PhillyDeals: To help schools, city pressures small businesses on taxes

City Hall. An Old City company feels doubly taxed by a school levy and a business privilege tax.

After 10 years of paying five employees, plus additional "associates," to staff his Old City business, James R. Domenick is looking for space in the suburbs, and thinking about moving out.

It's about taxes, and the pressure the city has felt compelled to exert on small businesses such as Domenick's insurance office to raise money for its cash-strapped public schools.

"I am not an antitax person," Domenick told me. "I believe people need to pay for the infrastructure and the services they receive."

But the city Revenue Department's recent demands that he pay a total of $34,500 in back school income tax and penalties for the last five years - on income for which he'd already paid the city's business privilege tax - has left Domenick feeling badly used.

Combined, those two taxes would clip more than 10 percent of Domenick's income. Of course, he also has to pay federal, state and payroll taxes, and the city's gross-receipts tax on his sales, profitable or not.

The city's approach is the opposite of how U.S. and Pennsylvania small-business income taxes work. Like a lot of small firms, Domenick & Associates is set up as an S-corporation under the IRS tax code. That means he pays U.S. and Pennsylvania income taxes on business profits, but not on what the business then pays him, since the business' profit is his income.

By contrast, Philadelphia taxes small business profits the same as the profits of big corporations - and then imposes the school income tax on payments these small businesses make to their owners. To Domenick, that feels like double taxation.

The school tax for S-corps has been on the books for years, but "the school district's need for revenue

has increased enforcement," Frank Paiva, chief counsel to the city Revenue Department, told me.

For a long time the city found it tough to tell who was an S-corporation. But while Pennsylvania legislators have stalled city tax reforms and trimmed public school grants, state tax collectors have begun giving S-corp names to city auditors so they can boost collections.

Business owners could avoid the second tax by organizing as a one-owner proprietorship, or a partnership, Paiva noted.

"The problem is, they [then] no longer have the limited liability a corporation provides," he added. With limited liability, you're less likely to lose your home in a business dispute. That's one reason capitalists prefer corporations.

The school income tax raises just $27 million, not quite 1 percent, of the city's $2.8 billion school budget, and S-corps pay about one-quarter of the school income tax total, Paiva says.

If it's any comfort, Philadelphia is shifting the way it collects business taxes. In the past, the city balanced the locations of a company's property, workers and customers in figuring how much of its business is taxable. As of 2015, the city plans to base collection on how much business a company does within city limits.

That means a business based in Philadelphia with out-of-town customers may owe less. Businesses based elsewhere that sell here may find themselves hit with new tax bills. Pennsylvania has been moving in the same direction, Paiva noted.

It's not too clear if that will bring small business owners such as Domenick much relief. Meanwhile, school income tax collection efforts are on the march.

The school system is looking at more layoffs. And Domenick's accountant, Chuck Ward, of O'Hara Ward & Associates, tells me he has heard from other businesses that are thinking about leaving the city due to a school income tax that makes them feel they are paying twice.

215-854-5194 @PhillyJoeD