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How Utah Can Get An “A” on the COST Sales Tax Scorecard COST Warns Against Tax Pyramiding

Members of the Utah Legislature and Utah business leaders heard a presentation on the impact of tax pyramiding from members of the national Council on State Taxation (COST). Mr. Carl Freidan, Vice President and General Counsel, and Nikki Dobay, Senior Tax Counsel focused their presentation on four separate areas.

The Principles of a Good Consumption Tax

Their presentation outlined the principles of a good consumption tax (like the sales tax). It needs to apply to a broad base of final household consumption while exempting the critical issue of business inputs, they told the crowd. It also needs to have a uniform sales tax base.

Throughout the nation, on average, businesses pay 42% of the sales tax revenue collected by states. Utah businesses pay a slightly lower amount of the revenue collected by the state at 37%, which is a good sign of the work the legislature has done to reduce sales taxes on business inputs.

However, most states miss the mark according to COST’s recent report issued in May that stated: “Despite a complex system of exemptions intended to exclude specific categories of business input purchases from the sales tax base, most state sales tax systems fall short of the goal of taxing only household consumption because they impose significant taxes on business-to-business transactions.” Most states’ sales tax structures were enacted long before the growth of services in the economy.

The Problem With Imposing Sales Tax On Business Inputs

COST explained the problem with imposing sales taxes on business inputs. They said there is broad agreement among economists that the ideal sales tax system taxes final household consumption, not business-to-business intermediate transactions.  

The negative consequences of taxing business inputs are significant, including: inefficient tax pyramiding, a lack of transparency, higher consumer prices and reduced economic activity. As a result of sales taxes on business inputs and extensive pyramiding, states like Utah often double tax particular industries. 

For example, cable TV, electric, and natural gas utilities are industries which are subject to double taxation. Further detail was given as to the amount of purchases in an industry that are subject to sales tax, with the highest being 47% of purchases in utility services (gas, electric) being taxed and information services (IT) at 36%. All these sectors would be good places to start as the legislature looks for areas of improvement.

The Difficulty of Broadening the Sales Tax Base

The COST experts also mentioned the challenge of broadening the sales tax base without exempting business inputs. Over the last three decades, states have repeatedly sought to expand their sales tax base to cover a wide range of services. They said no state has been able to pass or sustain legislation that is broadly applied. When states have tried, the most common factor has been the principled opposition from the business community. Generally, the policy objections were not to the expansion and modernization of the sales tax base to include the growing services sector, but doing so without limiting the base expansion to household purchases and exempting business inputs. 

Businesses purchase a disproportionate share of many services. For example, in the area of administrative and support services, businesses purchase 97% of services, and in the data processing/internet publishing/information services sector they purchase 77% of the services. Other examples of a high ratio of business purchases over consumers are credit intermediation (67%), insurance carriers (67%), rental and leasing services (73%) and waste management (78%).

Improving Utah’s Grade

Utah is currently scored at a respectable B+ on COST’s most recent Sales Tax Scorecard. However, if Utah enacted broad sales tax base broadening legislation while exempting business inputs its grade would rise to an A-, joining four other states with the highest grade on the COST Scorecard. Utah would also receive national recognition as the first state to significantly modernize its sales tax by broadening the base of household purchases without extending the tax to business purchases.  

COST suggested that policy decisions will be required to determine whether certain services should be wholly exempt to avoid administrative/compliance issues. Considerable consultation with industry, stakeholder groups and practitioners will be required. Time would need to be given for Tax Commission implementation of systems and extensive (and ongoing) rulemaking would be required. In addition, time will need to be given to educate taxpayers since bringing thousands of new taxpayers on the rolls would require extensive education.  

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