State and local gross receipts taxes have fallen in and out of favor since the Great Depression, but they could enjoy a resurgence during the recessionary period anticipated from the coronavirus pandemic.
Revenue strategies taxing the total sales of businesses—sometimes characterized as commercial activity taxes, business privilege taxes, and turnover taxes—are seen as “recession proof,” said Diane L. Yetter, founder of the Sales Tax Institute.
“I do think these are going to become more prevalent. This is the new sexy tax,” Yetter said during a webinar Thursday describing the “comeback” of gross receipts taxes. “It’s not necessarily the best for business – certainly not for small businesses or businesses with thin margins.”
Oregon is the newest member of this club with its Corporate Activity Tax, which became effective Jan. 1. Oregon’s tax is imposed at a rate of $250 plus 0.57% on gross receipts sourced to Oregon over $1 million. Oregon’s Department of Revenue recently announced quarterly payments are due April 30. Other prominent examples include Nevada, Washington, Ohio and Texas.
Gross receipts taxes are becoming attractive because they rely on calculations of total commercial activity rather than profitability, said Jordan Goodman, a state and local tax partner in the Chicago office of Horwood Marcus & Berk Chartered.
“During the Covid-19 recession you are going to see a lot of states looking for alternative sources of revenue including the gross receipts tax, particularly because businesses are going to be unprofitable for a while,” Goodman said in a phone interview.
New tax regimes such as Oregon’s CAT won’t be popular, but Goodman said, “this is going to become a reality over the next four or five years, and I think businesses need to prepare either from a lobbying perspective or from a compliance perspective.”
Patience and Political Will?
Not every state, however, will have the patience, resources or political will to construct a new and potentially controversial business tax during the depths of an economic crisis, said Lynn Gandhi, a state and local tax partner in the Detroit office of Foley & Lardner LLP.
“States are going to have to face revenue raisers, but a brand new tax system requiring a brand new IT system would be a really heavy lift for them right now,” Gandhi said.
Gandhi pointed to her state’s experience with the Michigan Business Tax, which was enacted in 2007 and imposed a 4.95% business income tax and a modified gross receipts tax at the rate of 0.8%. The tax proved hugely unpopular and was repealed in 2011. Indiana, Kentucky and New Jersey have also repealed gross receipts taxes in recent years, the Tax Foundation reported.
States searching for strategies to raise revenue quickly will probably expand their sales tax bases by including more services, Gandhi said.
Two Categories of Gross Receipts Taxes
While several models have emerged since the 1930s, gross receipts taxes are generally levied on businesses based on the gross proceeds of all sales of tangible personal property and services into a state without any deductions for costs of doing business.
Yetter pointed to two categories of gross receipts taxes among the states. One favored by Hawaii and New Mexico operates as a hybrid sales tax, applied to sellers on their business-to-business transactions and purchases by end consumers. In some cases, the tax can be shifted to the customer.
A second category, Yetter said, operates as a traditional tax on the total receipts of the business and isn’t shifted to the customer. Most states recognize thresholds for imposing such taxes, holding small businesses harmless. The tax is generally imposed at a very low rate across a very broad base, raising significant revenue for a state. Examples across the country include Nevada’s Commerce Tax, Washington’s Business & Occupation Tax, Ohio’s Commercial Activity Tax and the Texas Franchise Tax.
Some municipalities impose gross receipts taxes including San Francisco, Los Angeles, Philadelphia, and Portland, Oregon.
Freedom From the Federal Code
Goodman said gross receipts taxes would be popular over the next three years because they wipe away calculations related to income and shield states from unpredictability in the federal tax code. Specifically, corporations can’t claim immunity from taxation under Public Law 86-272, a 1959 federal law prohibiting states and local taxing jurisdictions from imposing income taxes on out-of-state businesses for activities limited to soliciting sales of tangible personal property.
Additionally, Goodman said states with gross receipts taxes don’t have to go through the process of coupling or decoupling from the Internal Revenue Code each time Congress enacts tax reforms.
“With a gross receipts tax, you don’t have to worry about what’s happening at the federal level,” he said. “They are simply solidifying their source of revenue, which is what the states should be focusing on.”