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Should Rhode Island Repeal Sales Tax? The $887 Million Question

author photo of Annette Nellen

Joint Resolution HB 5365 (7/11/13) in Rhode Island calls for creation of a 13-member commission to "make a comprehensive study of all aspects of the current system pertaining to sales tax in the State of Rhode Island, including, but not limited to, the possibility of repealing the sales tax." The commission's report is due to the legislature by February 6, 2014 and the commission expires on April 8, 2014.

According to an article in the Providence Journal, the original intent of the sponsor was to repeal the sales tax (Gregg, "New commission weighs pros, cons of repealing R.I. sales tax," 9/12/13). The first meeting of the Special Joint Legislative Commission to Study the Sales Tax Repeal Act of 2013 was held on 9/12/13.

States tend to generate about one-third of their revenues from the sales tax. Per the Providence Journal article , the RI sales tax brings $887 million to fund government services.

Rhode Island's sales tax rate is 7% which is the same as in Indiana, Mississippi, New Jersey, and Tennessee. It's lower than highest state rate of 7.5%(for California), but higher than most states. (See information from the Federation of Tax Administrators (FTA).)

Is this a good idea - to possibly repeal the state sales tax? Here are some pros and cons with consideration too of principles of good tax policy.

Reasons to repeal a state sales tax (pro arguments for the commission):

  1. Simplification - the sales tax with the numerous exemptions states typically allow can be complex both for the state and taxpayers. When some things that should be part of the tax base are statutorily pulled out, detailed definitions are needed to enable taxpayers and vendors to know what is and is not subject to the sales tax. Without a sales tax, an entire body of law disappears in Rhode Island.
  2. Compliance costs - the costs for a business to collect sales tax and file returns is greater than for income taxes due to the number of filings, need to determine when sales tax must be collected, need to evaluate resale certificates provided by some customers, etc.
  3. The sales tax gap goes away - the National Conference of State Legislatures estimates that in FY2012, RI did not collect sales tax of $70.4 million, just on e-commerce sales. The state might save administrative dollars in not trying to collect this tax.
  4. Equity - a sales tax is regressive. That is, it represents a larger portion of a lower-income individual's income than for a higher income individuals. Replacing the sales tax revenues with an income tax would make the entire system more progressive assuming there is a filing exemption that exceeds some multiple of the poverty level, and a progressive rate structure.

Reasons to not repeal a state sales tax (con arguments for the commission)

  1. Revenues - RI relies on its sales tax to produce about 30% of its revenues (per 2012 FTA data). RI reports that for FY2014, including federal revenues received, sales tax revenue provides about 12% of revenues (see pie chart at end of this post). It will be politically challenging to find a replacement for this much revenue.
  2. Revenue stability and predictability - governments tend to do better with a mix of taxes that might better track economic activity and ride through a recession better. For example, in an economic downturn, income tax collections are likely to drop more quickly than the sales tax. Without the sales tax buffer, the state may have greater budget problems.
  3. Economic development - RI already provides sales tax exemptions for manufacturing and R&D equipment. Assuming repeal of the sales tax will lead to higher individual and corporate tax rates, the state may become less attractive to businesses.
  4. Reform alternatives - repealing a tax that produces 30% of state's revenues is drastic. Alternatives exist, such as reforming the tax to make it more equitable, more business friendly and to reduce the tax gap. For example, the base can be broadened to include more types of personal services and digital items purchased by consumers (to avoid making the pyramiding problem worse, don't broaden the base to include items purchased by businesses). Use tax collection can be improved by educating consumers about this longstanding tax and making it easier to pay it (such as allowing use of a look-up table to determine how much is owed (RI already allows individuals to report the use tax on the individual income tax form)).

It will be interesting to see what the new commission discusses and decides.

What do you think?

Other recent “Sales Tax Policy - Tales & Trends” posts by Annette Nellen, CPA, ESQ:

NOTE: All blog content, comments, and participation subject to disclaimer at bottom of page.

Comments

1 Responses to Should Rhode Island Repeal Sales Tax? The $887 Million Question

  • Posted by Michael on October 28, 2013 11:52am:

    I read that the wealthy may spend only about 1% of income in sales & consumer taxes, while the working poor can easily pay 5% of income to sales and consumer taxes. Repealing the Federal income tax in favor of a Federal consumer tax would be a huge break for the wealthy. Though I am considered middle class, I spend 15% of income in property tax, while the wealthy may pay 1, 2, or 3% of income in property tax. The wealthy get a big tax burden break with sales, consumer and property taxes, expressed as a percentage of income. If I was on that commission, I would see if the Rhode Island tax system could be fitted into the rates & rules of the Oregon state & local tax system. Rhode Island needs a tax gimmick, really shake up the system, take a bold step. Otherwise, continue to go slowly down the drain. Massachusetts should had gone for a sales tax repeal, instead of an income tax repeal, that would had been more workable, and made them more competitive with New Hampshire.

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