Bottled water tax proposed in Michigan

The Lt. Governor of Michigan has proposed a 10 cent per bottle tax on water to help fund education (Lt. Governor John Cherry press release of 12/14/09). Per Lt. Governor Cherry, it makes sense to tax one resource to fund another (Mlive.com 12/14/09). Is this a good idea? Based on principles of good tax policy and budgeting - no.

Equity - why a tax on bottled water and not other bottles or other acquisitions of water?

Economy in collection - there will be costs to both businesses and the government of collecting and auditing this new tax.

Neutrality - the tax will affect taxpayer decisions on whether to buy bottled water and where to buy it.

Appropriate government revenues - while the government should be able to estimate how much it will generate from a new bottle tax, the fact that the tax is tied to a specific use and one that is unrelated to bottled waters (education), makes this earmark a problem for the budget process. I've written about the problems of earmarking before (San Jose Mercury News, 3/21/08).

Complexity - as a new tax, new forms and processes would be needed. It might also be difficult to define bottled water - does that mean pure water? What if a few vitamins are added or flavoring?

Minimum tax gap - people will be encouraged to buy water outside of the state if convenient to do so (they live on the border of another state).

The tax does meet the transparency principle assuming the tax would be added to a buyer's bill.

Constitutionality - it is not unusual for state constitutions to have a variety of prohibitions that will defeat some taxes unless the Constitution is first changed. The likely unconstitutionality of a Michigan water bottle tax has been noted by The Tax Foundation (12/17/09 blog post) and others.

This is not the first time states have suggested or enacted odd taxes:

• Chicago's bottled water tax
• New Mexico TV/video game tax

While Michigan, like other states, is facing budget shortfalls, desperate measures, such as a bottled water tax, are not the best way to go. They should look more broadly at reform, which should include consideration of polluter pays taxes. A polluter pays tax on all plastic bottles might make sense. If Michigan already imposes a deposit on plastic bottles, a system is already in place to assess such a tax. Also, it is likely that general fund dollars today are being used for waste disposal including plastic bottles. But, this still seems like a small measure in light of larger tax and budget problems.

What would you suggest for Michigan?

Repealing Tax Changes Before They Take Effect -- Is There a Better Way?

In the past year, we have seen both Michigan and Maryland enact new taxes, only to repeal them soon thereafter and before they became effective, due to complaints. That's a lot of work for no effect. What could have been done differently?

On 12/1/07, the day a use tax on specified services was to go into effect, Michigan repealed the law (see prior blog post). More recently, Maryland repealed its expansion of the sales tax to computer services. In November 2007, the legislature added computer services to a measure designed to address a budget shortfall (see Washington Post article of 12/9/07). The tax was to become effective on July 1, 2008. Fierce opposition by the business community led to its repeal in April 2008. The tax would have mostly applied to businesses since they purchase more computer services than do individual consumers.

Back in 1987, we saw Florida expand its sales tax to include specified services, only to repeal that tax 6 months later. In 1990, Massachusetts expanded its sales tax to services, but repealed it before the effective date.

This seems like a lot of wasted effort. In Maryland, the Comptroller's Office was struggling to write regulations to help businesses be ready to comply - a project now pulled.

What night have helped lead to more productive legislative efforts and more lasting tax changes? Here are a few suggestions:

1. Transition: In creating a new tax or expanding an existing tax to include new taxpayers, provide sufficient time for the tax agency to provide guidance and assistance and for taxpayers to get their computer and business systems ready to handle any new collection, reporting and payment procedures. In Michigan, the expanded sales tax was enacted in October to be effective on December 1. That's not enough time for businesses to get ready to collect the tax.
2. Use Prior Research: Many states have had commissions to study tax reform in their states. Typically, there are hearings and months of thought and discussion. Commission final reports tend to sit on shelves. Legislators should look for such reports to see what was suggestion as typically a lot of thought and research goes into these reports. NCSL keeps a list.
3. Avoid Sales Tax Pyramiding: Plans to expand sales tax to more types of services should stay away from services that are primarily purchased by businesses. This will avoid pyramiding in the sales tax.
4. Accompany Any Base Expansion with a Rate Reduction: If a tax base is to be expanded, the rate should be lowered. Typically, a tax with a broader base and lower rate is simpler (fewer rules needed to define what is not taxed or is treated specially), can have higher compliance rates (less interest in tax planning due to lower rate), and is more neutral (fewer special rules causing the tax law to influence decisions). Base expansion accompanied with a rate reduction is more likely to be accepted as tax system improvement by taxpayers than just a base expansion.
5. Educate Taxpayers: Use advertising to help taxpayers understand the current flaws in the tax system and why they need to be fixed.
6. Fix Tax Systems in Good Times: Tax law changes made during times of budget crisis are likely to be focused more on what raises the requisite revenue rather than what makes best sense for modernizing a tax system within the principles of good tax policy.
   

Michigan Changes Course - Repeals Sales Tax on Services

Recently, to address budget problems, Michigan lawmakers agreed to expand the sales tax base to include many more types of services (see prior post). Big surprise - taxpayers and service providers did not like the change - a $725 million tax increase (see story in The Detroit News, 11/1/07)

On 12/1/07, the effective date of the expanded tax, Governor Granholm signed HB 5408 (PA 145) to repeal the tax on services. That expected sales tax revenue will be replaced with a business tax surcharge.

There are many good reasons for having a sales tax cover all types of personal consumption rather than just tangible personal property (see prior post). However, change is difficult. Expanding the sales tax base to include more types of services means that businesses, such as nail salons and child care facilities, who have not collected sales tax before and not had to file returns, now have to.

How might the Michigan sales tax expansion to services have been done in a way that might have reduced the desire to immediately repeal it?

1. Transition in the expansion. This gives the tax agency more time to help businesses that must now collect and remit the tax.
2. Do not tax services primarily used by businesses. Businesses should not pay sales tax, only final consumers. This prevents pyramiding of the tax where businesses add it to their costs and consumers pay tax on that amount. (see prior post)
3. Start with education efforts to help consumers better understand the sales tax and why some types of consumption should not be exempt.
4. Expand the base along with a rate reduction !!!!!