November 17, 2009
Presiding Chair: Representative Gibson
Principles of Sound Tax Policy: How does the North Carolina Sales Tax Measure Up? Roby Sawyers, CPA, PhD Department of Accounting, College of Management, NCSU presented a review of the ten guiding tax principles that are widely recognized and accepted, and used in developing tax programs. While these principles may be used when deciding on individual taxes, many of the principles are better applied broadly to the tax system as a whole. Equity and Fairness as it relates to taxes are often discussed in terms of whether a tax system is (flat) progressive or regressive. Flat taxes like sales taxes may be considered fair in that those with higher incomes pay more than taxpayers with lower incomes. Progressive taxes such as the individual income tax may be considered fair in that taxpayers with higher incomes pay the tax at higher rates than lower income taxpayers. Expanding the sales tax to services will impact the progressivity of the sales tax as some services (legal and professional) are more likely to be consumed by wealthy taxpayers, while others (certain repair services) are more likely to be consumed by lower income taxpayers (making the taxes more regressive). Consideration must be given to what the surrounding states are doing as well since people living in the border counties could cross state lines to avoid paying taxes on services. In addition, similar transactions should be subject to the same tax (i.e., purchasing a pair of shoes via the internet should be taxed the same as purchasing shoes at the shoe store). The second principle applies to Certainty as it relates to tax rules. The rules should be clearly specific as to when the tax is to be paid, how it is to be paid and how the amount is to be determined. The example given applied to sales tax on food and soft drinks (candy is food and is taxed, while food in general is not taxed). The remaining principles discussed included; 3) Convenience of Payment, 4) Economy in Collection, 5) Simplicity, 6) Neutrality, 7) Economic Growth and Efficiency, 8 ) Transparency and Visibility, 9) Minimum tax gap and concluded with 10) Sufficient and Predictable Government Revenues. The tax system should provide the government with a sufficient and predictable source of revenue without having to resort to continuing rate increases. A mix of taxes provides a more stable tax base because different types of taxes are affected differently by the economy. North Carolina relies more on the individual income tax and less on the sales tax than most states. Income tax in NC accounts for 48.3 percent of revenue, while sales tax accounts for 23.1 percent. This prompted the discussion to broadening the sales tax base by expanding the list of services that could be taxed, again. Members asked about the states that were taxing 140 services or more and requested additional information from staff on the affects of these taxes in those states, their volatility, personal consumption, and impact on bond rating. The average number of services taxed by other states is 56, which is more than 25 services higher than the 30 taxed in NC. Another question raised was the fact that sales tax is not deductible from federal taxes to be paid, but income tax paid in NC is deductible on federal returns. The theme of these presentations seems to be to continue to advise members they need more stability in their tax structure and relying too heavily on income taxes, which have gone down due to high unemployment is not a good plan. They also have heard numerous times that NC taxes very few services compared to other states. Roby also pointed out that in 1979 services accounted for only 47.4 percent of consumption, but in 2007 they account for 59.7 percent of consumption. The sales tax revenues are also declining due to the fact that it relies heavily on the purchase of tangible/durable goods, which decreases when unemployment is high though these same people still consume services.
Properties of the North Carolina Sales Tax Karl Smith, PhD, Assistant Professor of Public Economics and Government, School of Government, UNC-Chapel Hill presented an overview of sales tax on tangible goods. The sales tax is supposed to be a tax on consumption. The best features of a consumption tax: taxes what citizens take out, smoother than income, grows with the economy and tracks ability to pay. Several charts were provided showing the volatility of the sales tax, the changes in consumer behavior and economic growth. Every time you increase the sales tax it erodes the base and results in less revenue in sales tax than earlier increases in the tax. Wealthy consumers consume more services and so taxing services should impact those with greater resources compared to those with lower incomes. The people with the lowest income pay the highest percentage of their income on sales tax because for the most part it relies on goods. The savings rate has been declining since 1980 and with less credit available to consumers, sales tax collections go down. The general recommendation would be to tax all goods and services and to keep the income tax stable. One member asked for recommendation on the income tax rate if they increased the services being taxed to gain revenue through sales tax. A rate of below 6 percent was discussed with no definitive number. Members also had concerns regarding the migration of an aging population to states with no state income tax. To answer the question: “How does the current sales tax add up?” It is less representative of true consumption, there is more distortion in the private market, it does not keep up with economic growth, it is more volatile, and more regressive.
North Carolina Sales Tax Refunds Non Profit Refunds, Rodney Bizzell, Fiscal Research Division, NCGA reviewed the history of NC sales tax relative to non-profits. There are over 10,000 non-profits and they range in size from Duke to soup kitchens. In 1933 NC implemented the sales tax and they proceeded over the years to implement exemptions and repeal them or they sunset based on the law. Public schools had state sales tax refund but lost it and they now only have local sales tax refund. Hospitals account for the largest refund annually, with more than $225 million. Government entities are also entitled to sales tax refund, and the municipalities account for the largest portion, with more than $65 million.
Incentive Related Refunds, Canaan Huie, House Tax Counsel, NCGA NC has passed laws through the years to give special refunds to different entities. Some of the refunds are permanent and others are not. Some are full and others are partial some have reporting requirements and others do not. Examples of some of the special refunds are for interstate carriers, utility companies, passenger carriers, major recycling facilities, lower tier machinery, non-profit insurance companies, certain industrial facilities, motorsports, railroad intermodal facilities, analytical services. Information was provided for some of the cost of these refunds in terms of revenue loss to the State. Several members asked if they could get the total lost revenue for all the special refunds provided to the various groups.
Sales Tax Revenues Trends in collections: A historical perspective in terms of stability and volatility, Barry Boardman, Economist, Fiscal Research Division, NCGA reviewed the state tax structure over the past 38 years. Personal income tax collections have gone from 32.7 percent of taxes to 56.4 percent. Sales tax was 31 percent and has only declined to 27.9 percent. The interesting thing about this presentation is the numbers are different than those presented by the first presenter Roby Sawyer. The conclusions reached were also different from the earlier outside presenters. According to Fiscal Researcher, Barry Boardman, the State’s reliance on sales tax has been stable over the last 40 years. Sales tax grows slower than personal income. Sales tax is more stable than income taxes (which is probably true). Based on the per capita income, the income tax base has narrowed.
Relationship between State and Local Sales Tax Historical Overview of local sales tax authorizations, base, and rates, Heather Fennell, Research Division, NCGA In addition to the 2 percent sales tax on food other local taxes collected include: property tax, privilege license taxes, rental car gross receipts, animal tax, motor vehicle license tax and state-shared taxes. The State general rate is 5.75 percent. The one percent increase enacted this year will expire in 2011. The local rate varies with 91 counties enacting a 2 percent rate, Alexander, Catawba, Cumberland, Haywood, Martin, Pitt, Sampson and Surry Counties at 2.25 percent, and Mecklenburg at 2.5 percent. Several charts were shown to indicate from 1967 to 2001 the distribution breakdown of the funds collected. Other local taxes mentions were: transit tax, occupancy tax and meals tax. In 2007, the Medicaid swap was enacted, which moved a portion of the local sales tax to the state to offset the cost of the state assuming total responsibility to for Medicaid. The state Sales and use tax is now 4.75 percent and local is generally 2 percent or higher.
Related Taxes Other taxes administered like sales tax and similar to sales tax, Ryan Blackledge, Bill Drafting Division, NCGA discussed sales tax substitutes which include certain machinery and equipment, highway use tax, motor fuels tax, events and amusement taxes, privilege license taxes and disposal taxes. The mill machinery tax is one percent of sales price (max. $80) on mill machinery or parts) for use in manufacturing industry or plant and in 2006-07 produced revenue amounting to $36.56 million. This tax was expanded to become an economic development tool by adding a major recycling facility, R&D company in physical, engineering, or life sciences, software publishing company, industrial machinery refurbishing company, and a data center. The tax on manufacturing fuel applies to fuel used by manufacturing plants at a rate of 0.3 percent and expires July 1, 2010. The highway use tax was intended to provide the major source of revenue for the new Highway Trust Fund and produced revenue in 2008-09 amounting to $441 million. The motor fuels tax rate is currently at $0.29.9 per gallon and produced revenue of $1.53 billion in 2008-09. The events and amusement tax was placed on dances, athletic events, shows, exhibitions and motion picture shows and produced revenues of $14.4 million last year. However, the event and amusements list contains twelve activities or events which are exempt (i.e., elementary and secondary school athletic contests, dances, other amusements, North Carolina Symphony Society, Inc. etc.). The privilege license tax is paid to state or local government for the “privilege” of doing business including: installment paper dealers ($27 M), loan agencies, banks ($8.5 M), newspapers and professionals. There are different rates associated for these taxes. Study committees have criticized this system due to its inconsistencies, outdated language, arbitrary distinctions and compliance issues. The disposal tax provides additional disposal funds for activities that create greater disposal costs (i.e., scrap tires, white goods, dry cleaning solvent and solid waste disposal etc.). The other related taxes are in four groups: sales tax substitutes, events and amusement taxes, privilege license taxes and disposal taxes.
Next Meeting December 1, 2009 Agenda Items to Include: Presentation from outside expert on expanding the sales tax base. Staff will present case studies. Department of Revenue will present on how the sales tax is administered.