Coveting Thy Neighbor?S Manufacturing : The Dilemma of State Income Apportionment

This paper examines the economic impact of the apportionment formulae used to divide corporate income taxes among the states. Since such formulae usually include total payroll, they transform, at least partially, the state corporate income tax into a direct factor tax on payroll. Using panel data from 1978-1994 on state-level employment in manufacturing and other sectors, the results show that this distortion has an important impact, in practice. For the average state, moving from equal-weighted sales to double weighted sales increases manufacturing employment more than 1%. The results also suggest that apportionment changes have important negative externalities on other states. When a state lowers its payroll weight, this increases state within-state employment but reduces out-of-state employment. The aggregate effects are close to zero