Chicago Bottled Water Tax and Blog Action Day 2010

October 15 is Blog Action Day serving the purpose of trying to get bloggers to all blog on the same topic on this day. The 2010 topic is water. There is a lot of important information at the above link about global water problems and the shocking number of deaths every day due to unsafe water.

I'm using this day to comment on the recent case that upheld the Chicago 5 cent bottled water tax against challenges of it being an unconstitutional occupations tax and of violating the uniformity clause of the Illinois Constitution.

I wrote about this tax when it was enacted in 2007 - see 11/27/07 post and 3/20/08 and an April 2008 AICPA Tax Insider article. I noted that the tax is odd in that it is per bottle regardless of the size of the bottle; there is some reference to an environmental justification yet there is no tax on all bottled beverages; and there were non-tax alternatives to trying to get people to drink the city water rather than bottled water.

The tax was challenged by the American Beverage Corporation (Appellate Court, First District, 1-09-1511 (9/23/10)). Chicago won on the challenges because ...

1. Occupation tax - prior case law has held that "A tax on tangible personal property is not considered an occupation tax when the ordinance enacting it declares its legal incidence falls on the purchaser, rather than the seller." ABC argued that because collection falls upon the retailer/distributor, the practical effect was that it was an occupation tax. The court disagreed noting, among other things, that the tax was imposed on the transfer of the tangible object.
2. Uniformity clause - two factors were relevant here. First, there is a difference between taxed bottled water and other untaxed goods, such as carbonated or flavored water. Second, is the need for a reasonable relationship between the rule and its purpose. Per the court, "the City enacted the bottled water tax to raise revenue in a manner that discourages consumers from buying noncarbonated bottled water, both to conserve energy from nonrenewable sources and to reduce the discharge of toxic contaminants and litter. The classification is reasonably related to those purposes and therefore satisfies the second prong of the uniformity clause."

So, while upheld as valid on a legal challenge, I don't think it holds up under a tax policy analysis. Consider:

• Equity - the tax is regressive.
• Neutrality - is might encourage people to not buy bottled water, but I think it might instead make them want to buy it in larger bottles (tax is 5 cents per bottle) as a tax minimization plan.
• Simplicity - while the law is not too complicated, partly because it is per bottle rather than size of bottle, the Chicago tax system would be even simpler without the tax.

What do you think?

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?

Unusual Taxes - Often Not Ideal for Tax Systems

In efforts to either raise new revenue or change behavior, or both, we sometimes see some unusual tax proposals from lawmakers. Here are a few recent examples, some of which were enacted:

New Mexico - 1% excise tax on the sales price of televisions, video games, and video game equipment. The revenues would go into the "leave no child inside fund" to be used for outdoor curriculum programs, transportation for children to have an outdoor experience, to provide "outdoor nature-oriented physical activity programs" for children and similar purposes. This bill, HB 583 was estimated to raise about $1.85 million each year. As the name for the proposed law suggests - Leave No Child Inside, the goal was primarily to change behavior - get kids away from TV and video games and outside. It's unlikely that it would have changed behavior, but it would have provided extra moneys for outdoor education and activities. One of the supporters of the bill was the Rio Grande Sierra Club. This bill died in committee in March 2008.

Issues include:

• Is there really a good reason for this new tax? If there is a need to increase funding for parks so they have more programming for kids, why not use general fund revenues?
• Why single out video games and TV? Other things that keep kids inside include DVDs, games they can access on their computer (even for free), Girl Scout meetings, homework, chores, and much more.
• What about the definitional problems? Issues would certainly arise as to how to what is a video game, how to apply the tax if a video game is purchased online or from out-of-state, and more.

Chicago - a bottled water tax went into effect in 2008. See earlier blog post.

California - oil taxes. In March, a bill - ABX3 9 was proposed and died when it failed to get California's required 2/3 majority vote for a tax increase. This 2-part proposal included a severance tax on oil (not really unusual since many states already have them) and a 2% surtax on oil company taxable income over $10 million. Two unusual aspects - why single out oil companies for a higher income tax - why not other profitable companies? After all, California has a $15 billion budget shortfall. The other unusual item was that all revenue generated would go to the Superintendent of Public Instruction to alleviate budget cuts that are presently causing some K-12 teachers to get layoff notices.

Issues include:

• Earmarking taxes, particularly when there is not connection between oil and funding education. Also, when oil company income drops, so would education funding.
• Singling out one industry for special treatment (here, higher taxes) adds complexity to the law because special definitions are needed to define that industry.
  (See op ed.)

New York City - a congestion tax was proposed in 2007 by Mayor Bloomberg (New York Times story, 4/22/07). This is not an original idea because it is used elsewhere, such as in London. It addresses the problem - if you want to reduce congestion, make it more expensive to enter a location during certain hours. It will encourage people to find other means, such as walking or public transportation - or just waiting to enter when the tax is lower or not imposed. It does raise some administrative challenges, but it doable. We'll see what happens.

European Union - a proposal to tax cars based on how much they pollute (Reuters story, 11/13/07).

Issues include:

• How to measure how much cars pollute? The easy ways, such as by adding the tax on at time of purchase based on the year and make of the car won't work because people drive different amounts annually. People are unlikely to keep good records of how much they drive annually.
• Driving habits can affect pollution. Driving faster uses more gas as does driving with lots of stuff in the trunk.
• Visitors (although most probably drive in from another EU country) cause pollution, but not be taxed (depending on the system for assessing the tax).
• While a good idea, administrative difficulties probably make a tax at the pump a better approach.

There are certainly many others. One from a few years ago was a proposal in Detroit to tax fast food (CNNMoney.com article, 5/9/05). Significant issues include the rationale for such a tax (other than to raise revenue) and the many issues that would arise in trying to define fast food.
Often these unusual taxes arise when lawmakers are desparate for money, a situation that often doesn't lead to changes that are good for a tax system.

Bottled Water Tax in Chicago

The Chicago City Council passed a 2008 revenue ordinance that in addition to some increases to existing taxes, adds a new "bottled water tax." This 5 cents per bottle tax applies to retail buyers and is collected by dealers and wholesalers starting January 1, 2008.

The tax is expected to raise $10.5 million (Sun Times, 11/14/07).

The tax was originally proposed at 25 cents per watter bottle by Alderman George Cardenes. The revenue was intended to address a shortfall in water and sewer funds believed to be partially due to people drinking less tap water. (CBS2, 8/14/07)

Is a bottled water tax a good idea?

If there are costs of using bottled water that are not included in the price that society ends up paying (negative externalities), then a tax helps to make the price of the item reflect the truer cost. There are costs to Chicago of bottled water. These apparently include a drop in funds for the tap water they produce. Undoubtedly, there are also disposal and recycling costs. Beyond Chicago, there are costs of the materials used to produce the bottles (including petroleum) and pollution costs involved with delivery.

If the concern is with disposal of plastic bottles, the tax is too narrow as other products are packaged in plastic bottles, such as soda. However, it appears that some of the rationale for focusing on water is that the City Council knows its tap water is fine to drink, making the bottled water an unneeded item.

Is the tax well designed?

1. If bottled water is creating costs for Chicago, then a tax or fee to address it make sense. However, before creating a new tax that will create new compliance and administrative costs for taxpayers and tax collectors, alternatives should be explored. For example, could the city just produce less tap water to meet reduced demand, thereby reducing its costs? Given the likely high fixed costs of producing clean water, this may not have been an option. Also, while the city might be able to increase the cost of tap water, that would put the cost on those who did not cause the problem and perhaps make the problem worse (more people may start buying bottled water).


2. If disposal of plastic is the problem, then the tax - as a "polluter pays" tax, is too narrow.


3. While 5 cents per bottle is simple, it may lead to larger water bottles being sold in Chicago.


4. While Chicago is a big city, people may still find it relatively easy to buy their water bottles outside of the city limits.


5. Could the tax be construed as an additional sales tax on bottled water? If yes, is that allowed under state and city law?


6. Could the tax be viewed as creating unfair competition for city water? A tough question, perhaps. The tax is likely within the city's taxing powers, and it is trying to cover costs it has under its obligation to provide water. A correlation between the drop in water funds and increase in bottled water sales with the new tax covering that shortfall and no alternatives to the city, likely brings it within their operating powers and responsibilities.
   
7. The tax seems to have been designed to be simple. All bottles are taxed the same and the collection chain seems straightforward.

Will other cities or states follow Chicago's lead? Some are focusing on the "luxury" nature of bottled water and the message sent when government funds are used to buy bottled water for employees when the local water is perfectly fine to drink. In fact, on Nov. 16, 2007, Illinois started a policy that state agencies may not purchase bottled water with state funds. In February 2006, San Francisco Mayor Gavin Newsome expressed concern over the $500,000 of city funds going to bottled water when the local drinking water is fine. One solution he had was for the city to bottle its own water. Since then, he decided to just forbid the use of city funds to buy bottled water. The Executive Order the mayor signed in June 2007 includes some interesting data about the usage and cost of bottled water.

Does a bottled water tax help move Chicago's tax system into the 21st century? I don't think so. This sounds like a seized opportunity without consideration of what overall reforms would be best. While polluter pays taxes can help promote economic efficiency by taxing activities that result in costs to society and to governments, and freeing up other tax dollars to be kept by taxpayers, the bottled water tax is too narrow. Many products are packaged in plastic bottles and other materials that are harmful to the environment. More work is needed.