Arkansas Tax Reform Task Force Takes on Sales, Use and Excise Taxes

The Tax Reform Task Force heard from its tax consultant PFM Group on sales tax and excise tax policy during its meetings on November 7 and 8, 2017. The sales tax advice generally followed conventional wisdom on best practices: Broaden the base, avoid taxing business inputs, and scrutinize the justifications for sales tax exemptions on consumption items. The excise tax discussion was a systematic review of the various existing and potential excise taxes. In hearing PFM’s presentations and considering the taxes, legislators were eager to identify revenue sources that could pay for income tax cuts.

The first day’s agenda was Arkansas’s sales and use tax system. The lengthy presentation prepared by PFM provided a basic explanation of sales and use taxes, compared Arkansas’s tax system to those of other states, and identified key decision points for the Task Force to consider in modernizing the state’s sales tax system. In general, PFM explained that there was little room to raise rates, and so any additional revenue—to pay for the desired income tax cuts—would need to come from eliminating exemptions or base broadening. (Adding more auditors was also mentioned as a potential revenue raiser.)

For sales tax exemptions, PFM bucketed them into three categories: (1) those required by federal law, (2) those supported by sound tax policy, and (3) those supported by public policy considerations. They suggested that it was exemptions in the third category that should be scrutinized closely for potential elimination, and the legislators largely seemed to think that made sense. This should be of some relief to the general business community, since PFM generally put business-to-business exemptions, such as the manufacturing machinery and equipment exemption, in that second category of exemption so long as the final end consumption product is subject to sales tax. Industries which benefit from specific sales tax exemptions on end consumption, however, should be especially concerned and preparing for scrutiny by the Task Force. Legislators were eager to dive in on the potential income tax rate reductions that elimination of various exemptions could offset, but the current data points from the Department of Finance and Administration were not yet ready for the Task Force or PFM.

On base broadening, PFM compared Arkansas’s already extensive taxation of services with the varied situations in other states. They noted the potential difficulties of taxing most of the major types of services not yet subject to tax, such as healthcare or professional services. Legislators were particularly interested in the experiences of other states in getting political pushback against efforts to broaden the sales tax base to tax more services. Questions from several legislators hinted at tying hardwired income tax rate reductions triggers to the revenue from newly taxable services.

The second day's presentation featured a systematic review of Arkansas excise taxes, such as motor fuel, tobacco, and alcohol taxes. In general, Arkansas taxes were broadly in line with other states in the region. Border competition with neighboring states, and particularly Missouri, largely limits the scope to further increase Arkansas excise taxes. Industries PFM identified as potentially bearing increased or new excise taxes included travel accommodations, vaping / e-cigarettes, and ride-sharing.

Legislators' questions surrounding excise taxes focused on several broad issues: First, paying for the specific costs associated with a product, such as tobacco or alcohol. Second, dealing with "border leakage" competitiveness issues of Arkansas consumers going across state lines to buy products with lower tax burdens. Third, of course, was the potential to raise additional general revenue.

The next Task Force meetings will be December 5 and 6. They will feature a study of property taxes as well as testimony from other states' legislators about best practices in pursuing tax reform.

For further reading, the Arkansas Democrat-Gazette has excellent coverage of both the sales tax and excise tax meetings of the Task Force.

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