could be applied properly to North Carolina. Fiscal Research said the numbers are probably closer to $4.8 million at the state level and $2.9 million at the local level.

• The Handfield study does not include opportunity costs – the ways money spent on the film credit could have been used for other purposes in the general economy or to reduce public sector spending.

Dan E. Way (@danway_carolina) is an associate editor of Carolina Journal.