(Released on 7/26/09)
In the heated debate over the proposed furloughs of public employees, calls came from the labor unions to raise the general excise tax rate by a percentage point or two. The increase was trivialized as just being another penny or two and it would still make Hawaii’s rate low by comparison to California’s combined retail sales tax rate of just under 9%.
The problem is that the low 4% or 4.5% rate belies the true impact of the tax on Hawaii’s cost of living because it is often referred to as the state’s sales tax. It is this misnomer that misleads people into comparing Hawaii’s general excise tax rate with sales tax rates found on the mainland. Once again, the general excise tax is not the same thing as a retail sales tax.
First of all one has to realize that the general excise tax is imposed on nearly all transactions of sales of goods AND services, whereas a retail sales tax is almost always imposed only on the sale of goods. A retail sales tax is just that, a tax imposed on the retail sale transaction, that is when the goods are sold to the final consumer. It is not imposed on transactions where the goods are to be resold to another business for further sale to a final consumer. That is not true of the general excise tax which is imposed on transactions where the goods or services will subsequently be sold to another business for resale to the final consumer. The rate on these wholesale sales is the lesser 0.5% rate, but the transaction is taxed nonetheless, whereas under a retail sales tax scheme such wholesale sales are not subject to a tax.
And unlike the retail sales tax, the liability of the general excise tax is on the business as opposed to the customer. In fact, the general excise tax is imposed on the business’ gross income which includes the amount which is “passed -on” to the customer as the amount of tax. That is why many businesses collect 4.166% when the rate is 4% or 4.712% when the rate is 4.5%. This is to minimize the amount the business has to pay out of its mark-up as the amount of tax actually owed the department of taxation.
Because of the insidious nature of the tax – being imposed at every turn – any increase in the general excise tax rate has an echoing effect on costs. That’s because the cost of the tax must be recovered by businesses if they are to remain in business. This means the cost of the tax is imposed on all of their overhead costs including items like rent, supplies, and services. The tax merely exacerbates the cost of the items or services essential to a business.
In order to recover this added cost of the tax, the business must fold the cost of the tax into the goods and services it sells so as goods and services are sold, resold and marked-up, the tax on the preceding transaction becomes a part of the base cost to which the next business adds their mark-up. The more times a good or service is turned over or resold, the higher the cost of the tax which increases the subsequent selling price.
Although there are specific exemptions from the general excise tax for goods or services sold to consumers outside the state, the overhead costs associated with those goods and services are still burdened with the cost of the general excise tax. Thus, with increased overhead costs, the goods and services are less price competitive with the same goods and services that are not burdened with higher overhead costs.
Finally, the question that is always posed whenever a discussion comparing Hawaii’s general excise tax to a retail sales tax, and that is what would be the equivalent rate if Hawaii adopted a retail sales tax in lieu of the general excise tax? Since retailing of goods accounts for roughly 40% of the base, it is only logical that the rest of the base (which is 60%) is comprised of services that would not be taxable under a retail sales tax scheme. Thus, the equivalent rate to generate the revenues produced by the general excise tax would have to be one and a half times higher than the current 4% rate or another six percentage points for a total tax rate of about 10%.
This would be one of the highest state sales tax rates in the country. Likewise, this estimate of what rate would be needed must include another 1.25% for Honolulu. Thus, the rate in Honolulu with its transit tax surcharge would be well over 11%. Thus, while Hawaii’s consumers enjoy a “low” rate of 4%, it is because the general excise tax base is so broad by comparison to a retail sales tax base. Thus, comparing Hawaii’s low “sales tax” rate to those found on the mainland is very misleading and hides the true burden of this particular tax.