May 26, 2015 - 11:01 pm
A very different Legislature, a consensus around significant changes to public education and the need to overhaul Nevada’s tax system have led to a wild ride in Carson City this year.
Getting tax policy right is crucial. Nevada’s tax system was constructed at a time when the state’s economy was gaming, mining and little else. As a result, more than half of Nevada’s tax collections are derived in some way from the tables, slots, hotel rooms, restaurants, retail, payroll and entertainment on the Strip. Much of the rest is a grab bag of narrow taxes on particular industries or activities, often enacted in the waning days of a legislative session in years past. Some sectors pay nothing while others are paying their fair share and more.
The goals of good tax policy are easy to identify and broadly shared. Nevada’s tax system should grow with the economy, be stable for taxpayers and tax administrators alike, be easy to comply with and make the state an attractive place to live and a competitive place to do business.
Legislators are currently debating Gov. Brian Sandoval’s revised tax plan, which changes some existing taxes and introduces a new commerce tax based on gross receipts. The revised plan fixes a number of flaws from his earlier tax plan, but several concerns remain.
Fixed: The revised plan eliminates the “revenue cliffs” in his previous business license fee proposal, which required companies to pay huge extra tax bills when they earned just one more dollar and jumped to a higher tier.
Fixed: The revised plan relies more on the existing modified business tax on payroll, which business taxpayers are already familiar with and generally regard as easy to comply with. Using an existing tax also reduces the revenue uncertainty from relying on a brand-new tax.
Fixed: The revised plan’s proposed 50 percent commerce tax credit against payroll tax liability limits the degree to which businesses are taxed on two different measures.
Fixed: The payroll tax is also expanded to a broader base, paring back exemptions that have crept into the tax over time.
Concern: The proposed commerce tax essentially picks 26 categories to represent the whole economy, then applies different tax rates to each one. Washington state is one of the few states left with a similar system, and it has seen unending lobbying and jockeying to adjust rates and redefine categories. Sandoval’s plan would lead to some strange outcomes: railroads will face a tax rate five times that of air cargo companies, restaurants will pay a higher tax rate than law firms, and trucking companies might consider how to be classified as warehousing companies because doing so would cut their tax rate nearly in half.
Concern: The commerce tax is a tax on gross receipts. Such taxes have fallen out of favor since their peak popularity in the 1930s because of the pyramiding and non-neutrality inherent with their structure. Taxing receipts, including business-to-business purchases of supplies, raw materials and equipment, encourages companies to become less efficient by bringing all those transactions in-house or moving them out-of-state. Innovative in-state businesses that focus on doing one thing well in the production chain are put at a disadvantage because their products will have multiple taxes embedded in the final price to consumers. Most states repealed taxes similar to the commerce tax long ago due to these problems; in the past ten years, four states that still had such taxes eliminated them (Indiana, Kentucky, Michigan, and New Jersey). Site selectors generally steer clear of states with strange and changing taxes.
Concern: New and costly collections and enforcement mechanisms will need to be developed to collect the commerce tax’s estimated $180 million in revenue over the first two years. States with gross receipts taxes have found the administrative challenges, litigation and compliance work to be significant.
Concern: Sandoval’s revised plan is structured to grow the proposed commerce tax automatically over time, because taxpayers can credit their payments against payroll tax liability rather than vice versa, and because any revenue growth from the commerce tax is used to buy down payroll rates, rather than commerce tax rates.
Nevada is starting to see economic diversification, led by growth in consumer services, new manufacturing, technology and finance. Reforms in education and other areas will improve the state’s competitiveness. But public finance textbooks document well why taxes based on gross receipts always warp businesses and harm economic growth. Nevada’s tax system should not stand in the way of growth through diversification, but rather encourage the innovative, growing, efficient businesses that Nevada needs and wants.
Joseph Henchman is the VP of Legal and State Projects at the Tax Foundation and Jared Walczak is a Policy Analyst at the Tax Foundation, a nonpartisan tax research organization in Washington, D.C.