Would Eliminating Taxes on Services Help or Hurt the Poor?

As states increasingly look to tax services, Missouri voters can be the first to keep that from ever happening. How that would impact consumers is unclear.
BY  AUGUST 31, 2016

In Missouri, the Department of Revenue decided to start applying the state’s entertainment sales tax to activities like dance. (FlickrCC)

States have struggled to keep up the same revenue growth as they experienced before the recession. One big reason is that their earnings from sales taxes are declining. That's because these days, consumers are spending far more on services -- most of which aren’t taxed -- than goods, which are.

To remedy the situation, lawmakers have tried and had varying degrees of success expanding the sales tax to services. Massachusetts passed a tax on the cloud and quickly repealed it after the tech industry complained. Pennsylvania enacted the so-called "Netflix tax" on streaming video services. Washington, D.C., added a long list of services to be taxed: yoga, tanning and bowling, to name a few.

But in Missouri this fall, voters could put an end to all such efforts in their state. A first-of-its-kind proposed constitutional amendment would ban Missouri lawmakers from ever expanding the sales tax to services.

The ballot measure is, in part, a response to efforts across the country to lower the income tax in exchange for expanding the sales tax. While Missouri hasn’t seriously considered such a proposal, the legislature did have a heated debate this year over the Department of Revenue’s decision to start applying the state’s entertainment sales tax to activities like personal training, dance and gymnastics.

Scott Charton, a spokesperson for the ballot measure's backers, said expanding the sales tax is a “real threat” to poorer consumers. Doing so, he said, would actually benefit the wealthy because it would likely encourage reduced income taxes, particularly for top earners.

The sales tax is generally seen by economists as regressive, meaning it’s a bigger burden on low-income families because it takes a bigger chunk of change from their income. As a result, most tax policy experts promote expanding the sales tax in concert with reducing the sales tax rate, according to Sujit CanagaRetna, an analyst with the Council of State Governments.

That combination is seen as more progressive because it not only captures spending on services, which wealthier people are more likely to use, but also lowers the rate, which could give poorer people slightly more money in their pockets.

But if the ballot measure passes, CanagaRetna cautions that it might actually have the reverse effect on lower-income consumers and cost them more money. That’s because without the option to expand the sales tax base, lawmakers looking to stabilize their slowly shrinking revenue would only be left with the option to raise the sales tax rate.

Case in point: In 1987, the Florida Legislature expanded the sales tax to services such as advertising, legal, accounting and construction. The move was met with enormous outcry from powerful groups. Advertisers and the media joined with lawyers, realtors and homebuilders in fighting the new law. Major corporations like Coca-Cola and Procter & Gamble canceled or reduced their advertising in the state to protest the tax, while business groups canceled at least 60 conventions. Protesters even poured instant tea mix into Florida's harbors, mimicking the famous Boston Tea Party revolt. After six months, the services tax was repealed and replaced with a sales tax hike from 5 percent to 6 percent, making the tax more regressive than before.

In Missouri, similar lobbying forces are at play. The proposed constitutional amendment is backed by the Missouri Association of REALTORS. Even the state press and broadcasters associations -- which rarely endorse campaigns -- are supporting Amendment 4 because they see it as a threat to their advertising revenue.

“We’re picking up endorsements right and left because people are realizing what it means,” said Charton.

But the true effect of the ballot measure, if it passes, will only be realized when the legislature reacts.

Read all of our coverage on 2016 ballot measures at governing.com/ballotmeasures.