RALEIGH – To the extent that North Carolina business groups and trade associations comment on state tax matters, they tend to focus primarily on corporate and personal income taxes. That’s a mistake. They need to pay attention to the state’s growing sales-tax burden.
I say “to the extent” because, contrary to the assertions of some, North Carolina business organizations have in the past played a muted role in Raleigh debates about government taxes and spending. They have frequently endorsed multi-billion-dollar bond issues with costly tax implications. They have endorsed state budgets with large spending and tax increases. They have routed most of their campaign contributions to politicians responsible for these spending and tax increases. Most recently, many have endorsed local sales-tax hikes as an alternative to more narrow levies, such as impact fees or transfer taxes, rather than urging localities to prioritize their existing funds better.
It’s a mistake for North Carolina business to ignore our escalating sales-tax burden for at least three reasons.
First, in the long run taxes don’t swap out. You don’t cut your taxes by supporting tax increases on other individuals or groups. Governments will raise every tax rate they control as high as politically possible. In the short run, perhaps, a government given new taxing authority may keep existing taxes level, or even slightly reduce the rate, but eventually it will raise those taxes back up.
The data back up this insight. JLF fiscal policy analyst Joe Coletti and research assistant Abby Alger recently took a look at the distribution of tax options and tax burdens among the 50 states and the District of Columbia. They found a solid correlation between the number of tax options available and the overall state/local tax burden. In other words, states with property taxes and either sales or income taxes have lower average tax burdens than states with all three options.
Second, if business leaders and lobbyists believe that sales-tax increases have no effect on a state’s economy, they aren’t keeping up with the relevant literature. Recent studies suggest not just that state and local tax burdens correlate negatively with economic performance, particularly when the proceeds are spent on transfers rather than core public services, but that sales and excise taxes specifically have adverse effects on retail sales and job creation.
Such studies adjust for other variables affecting economic performance, in order to isolate the effects of taxes. In the real world, those other variables still count. So North Carolina can continue to grow and create jobs even as its taxes rise. The point is that our economic performance would be stronger still with more responsible fiscal policies, and that we can’t count on lower land prices, proximity to markets, and other factors to offset the state’s economic drag indefinitely.
Third, North Carolina’s sales tax isn’t just rising. It’s poorly structured, even when compared with the still-flawed sales tax of the average state. To raise a poorly structured tax is not just to reduce private buying power but also to increase the distorting effects of the tax.
For example, North Carolina is one of only 14 jurisdictions that doesn’t adequately exclude business purchases of machinery from what should be a retail sales tax. We don’t exclude pollution-control or office equipment. We don’t exclude property leases. On the other hand, about half the states with sales tax apply it to more services sold at retail than we do. If North Carolina is going to retain a sales tax, it makes no sense to confine it to physical goods (that’s also what makes sales tax so regressive, because services as a share of total consumption rises with income). Unfortunately, most proposals to “reform” North Carolina’s sales tax improperly envision a new sales tax on services sold to businesses while continuing to exclude medical expenses, the largest category of truly retail services sold to consumers.
Rather than increasing North Carolina’s sales tax, already among the most burdensome in the U.S., policymakers ought to be pushing for its reduction, reform, or repeal. Business leaders ought to be encouraging them to do so. Instead, many are gambling that they can placate spending lobbies by backing higher sales taxes while shielding themselves with special incentive deals.
It’s not a winning bet in the long run.
Hood is president of the John Locke Foundation.