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Giving Business Taxpayers Heartburn

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By Lowell L. Kalapa

Several issues surrounding Hawaii’s general excise tax have given rise to serious discussions amongst businesses on whom the tax is levied.

On the horizon, the most critical issue is the imposition of the 0.5% surcharge on Honolulu taxpayers for the purpose of funding mass transit. Despite numerous media reports, the half percent will be imposed beginning January 1, 2007 whether or not taxpayers and the department of taxation are ready to pay it and collect it. Given recent events, it appears that the state department of taxation will be required to collect the tax; however, who is going to collect the tax is but a minor problem in the dilemma of the half-percent surcharge.

The more critical questions center around who must pay the surcharge, or more specifically, which transactions are subject to the additional tax rate. Although the general excise tax has traditionally been recognized as a tax for the privilege of doing business in the state and therefore the imposition is on the seller who is then licensed under the law to do business in the state, it appears that mind set will have to change in order to address some constitutional issues.

In a recent workshop conducted to provide input to tax administrators by the businesses who must impose and collect the tax, the logic would turn the tables such that the surcharge would apply on those goods and services purchased and consumed in the City and County of Honolulu. While it is obvious that a business in Honolulu selling to a customer in Honolulu would pay the additional half-percent rate, it is not quite as simple when the transaction takes place across county or state boundaries.

As some legal observers opine, imposing the additional half-percent on businesses who have the privilege of doing business in Honolulu may create a discriminatory situation. For example, where the consumer has a choice of purchasing a computer from a Neighbor Island county business or purchasing it from out of state, an origin-based tax, as the general excise tax has traditionally been interpreted, would discriminate against a purchase made from an out-of-state vendor. This is because the current law provides that purchases made from unlicensed (out-of-state) vendors are subject to the state’s use tax which is paid by the purchaser of the product. The result would be that a purchase from an out-of-state vendor would incur a 4.5% use tax paid by the purchaser. However, if that purchase was made from a Neighbor Island vendor who was not subject to the additional half-percent surcharge, that business would only charge a 4% rate. Thus, the current application of the general excise tax law creates this discriminatory situation and could be challenged on a constitutional basis.

As a result, it appears that the administration of the law will dictate that the half-percent surcharge be imposed whenever the goods or services are consumed or used in the City and County of Honolulu. This then would change the focus of the general excise tax from an origin-based to a destination-based transaction tax. 

This is the very issue standing in the way of a national project which aims to collect state sales taxes from out-of-state vendors. The retail sales tax has always been a destination-based tax imposed on the customer and not the business. This is just the opposite of the traditional application of the general excise tax. However, the house is divided amongst those states with larger populations and those, like Hawaii, that have a lesser number of residents. The larger states, which of course have many more businesses as well, would like to have the project based on the origination of the transaction. Smaller states, on the other hand, prefer the destination-based approach.

The more important issue for Hawaii’s businesses is the fact that the simplified sales tax project will put the burden of collecting other states’ sales taxes squarely on the shoulders of local businesses, including the legal liability of collecting the correct amount. It will also require radical rewriting of the general excise tax statute. In other words, Hawaii businesses will have to learn a radically new law and incur additional expenses just so another state’s sale tax can be collected on a purchase made by an out-of-state customer.

If lawmakers are so concerned that we collect Hawaii’s general excise tax on purchases made by Hawaii residents from out-of-state vendors, then the current law already provides sufficient mechanisms to insure the collection and payment of the tax. Instead of placing that burden on businesses, the burden can be placed on the customer or taxpayer by providing informational returns to the state tax department as well as the taxpayers who would pay it as part of their annual income tax return.

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