UPDATE

2009. Representative Peter Kocot proposed an amendment to the Massachusetts Budget to expand the state Sales Tax to include services. The amendment was withdrawn.

BACKGROUND

The Fiscal Year 2009 Tax Expenditure Budget Summary provides a detailed list of all the exemptions, exclusions, deductions of the personal income tax, corporate excise tax, and sales tax in Massachusetts. By far, the largest single area exempted is that of services from the Massachusetts Sales Tax. It is estimated that this accounts for $6.9 Billion in uncollected state sales taxes each year. [More on Tax Expenditure Budget]

According to an August 2009 Report by the Center on Budget and Policy Priorities [CBPP],

Levying sales taxes on services makes state tax systems fairer, more stable, more economically neutral, and easier to administer. Moreover, because state sales taxes are a major source of funding for schools, universities, health care, public safety, and other functions of state and local government, adding services to state sales tax bases can help states maintain their support for those functions, for instance during an economic downturn when state revenues are declining.

States that do not tax services to any significant degree at present — such as California, Illinois, Massachusetts, and Virginia — probably could increase their sales tax revenue by more than one-third if they taxed services purchased by households comprehensively. 

WOULD A SALES TAX BE GOOD? [CBPP]

Sales Tax Effectiveness.

As the amount of money spent on goods (rather than services) drops, many states have been increasing their sales tax rates to compensate. This increases our dependence on a regressive and increasingly ineffective tax, and creates an incentive for people to shop online, where most states are not effectively collecting sales tax.

Fairness.

It is not “horizontally equitable” to tax similar transactions in different way. Service taxes increase horizontal equity by imposing additional taxes. For example, a car rental would be taxed, just as a car purchase is, or a manicure would be taxed, just as a bottle of nail polish is. How imposing a sales tax on services affects “vertical equity,” or how people at different income levels are taxed, is not as clear. If the tax is added only to those services utilized predominately by higher-income people, the sales tax will be more progressive. Revenue will only be significantly increased, however, if a broad number of services are taxed, which will likely include those used by middle and lower-income folks.

Stability.

Research shows that a large portion of the revenue from the sales tax comes from big-ticket items (cars, boats, appliances, etc), the sale of which drops significantly during economic downturns, more so than equivalent services.

Simplicity.

For those retailers that sell items and services, this would eliminate the need to keep sales figures from the two income streams separate for tax purposes.

HOW CAN A SALES TAX BE APPLIED?

Servie Taxes Can Applied to a Broad Array of Services:

• Purchased by Businesses:  payroll, advertising
• Purchased by Consumers:  diaper service, cable TV
• Purchased by Both Businesses and Consumers: lawn care, pest control

Service Taxes Can be Implemented:

• As a one-vote blanket tax – applying to all but exempted services
• Through many votes – applying on a service-by-services basis

ISSUES WITH TAXING BUSINESS SERVICES

• Fairness. Taxing the services businesses buy can lead to “tax pyramiding” – the tax adds to the business’ cost of producing a product or service. This is incorporated into the sales price, which is then subject to the sales tax paid by the consumer at the register. This can make the sales tax more regressive, because necessities like food and utilities that often are tax-exempt can have substantial sales taxes hidden in their prices.
• Simplicity. State service taxes charged to businesses can become very complicated when those companies work across state lines. They may also encourage companies to perform tasks in-house (and thus tax-free) that they otherwise would out-source because they do not have the staff, skills, or equipment to perform those tasks effectively.

EXAMPLES OF TAXABLE SERVICES

ADDITIONAL RESOURCES

The Center on Budget and Policy Priorities is one of the nation’s premier policy organizations working at the federal and state levels on fiscal policy and public programs that affect low- and moderate-income families and individuals.

• Expanding Sales Taxation of Services: Options and Issues - Summary - Full PDF
  August 10, 2009 - CBPP

The Federation of Tax Administrators (FTA) was organized in 1937 to improve the quality of state tax administration by providing services to state tax authorities and administrators. These services include research and information exchange, training, and intergovernmental and interstate coordination. The Federation also represents the interests of state tax administrators before federal policymakers where appropriate.

• FTA Releases 2004 Survey on State Taxation of Services - Article - PDF
• FTA 2008 Update on State Taxation of Services - Article - PDF

If you would like to add additional information on the Massachusetts Professional Services Tax, or if you would like to be more involved in our revenue reform efforts, please contact us at info@onemassachusetts.org