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The 5 Most Tax-Friendly States for Running a Business

By: Motley Fool
Posted: 2/15/2014 10:50:00 AM
Referenced Stocks:

I don't know about you, but when January rolls around every year and the thrill of the holiday season wears off, the unfortunate first thing that comes to mind is that it's tax time! And if for some reason you personally forget that it's tax time, H&R Block , Intuit , which makes TurboTax, Blucora the maker of TaxAct, and JTH Holding , the owner of Liberty Tax, will ensure you know its tax time by a bombardment of advertisements.

We may not like doing our taxes -- especially since the National Taxpayers Union notes that 3.8 billion hours 3.8 billion hours are spent each year complying with federal tax laws -- but the vast majority of us (greater than 80%) wind up getting money back around tax time, so it's really something of a bittersweet occasion.

Source: DonkeyHotey, Flickr.

For most businesses, though, tax time is a chore because many will wind up owing money -- unless you happen to be Facebook and you're able to use employee option deductions to completely negate billion-dollar profits completely negate billion-dollar profits.

The five most tax-friendly states to run a business
However, tax time is more than just a single event for businesses -- it can be a growth-oriented factor that makes or breaks a business. As we saw last weekend based on data from compiled by the Tax Foundation (link opens a PDF; Table 4), there are a select number of states that simply aren't very friendly to businesses based on a combination of tax factors, including corporate tax rates, individual income tax rates, sales tax, unemployment insurance tax, and property tax. The thinking here is that a higher combination of these taxes will leave fewer dollars for businesses and residents to spend, constraining purchasing and business expansion constraining purchasing and business expansion.

Today, though, we're going to turn the tables and look at the five most tax-friendly states for running a business. Opposite to the five states examined last weekend, these states offer attractive tax aspects for businesses and citizens, and could provide a bounty of investment ideas if you understand how to read this data.

Without further ado, here are the five most tax-friendly states to run a business:

State

Overall Index Rank

Corporate Tax

Individual Income Tax

Sales Tax

Unemployment Insurance Tax

Property Tax

Wyoming

1

1

1

12

29

35

South Dakota

2

1

1

33

35

20

Nevada

3

1

1

42

41

16

Alaska

4

27

1

5

28

13

Florida

5

13

1

18

10

25

Source: Tax Foundation. States are ranked 1-50 where lower numbers are more favorable. Based on 2013 figures.

Why these states are the best of the best
Possibly the first thing you'll notice is the number of top-ranking states with regard to individual income taxes and corporate taxes. We may often overlook the role our individual income taxes play on our disposable income, or how corporate tax rates can affect reinvestment which can include hiring, but we have all of the clear leaders in individual income tax rates here, with Wyoming, South Dakota, and Nevada also leading the way in corporate taxes.

Another somewhat common theme you'll notice from these states, with a few exceptions, is that these are common retirement destinations. Retired folks prefer lower tax environments, since many are living off Social Security income, which means retired citizens will weigh factors like sales tax and property tax in their decision to move to a particular state. With the exception of Nevada's sales tax and Wyoming's property taxes, the majority of these state comparisons rank very favorably for citizens and businesses.

Finally, you'll notice that states with abundant natural resources really tend to stand out as tax-favorable environments. The Williston Basin in North Dakota, South Dakota, and Wyoming is full of high-quality oil fields while Alaska has been an area of vast oil deposits for numerous decades. These deposits help fuel revenue for these states and allow taxes to stay attractively low for businesses and citizens -- not to mention that the energy business tends to drive unemployment rates well below the national average.

Source: Esteban Maringolo, Flickr.

Knowing this can help you invest better
Understanding that natural gas and oil deposits are one of the primary reasons for lower taxes and unemployment in three of these five states, a potentially smart way to play this as an investor is by focusing on Williston Basin oil and gas drillers. Two in particular that come to mind are Continental Resources and Whiting Petroleum . The reason I mention these two drillers is they are the largest oil producers in the Bakken, an area that's rich with high-grade oil. With a bounty of assets in this region comes a low unemployment rate a low unemployment rate and the need for relatively low corporate taxes. While boasting relatively small populations, Wyoming, South Dakota, and Alaska could offer numerous intriguing investment opportunities for the energy-focused investor.

If we turn our attention to Nevada, my initial investment thought goes to casino and resort operators such as Las Vegas Sands and Wynn Resorts . With Nevada boasting attractive corporate tax rates, and certainly some of the most lax gambling laws in the nation, retirees and tourists flock to the state. You'll certainly pay a bit more in sales tax relative to the rest of the country, but retirees and vacationers tend to love Nevada and Las Vegas for its atmosphere. Las Vegas Sands and Wynn love it for the relatively low effective tax rate. Wynn, for instance, recognized a $6.34 million tax benefit in its fourth-quarter report two weeks ago, while Las Vegas Sands faced an effective tax rate in the fourth-quarter of just 4.9%! Lower corporate taxes mean more profits for these casino and resort operators.

The point here, once again, is that taxes alone shouldn't be a deciding factor on whether you purchase or sell a company, but understanding which states offer a more favorable business environment could lend clues as to where investment dollars are headed from a consumer and business perspective. These are the little things that help separate you from the average trader and turns you into a Foolish investor.

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Sean Williams has no material interest in any companies mentioned in this article. You can follow him on CAPS under the screen name TMFUltraLong, track every pick he makes under the screen name TrackUltraLong, and check him out on Twitter, where he goes by the handle @TMFUltraLong. The Motley Fool owns shares of, and recommends Facebook and Intuit. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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