Tax Analysts Blog

Local Sales Taxes are Poor Revenue Options

Posted on Mar 11, 2015

I have been writing about local option sales taxes for 20 years. The issues haven't changed much. To varying degrees, local sales taxes apply in 38 states. They are imposed in thousands of jurisdictions. Kentucky is an exception. Its local governments cannot impose a sales tax. But there are folks in Kentucky who want to change that. A bill (HB 1) would allow voters to decide on a constitutional amendment that would give local governments the option to approve a sales tax whose revenue would be appropriated to a particular project. If the constitutional amendment is approved by the General Assembly, voters will be able to decide on it during the November 2016 election. The House passed the measure, and it is now before the Senate.

I have no idea whether the voters of Kentucky would pass such a measure, if given the chance. There are advantages to local option sales taxes. For many reasons, the sales tax is a good tax. It is efficient in terms of compliance and administration. Its revenue grows with the economy -- and almost all economists would agree that taxing consumption is better than taxing production.

Perhaps most importantly, sales taxes provide local governments with a measure of autonomy. If you believe localism is a normative good, it follows that local governments need independent own source revenue. There is no political autonomy without taxing authority. Moreover, the preferred source of local tax revenue -- the property tax -- remains much out of favor. Politically, it is difficult if not impossible to significantly increase property tax burdens. And in Kentucky there are several legal limits on property taxation. Local option sales taxes are not as good as property taxes, but far better than reliance on state aid.

But there are significant problems with local sales taxes. First, the sales tax in general is under siege across the nation. The problems that plague the tax at the state level affect the local level as well. The base is shrinking as the service sector grows. States haven't resolved the problem of collecting on remote sales. Intangibles, real estate, and a myriad of "necessities" remain untaxed. Yet business inputs are taxed a lot. And taxing sales at the local level adds to the regressivity of the system. Let's face it -- the system is already decidedly regressive. I am not sure why politicians would want to make it more so.

I think the biggest problem with local option sales taxes is that they afford politicians the ability to export tax burdens. When Louisville adopts this tax (and it will), the folks who shop in the city will pay. But many of those folks don't live within the city limits. It will be people in the surrounding suburbs and rural areas who pay some of the tax. That is great for Louisville, but not so good for other jurisdictions. I am unsure why a legislator from a rural area -- or even an area without significant retail -- would support this measure. Their citizens will pay but won't see the benefits.

This post is an excerpt of an article that first appeared in State Tax Notes.

Read Comments (2)

emsig beobachterMar 10, 2015

In most states with local option sales/use tax, the state administers the tax
but the locals have control of the rates. In other states, locals administer
their tax but are required to conform to state tax bases, definitions, and
administrative rulings. Only a few states have truly local administered
sales/use taxes.

One answer to your question regarding why a rural legislator would vote for
local option sales/use taxes is: what are the alternatives? Furthermore, while
Cowpie, KY might not be a retail dynamo, there is retail activity in that town
and they can use the money.

As for the people who shop in Louisville but do not live in Louisville -- I'm
sure they will get a warm glow knowing that they are helping to defray the
costs of public services provided to them by the City of Louisville during
their sojourn there. Also, if the political leaders in the Louisville
metropolitan area were wise enough and public spirited enough, they could
devise some form of revenue sharing or tax base sharing (note to self -- keep
taking your medications).

P.S. The regressivity of the sales/use tax is mitigated if food for home
consumption and prescription medicines are taken out of the tax base. However,
the tax is more volatile and tax benefits are provided to the non-poor. C'est
la vie.

Yes, the local option sales/use tax is a bad tax considering all of its
attendant problems, but what are the alternatives?
Don't you wish we were governed by the Benevolent Computer? Of, course, we'd be
out of work.

robert goulderMar 10, 2015

"Let's face it - the system is already decidedly regressive. I am not sure why
politicians would want to make it more so."

Call me cynical, but I think elected officials across the nation are at best
ambivalent about regressive taxes. At worst, they are downright fond of them.
How else does one explain the prevalence of lotteries -- which are nothing more
than a tax on people lacking basic math skills (typically the poor and the
elderly).

Should a municipality require additional revenue, property taxes are the
obvious choice, as you point out. But imposing a flawed and regressive sales
tax on constituents requires much less political risk than raising property
taxes.

The county board rarely thinks "Gosh this sales tax is regressive, maybe we
shouldn't approve it." Instead they ask "how would raising the property tax
affect my fundraising for the next election?" Politics trumps policy.

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