Today HB-282 Sales and Use Taxation of Food and Food Ingredients passed the Utah House of Representatives and now awaits action in the Senate. The bill passed the House without much fan-fair, which was to be expected, but the road will likely be much rougher in the Senate. With the size of the fiscal note, the bill will likely be on hold for quite some time while other budget related negotiations continue between the two bodies, and this bill is likely to be a significant bargaining point for both.
Traditionally the Utah League of Cities and Towns has opposed efforts to remove sales tax on food due to the significant impacts that such a change could have on our cities and towns ability to provide essential services. This year, however, the Speaker of the House has initially entertained various ideas to make up lost revenues, and several of our most heavily affected municipalities are still gathering information on the "exact" impact such a change would have.
As you can imagine, this is a significant issues for many local governments and it is likely that a definitive course of action will be established by the ULCT within the next few days. In the meantime, here are a couple of thoughts on this issue.
General Tax Policy
The basics of tax policy theory would argue against exempting food from sales taxation. Classic economics would support broadening the sales tax base and using as low a rate as possible in order to generate adequate revenue. Indeed, the primary concern of all studies of the current sales tax base is the increasing narrowness of the base and the absence of economic activity that is not part of the system – particularly services.
Essential purchases present a particular question since by their very nature they constitute the most stable component of the sales tax base. In short, they are somewhat recession proof. Given the inherent fluctuation of the tax system concerns over stability are legitimate. This fact is an increasing concern for Utah municipal finances as we have shifted so heavily to sales tax as a funding source. Clearly the elimination of food from the tax base increases fiscal instability – it is however, a fair question as to what extent the system instability would actually be impacted.
Systemic Fairness
Given the fact that “good tax policy” would argue for including food in the tax base, why is it that most states do not tax food and there is generally clear popular support for its removal? The answer lies in the debate over such terms as “tax fairness” and the “morality” of taxing essential purchases. These terms are also highly subjective. Furthermore, the popularity of such an exemption is obvious. The following information addresses these issues in more detail.
Regressivity
There are three classic terms used to describe the relationship of taxes and income: regressive, progressive, and proportional. The term “regressive” means that as income increases an individual’s tax obligation in percentage terms decreases. Conversely, “progressive” means that as income rises the tax obligation in percentage terms also increases. Lastly, “proportional” means that an individual’s tax obligation stays constant in percentage terms as income changes.
Virtually all flat rate taxes, particularly consumption taxes, are inherently regressive – the tax burden in percentage terms decreases as income increases. Individual consumption patterns are such that although consumption increases with additional income it usually does not increase as much as income does. In other words, regardless of how rich you are there is only so much you can eat. Yes, you may eat different things but overall the money spent on food does not relate proportionally to income increases. As such, the tax obligation decreases in percentage terms in relation to income – the definition of a regressive tax.
Traditionally modern society has generally been somewhat troubled by the concept of tax regressivity. Even if there was skepticism of progressive taxes, there was not broad public support for actually reducing the percentage tax burden as income increased. Nonetheless, that is the functional effect of flat-rate consumption taxes.
There have been various approaches to addresses regressivity. One of the more common approaches is to eliminate some essentials, such as food, from the sales tax base. In other words, the value of not taxing food is much greater to a lower income person than a wealthier one. The result of the elimination is to reduce an aspect of tax regressivity from the system. The challenge, however, is that this elimination is very expensive. The reason for the hefty price tag is that all consumers, regardless of income, receive the benefit.
This high cost has caused some other states (although clearly a limited number) to address the impact of regressivity through other means such as an income tax credit or by increasing the progressivity of other taxes such as the personal income tax.
Morality – Essentials should not be taxed
This argument is completely philosophical and should be analyzed as such. The underlying assumption is that there are certain purchases that should be removed from the tax system because of their unique, essential nature. There are legitimate questions, however, about what is or is not an essential purchase. This argument needs to be assessed against a countervailing premise that all citizens should pay something for the operation of government. That goal can be accomplished if in fact essential purchases are taxed.
One item that should be noted: The original food exemptions that were incorporated as part of the first sales tax systems – usually in the 1930’s - were associated with the purchase of raw food stock. Most meals were prepared from scratch at home from raw ingredients. Today, most meals involve some element of pre-packaged food. One can therefore ask the question about why a pizza delivered to a home is fundamentally different in moral terms from a frozen pizza that one merely puts into a microwave. With the food exemption the frozen pizza is exempt and the delivered pizza taxed.
Note: One question that is often raised concerns the definition of food – what qualifies as an exempt food purchase. The work of the national SST committee has resulted in a national definition of what qualifies as an exempt food purchase. However, the fact that there is definitional uniformity does not mean that there is not still some very strained line-drawing. This line-drawing results from the ever-increasing number of food items that are bought in various stages of preparation for consumption.
Assistance to the Poor/Everyone should pay something
Associated with the “morality” argument are concerns that the current tax system overall is somewhat harsh on lower incomes. There is some legitimacy to the argument that the current Utah system overly burdens some income groups in relations to others. The removal of sales tax would indeed mitigate some of this impact. One question is what is the cost of this removal and how would the benefit be distributed?
Because the removal of the food sales tax impacts everyone regardless of income the majority of the benefit will inevitably go to the non-poor. As a means of assisting a particular income group, the removal of food is a rather blunt instrument – everyone receives the benefit regardless of income. The counter-argument is that the removal of food sales tax is simply a tax cut for everyone – but has the added benefit of providing a more valuable impact for lower income categories.
The assistance to the poor argument is often rebutted by the position that every resident should be required to pay something for government services. The sales tax on essentials, such as food, ensures that some tax obligation is imposed on virtually all citizens. This position has taken on some added impetus because of concerns over illegal immigration.
By some measures this position is mitigated by the fact that there would still be essential purchases required other than food that would be subject to taxation. Furthermore, there are still taxes embedded in the price of other commodities such as rent that are paid by consumers – even though these payments are indirect. Nonetheless, the taxation of food does have a much more direct result of imposing a tax on all residents.
Another argument uniquely applicable to Utah is associated with family size. There have been those who have argued that a “head tax” should be imposed because of the impact of large families on schools and other related services. For a variety of reasons the imposition of a head tax has been rejected by Utah policy makers. However, it can be argued that the sales tax on food is a near-perfect substitute for a head tax given the disproportionate impact on larger families.
And now you may be asking about the municipal specfic pro's and con's of such a proposal. That information will be available on our next post -- please check back tomorrow.
-- Enjoy
