Gimmicky Sales Tax Holidays Are Short-Term and Ineffective

Editor’s note: This originally ran as an opinion piece in Bloomberg Tax.

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Everyone loves a deal, so it’s no surprise why the appeal of the state sales tax holiday continues to persist. This year, 20 states will forgo more than $1 billion in combined revenue to enact a variety of sales tax holidays that—like most things that are too good to be true—will do little to provide meaningful benefits and instead undermine funding for public services.

Sales taxes are an important revenue source, making up close to half of all state tax revenue. But they’re also inherently regressive because low-income families spend a greater share of their income on goods and services subject to the tax compared to their wealthier counterparts.

While consumers are pointing to inflation as a major concern, state lawmakers around the country are sitting on record budget surpluses and looking for ways to return a portion of those gains back to residents. Though some states have taken the misguided approach to use this as an opportunity to enact permanent tax cuts, others are turning to the unimaginative “sales tax holiday.” These temporary suspensions of the sales tax are applied to a range of arbitrary purchases but most often fall under the banner of supporting back-to-school spending.

These holidays may seem to lessen the regressive impacts of the sales tax, but their benefits are minimal while their downsides are significant.

Over the years, sales tax holidays have increased in scope and duration, resulting in the cost to states nearly doubling in 2022 from last year. Florida is responsible for much of that growth, as the Sunshine State will spend roughly $630 million on five new tax-free holidays for products ranging from appliances and tools for home improvement projects to year-long holidays for children’s books, diapers, and clothing. This is on top of the holidays already in place like, for example, the Freedom Week Sales Tax Holiday, which allows consumers to purchase an assortment of tax-free goods for leisure activities like sporting events and outdoor activities.

With higher-than-expected revenue, states can afford to spend on these tax holiday programs, right? Well, sure, but there’s no guarantee that future revenue projections will be as rosy as they are now, and having permanent tax holidays on the books could stress state budgets should the economy take a dip. Ultimately, that revenue will have to be made up elsewhere, either through budget cuts or increases to other taxes or fees.

In fact, California may very well miss its revenue projection for the current fiscal year as the economy slows, and Republican Gov. Kristi Noem of South Dakota—a state that, like Florida, also lacks a personal income tax—recently published a blog post warning against future tax reductions despite being “cautiously optimistic” about the state’s fiscal standing.

But the cost of sales tax holidays isn’t the only problematic feature and is only made worse by their other weaknesses. Specifically, these measures are poorly targeted. Wealthier taxpayers can receive the same benefit and have more flexibility to shift the timing of their purchases to take advantage of these tax breaks. Also, sales tax holidays aren’t limited to state residents or local businesses, as online retailers in other states are included.

Retailer exploitation is another issue, because they can increase prices or water down their sales promotions during a tax holiday. One study of retailers’ behavior during a sales tax holiday in Florida found that retailers reclaimed up to 20% of the price cut consumers thought they were receiving from the state’s sales tax holiday. Moreover, the rules and regulations governing temporary tax exemptions only add to the complexity of administering them—some localities can choose whether to participate or not, leaving some consumers unexpectedly paying local sales taxes on their purchases.

Taxpayers in the US (and abroad, for that matter) are also facing increased energy costs, and politicians in five states so far have opted to approve gas tax holidays. Maryland, Connecticut, Georgia, New York, and Florida will forgo a combined $1.5 billion when they temporarily suspend fuel taxes. New York’s gas tax holiday, for instance, is in effect from June until the end of December, and Florida’s will go through the month of October, even as gas prices continue to trend downward.

Gas tax holidays suffer from many of the same shortcomings as sales tax holidays, and an analysis of Virginia’s proposed gas tax suspension conducted by our organization found that 30% of the tax cut would have flowed to the oil industry, whereas another 24% would have benefited out-of-state residents.

Lawmakers continue to lean on these tax holiday policy gimmicks while weakening states’ ability to invest in crucial priorities like infrastructure and education. If policymakers truly wanted to prioritize tax fairness, their constituents would be better served by boosting important state-level credits like refundable sales tax and food credits, the child tax credit, or earned income tax credit, which do far more to target struggling families and offset the regressive nature of the sales tax.

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