Just Taxes Blog by ITEP

Trends We’re Watching in 2018, Part 5: 21st Century Consumption Taxes

Trends We’re Watching in 2018, Part 5: 21st Century Consumption Taxes

April 20, 2018

Misha Hill
Misha Hill
Policy Analyst

This post is the fifth in a series of what we’re watching in state tax policy during 2018 legislative sessions. The first post discussed state responses to federal tax cuts, the second focused on state revenue shortfalls, the third highlighted improvements to tax credits for workers and their families, and the fourth looked at proposals to cut income taxes and shift toward a heavier reliance on consumption taxes.

We’re highlighting the progress of a few newer trends in consumption taxation. This includes using the tax code to discourage consumption of everything from plastic bags to carbon and collecting revenue from emerging industries like ride sharing services and legalized cannabis sales. Below we provide highlights on the progress and setbacks on these topics and state and local legislative action this year.

Gig Economy Asked to Pay its Fair Share

Firms that use technology to disrupt traditional ways of accessing services, like Uber and Airbnb, form the gig or on-demand economy. ITEP has pointed out that lawmakers must update their tax systems to adequately apply to the gig economy. Many state and local lawmakers are taking steps to do so this year.

Ride sharing companies like Uber and Lyft are increasingly being asked to pay new taxes or fees, often to support public transit spending. The San Francisco Board of Supervisors unanimously passed a measure calling on the state of California to sponsor a bill that requires “transportation network companies” to pay an infrastructure impact fee. The budget proposal from District of Columbia Mayor Muriel Bowser calls for a variety of new taxes to pay for the District’s public transit, including an increase in the gross receipts tax on ride sharing services from 1 percent to 4.75 percent. The budget proposal of the New York Assembly called for an increase in the service fee for ride shares from $1 to $2.75 per ride. And the Ohio Department of Taxation has ordered Uber to pay $1.6 million in sales taxes and penalties from the third quarter of 2015.

Short-term rental websites like Airbnb, VRBO, and Home Away have disrupted the hotel industry in many markets across the country, and their web-based business models have often allowed them to avoid collecting state and local lodging taxes. Airbnb, the most popular of the three in the US, has followed a pattern not unlike Amazon’s, and has gradually begun collecting lodging taxes in some jurisdictions as its business expands. The voluntary collections have resulted in considerable revenue for jurisdictions that have reached an agreement with the company—though much of this revenue would likely have been collected on overnight hotel stays in the company’s absence.

Arkansas and Arizona collected $1.2 million and $11.5 million, respectively, in tax revenue from Airbnb in 2017. Airbnb also began collecting a 5 percent lodging tax in Taos Ski Valley, New Mexico on March 1. In New York, Airbnb helped to author a bill that promises millions in new tax revenue while also attempting to address public safety concerns. The Massachusetts House passed a bill that would levy a 4 percent state tax on rentals like Airbnb.

Airbnb often offers to collect taxes to avoid new regulations or outright bans on its short-term rentals. The system of individual negotiations has led to inconsistent tax collection in the various jurisdictions where Airbnb operates. In Denver, Colorado, Airbnb hosts were responsible for collecting and remitting the 10.75 percent city lodging tax since January 2017. It took nearly a year of negotiations between city of Denver staff and Airbnb to reach an agreement that shifts the collection duty to the multi-million dollar company rather than individual hosts. And in Hawaii, after working with lawmakers to draft Senate Bill 2963 which would, among other provisions, allow Airbnb to collect taxes for the state, the company announced that if the bill was enacted it would not collect taxes.

Backlash Against Soda Taxes

Taxing soda and other sugary drinks was initially proposed by public health advocates to discourage excess sugar consumption and potentially combat obesity, diabetes, and other metabolic diseases. As the tax gained popularity, state and local officials began to view a soda tax not just as a tool to improve public health, but as a revenue source to fund public services. Of course, these two goals are in conflict. While the intention behind levying a “sin tax” is to discourage consumption of products like soda, tobacco, or cannabis, that discouragement can jeopardize the programs its revenue is earmarked to fund.

Philadelphia, Pennsylvania and Seattle, Washington are the two largest cities to implement soda taxes in the US, and the cities’ revenue projections and collections have been closely watched across the country.

Philly’s revenue collection for the first 12 months came in about 15 percent lower than projections. This could be due to a combination of the difficulty in analyzing a new tax, and the ease with which soda drinkers can leave the city limits to avoid the tax. As ITEP has previously noted, soda taxes are an unsustainable revenue source. But to improve the political appeal of the tax, Mayor Jim Kenney earmarked the revenue for well-liked, long-term spending obligations, including expanding free pre-K and community school constructions. The city has now paired back both the number of pre-K seats available and the number of community schools to be built.

Seattle’s 1.75 cents per ounce tax is the second highest in the country and went into effect on January 1. Grocers, such as Costco, are egging on consumers’ sticker shock with signs detailing the price change and informing consumers of locations outside the city limits where the tax can be avoided. In an attempt to avoid some of the push-back against soda taxes from grocers and consumers the city of Seattle initially asserted on its website that, “The tax is not collected by the retailer nor is the tax burden intended to fall on the consumer.” The city has since removed this sentence from the website. There is no provision in the ordinance preventing the tax from being passed on to retailers or consumers and retailers have made it abundantly clear that this is what they are doing.

Soda taxes are not faring much better in other localities. Cook County, Illinois repealed its tax two months after implementation. The state of Arizona used its pre-emption powers to ban local taxes on sugary drinks. And three major grocery chains in Oregon—Albertsons, Costco, and Kroger—are funding a ballot initiative for a constitutional amendment that would ban new taxes on sales of groceries.

Mixed Outcomes for Plastic Bag Taxes

Much like soda taxes, plastic bag taxes are a regressive tax that may discourage consumption and increase a public good. The public good sought by a plastic bag tax is the environmental benefit of using less single-use plastic which has been linked to climate change and the decrease of litter in public places. A 20 cents per bag tax proposed in Alaska, House Bill 264, has been voted out of committee but faces an uphill battle in the full House and Senate. Critiques from plastic industry representatives of the low environmental impact of plastic bags compared to reusable bags have been met with an aesthetic argument—regardless of the environmental impact of plastic or reusable bags, plastic bags littering the streets are unsightly.

Colorado legislators, following the lead of localities, proposed a 25 cents per bag tax. The funds would be earmarked for affordable housing. HB18-1054 died in committee but if it had passed, linking an unsustainable revenue source to a long-term spending priority could have caused fiscal troubles in the future.

Legislators in New York have proposed banning plastic bags while Utah lawmakers consider reversing a city’s ban. The New York bill would ban one time use plastic bags and place a 10 cents fee on all other one time use bags. The revenue from the fee would be split with 20 percent going to the retailer and the remaining 80 percent to the State Environmental Protection Fund. Utah lawmakers are moving in the opposite direction on the issue. A bill was introduced to pre-empt localities from banning plastic bags. Currently, one Utah city bans plastic bags. Governor Cuomo of New York also wielded state supremacy powers in 2016 to overturn New York City’s 5 cents per bag fee, but he now seems to support the plastic bag ban.

Carbon Tax Proposals Growing in Popularity, But Not Yet in Success

Taxing carbon emissions is also intended to discourage consumption and increase the public good. Carbon emissions are a key driver of climate change and taxing those emissions would provide an economic incentive for producers to shift to cleaner forms of energy. Despite falling short at the ballot box in 2016, Governor Inslee of Washington is committed to passing legislation to create a carbon tax. Senate Bill 6203 failed by a narrow margin, but the proposal for a $12 per metric ton tax on carbon emissions mostly unified the Democratic party and carbon tax supporters. The revenue would have been split between projects to further reduce greenhouse gas emissions, climate resiliency projects, and to assist low-income families and workers in the fossil fuel industry who would have been disproportionately impacted by increased fuel prices.

The appetite for a carbon tax is still apparent across state legislatures, in part as a response to the Trump administration’s withdrawal from the Paris Climate Agreement. In addition to the bill proposed in Washington, bills to levy carbon taxes have been filed in six additional states this year: Hawaii, Maryland, Massachusetts, New York, Rhode Island, and Vermont. Massachusetts is particularly notable because lawmakers have been considering various carbon tax bills for several years. Under Senate Bill 1821, for example, the state would levy a tax of $10 per ton of carbon emissions in the first year and gradually increase that tax to $40 per ton.

Legalized Cannabis Leads to a Host of Taxation Issues

Twenty-nine states currently allow the sale of medical and/or recreational cannabis. As more states allow for medical and adult recreational sales they must address a variety of issues related to taxation.

Three states have put forth proposals this year to legalize recreational sales and use. Bills have been filed in Connecticut, Rhode Island, and New Jersey. Despite overwhelming popular support from constituents, Connecticut lawmakers have voiced their reluctance to pass the three billsSenate Bill 487, House Bill 5458, and House Bill 5582– that would legalize cannabis possession, sale, and cultivation, regulate retail sales and home growth, and design a tax system for cannabis sales. House Bill 5458 died in committee making the passage of the companion bills highly unlikely this session. The sense of urgency to legalize cannabis in Rhode Island and Connecticut comes in part from pressure from the soon to open legal markets in the region from Maine and Massachusetts (the substance will also soon be legal Vermont, though there are no plans for retail sales). Cannabis is decriminalized in Connecticut and Rhode Island, so lawmakers worry if sales are not legalized and taxed the state will lose tax revenue from residents who are willing to travel to buy the product. In New Jersey, the governor has made his support for legal cannabis clear and even included it in his first budget proposal. Identical bills have been re-introduced in both chambers of the statehouse, A1348 and S830, that would allow for taxable retail sales. New Jersey Democrats have not fully rallied behind other aspects of the governor’s budget, so it is unclear if the state—now under one-party control—will reach a unified decision on this issue. Vermont was the first state to legalize cannabis possession and use through the legislature rather than by a ballot measure. The law takes effect on July 1, but the legislature has yet to set up a system for retail sales or taxation. This would put Vermont in the same limbo as Washington, DC with no system to tax or regulate the market.

A pair of bills in Minnesota, HF 486 and SF 265, would allow medical cannabis manufacturers to claim business and trade expenses as deductions. State legislative action is needed to allow cannabis businesses to claim the same deductions as other businesses because Minnesota currently conforms with federal law which prohibits claiming business expenses as deductions if the business traffics in controlled substances. Both bills are currently awaiting committee action.

The taxation of medical cannabis is also an ongoing debate. Nearly every state in the country exempts prescription drugs from its sales tax base, but very few states exempt non-prescription drugs. Because cannabis is still prohibited federally and thus lacks FDA approval, medical cannabis should be similar in its tax treatment to a non-prescription drug. For states with only medical cannabis sales this is the most common practice. Only Maryland, Minnesota, and Vermont exempt medical cannabis from the sales tax base. This year the Michigan Department of Treasury issued a bulletin stating that medical patients will have to pay the 6 percent sales tax in addition to a 3 percent excise tax whether they buy the plant from a dispensary or an approved caregiver. Sales by caregivers were previously untaxed but will now be taxed on an honor system. Patients are now required to pay the use tax when they file their state tax returns. Excise taxes on cannabis are generally thought of as a tool for discouraging consumption or funding programs that can offset a negative societal impact, such as the previously mentioned excise taxes on sugary drinks, plastic bags, and carbon. Thus, if a patient is taking medical cannabis for a legitimate medical need an excise tax does not serve a policy goal and may place an unnecessary financial burden on the patient. The policy decision becomes trickier in states with both a medical and recreational market. An excise tax exemption only for medical cannabis may encourage consumers to seek out illegitimate recommendations from unscrupulous doctors, so they can purchase cannabis at a discount. Restrictive standards for doctors’ recommendations and enforcement mechanism could discourage bad actors. States with legal medical and recreational markets tend to tax medical sales at a lower rate. California exempts medical cannabis from state sales tax, Colorado exempts it from the special state sales tax on cannabis, Nevada taxes wholesale medical cannabis at a lower rate and exempts it from the retail excise tax, and Washington exempts it from the state sales tax.

What Could be Next…A Tax on Meat?

Worldwide, no jurisdiction has implemented a tax on meat, but it’s increasingly on the table as a tool to address the environmental and public health costs of the consumption of meat. Several countries have considered taxing meat in recent years, but the idea has not gained traction. The Food & Agriculture Organization estimates that greenhouse gas emissions from livestock account for about 15 percent of human-related emissions. A report released late last year from an investment firm focused on environmental sustainability urged that, “Far-sighted investors should plan ahead for [the] day [of a meat tax].” A 2016 study lead by a team at Oxford presented a plan for a meat-tax that could benefit middle- and low-income countries while also improving the environment. And a 2011 study suggested a tax on meat and dairy could reduce European emissions. The US’s collective refusal to act on climate change, practice of subsidizing agricultural production, and cultural connection to meat make a meat tax seem highly unlikely in the foreseeable future. But should a meat tax be proposed in the US, it would likely impact low-income and food-insecure households the most.

Conclusion

State tax policy, and consumption taxes in particular, are evolving issue areas. New types of services, changing consumption habits, and growing interest in using the tax code to influence behavior have all led to tax policy debates that few could have imagined just a few years ago.