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Understanding the Need for a Broad Tax Base

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By Lowell L. Kalapa

One of the beauties – if you want to call it that – of the state’s general excise tax is its low rate of 4%. Visitors to the state marvel that Hawaii can have such a low “sales tax” rate while other states have rates at least twice as much.
Well, as everyone knows Hawaii can maintain the low rate of 4% because the base against which it is applied is much larger than the sales tax base that can be found on the mainland. For example, the Hawaii general excise tax applies to services as well as to goods. The retail sales tax found on the mainland usually applies only to goods or “things.”
The general excise tax also applies to sales of goods and services which are not going to be consumed by the purchaser but will be resold. Few, if any, states apply their sales taxes to transactions other than those where the purchaser is also the consumer of the goods or services. Thus, the general excise tax is a tax on not only retail sales but on wholesale sales.
As a result, few, if any, transactions escape the general excise tax and that’s because the tax is constructed on the theory that it is a tax for the “privilege” of doing business in Hawaii. Thus, everyone who is in the regular activity of selling a type of good or service must be licensed to do that activity under the general excise tax. The result is that with nearly every transaction subject to the tax, the rate can be held at a smaller number yet produce a lot of money for state coffers.
Being a tax for the privilege of regularly engaging in an activity also means that if one sells something only on occasion, say once every couple of years like a used car or used household items at a garage sale, that person would not be subject to the general excise tax. Those sales would be considered “casual sales” and are exempt from paying the tax.
Most of the exemptions which have been adopted by lawmakers in recent years generally recognize that the situations granted an exemption are unique. For example, payroll amounts which are paid out to employees of a hotel management company on behalf of the hotel owner are exempt from the general excise tax. The exemption recognizes that these amounts are reimbursements for the salaries and benefit premiums for the employees and that the gross income that the reimbursement represents does not benefit the hotel management company.
However, because the hotel management company also receives a service fee for managing the hotel and the employees, it taints what would otherwise be a true reimbursement. Thus, an exemption is provided for this unique situation.
Over the years there have been numerous attempts to exempt all types of activities from the general excise tax. Each proposal has been weighed carefully as to the uniqueness of the activity or product. And generally, the legislature has avoided carving out too many exceptions to the tax. These carve outs erode the tax base and should the base shrink, there is no doubt that the tax rate would have to be raised in order to make up the lost revenues that lawmakers love to spend.
That’s why the proposal to exempt food purchases from the general excise tax has always met with a cool reception. Not only do food purchases account for a sizable chunk of the tax – about one-eighth of the base – but those purchases tend to lend some stability to the tax. Like advocates of the exemption note, everyone has to eat as opposed to discretionary purchases like shoes or toys.
Thus, if the base shrinks and lawmakers still want to spend those dollars they give away in an exemption, the pressure to raise the rate increases. If lawmakers find it politically unpopular to raise the tax rate, they will find ways to increase the base.
For example, the House Speaker has already floated the idea of adding the gross income of nonprofits to the tax base. Imagine churches and social welfare agencies paying the 4% tax on all the contributions they take in each year. Or what if those nonprofits had to pay the 4% tax on the contracts they received from government to provide services?
Maintaining a broad base helps to keep the rate low and helps to avoid looking for taxes in strange places.

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