Gross receipts taxes are beginning to spread nationwide, to the dismay of economists, businesspeople, and consumers, a new report observes.
While these taxes are new to most states that have them, New Mexico has extensive experience with this form of taxation, having adopted a gross receipts tax more than 40 years ago.
The experience has not been good, according to Harry Messenheimer, co-author of “New Mexico’s Gross Receipts Tax: A Warning to Other States,” a report released in February by the Rio Grande Foundation in Albuquerque, New Mexico.
“The gross receipts tax is the defining feature of New Mexico tax policy. Other states should take a close look at our tax system and the political and economic problems associated with gross receipts taxes before adopting them,” said Messenheimer in an interview for this article.
Recent Adoptions
Kentucky, Ohio, and Texas have adopted gross receipts taxes recently (Kentucky and Ohio in 2005 and Texas in 2006); some cities levy their own versions; and a February 11 editorial in the Chicago Tribune called for Illinois to adopt “a 1 percent tax on all business receipts, coupled with repeal of the state corporate income tax and the state portion of the sales tax.”
Illinois Gov. Rod Blagojevich (D) in March proposed a gross receipts tax that would raise an estimated $6 billion, and governors and lawmakers in several other states are also considering adopting them.
Unlike other states, New Mexico applies its gross receipts tax at rates similar to those of sales taxes elsewhere (nearly 8 percent in some areas of the state). States that have recently adopted gross receipts taxes have rates of 1 percent or less.
Creeping Tax Rates
Messenheimer points out that New Mexico started out with far lower tax rates on gross receipts than it has today.
“If states enact gross receipts taxes without placing strict limits on future rate hikes, they will wind up with a loophole-ridden, business-killing tax like New Mexico’s,” Messenheimer warned.
The high tax rates in New Mexico “make for something of a controlled experiment in taxation and the economic effects of ‘tax pyramiding’,” Messenheimer said.
Tax Pyramiding
According to Messenheimer, the primary differences between a gross receipts tax and a sales tax are the taxation of services and the “pyramiding effect.”
Pyramiding occurs when one business purchases an already-taxed good or service from another business, causing taxes to build upon one another.
“For many businesses, especially those with high overhead costs and that are involved in the service industry–doctors are a good example–tax pyramiding can be especially problematic,” Messenheimer said.
John Carey, president of New Mexico’s Association of Commerce and Industry, calls pyramiding of the gross receipts tax the organization’s “greatest concern regarding New Mexico’s tax structure.”
The fiscal impact of tax pyramiding is difficult to quantify, but economists estimate excess revenue thus collected by New Mexico–the taxing of taxes–is in the $400 million to $500 million range.
Tax Shifting
Rather than maintaining the tax at relatively low rates across the board (the tax in New Mexico originated in the Great Depression and was first levied in its current form in 1966 at a rate of 3 percent), the tendency has been for politically influential industries to carve out specific exemptions for themselves in order to reduce their tax burden.
Managed care firms, for example, persuaded the state to exempt their industry from the gross receipts tax in 2004. Simultaneously, the gross receipts tax for fee-for-service firms increased.
As Kay Monaco, executive director of the left-of-center New Mexico Voices for Children pointed out, “Since [the exemption] only applied to health care providers who are paid by managed care organizations, the uninsured who see private providers on a ‘fee-for-service basis’ actually saw their costs go up. Worse, they now pay higher taxes on aspirin, cough medicine, and all other over-the-counter drugs than they did before the tax shift.”
Similar exemptions have been carved out for groceries, the film industry, aviation, and space travel, to name just a few well-connected or sympathetic interests. Since 2005, gross receipts tax rates have risen statewide by nearly a full point in many places, as localities have some discretion in raising the rate.
When businesses consider locating in New Mexico, some sort of gross receipts tax exemption is nearly always negotiated. This behavior skews the marketplace, gives politicians undue influence over business activity, drives tax rates up, and ultimately makes New Mexico’s economy less efficient.
Border Losses
The high tax makes it difficult for New Mexico businesses–especially those in border areas–to compete with businesses that are not taxed at similar rates. For example, the Pan American Center at New Mexico State University, located in the Texas-New Mexico border town of Las Cruces, has difficulty attracting headline acts because it competes with the Don Haskins Center at the University of Texas-El Paso, where there is no tax on concert tickets.
To keep concerts and non-athletic entertainment in New Mexico, state Sen. Lee Rawson (R-Las Cruces) has been pushing legislation to exempt these shows from the gross receipts tax.
“In order for the Pan American Center in Las Cruces to have any significant impact in the non-sporting events venue, the tickets need to be exempt from the state’s gross receipts tax,” Rawson said in a press statement.
Economically Damaging
Usually the point of broadening a tax base is to keep tax rates low, thus remaining competitive with other states. But with Las Cruces levying its gross receipts tax at 7.125 percent, New Mexico’s potential tax rate advantage over sales taxes in nearby cities in Texas is eliminated.
And as the gross receipts tax base is narrowed on certain goods–New Mexico recently exempted groceries, and concert tickets probably will be exempted, as Rawson’s bill passed the Senate unanimously on February 19–the pressure builds for rates to rise even further.
“Even if states could avoid granting special-interest carve-outs and imposing higher tax rates over time, ‘tax pyramiding’ is nearly unavoidable in a gross receipts tax system,” Messenheimer said. “It’s an economically damaging outgrowth of such broad-based taxation regimes.”
Paul J. Gessing ([email protected]) is president of the Rio Grande Foundation in Albuquerque, New Mexico.
For more information …
“New Mexico’s Gross Receipts Tax: A Warning to Other States,” written by Henry Messenheimer and published by the Rio Grande Foundation in February 2007, is available through PolicyBot™, The Heartland Institute’s free online research database. Point your Web browser to http://www.policybot.org and search for document #20802.
