How the sales tax is failing Washington's schools

Taxing services could deliver us from our education woes.
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Taxing services could deliver us from our education woes.

As the Legislature continues its search for revenues to fund basic education, it might consider extending the sales tax to currently exempt services. Numerous personal and professional services are exempt from taxation simply because they have never been included in the tax base.

The Revenue Act of 1935 ignored services in part because the economy at that time largely involved the production and sale of tangible goods. Since then, some services have been added to the sales tax base. Most recently, the 2013 legislature added telephone services: cell phones, home land lines and coin-operated phones.

The number of services currently taxed is larger than one might guess, but is less than those that are either implicitly or explicitly exempt. A 2007 survey of state taxation of services by the Federation of Tax Administrators found that Washington state taxed 78 services at the full state rate (6.5 percent) while 97 were not in the tax base and thus were untaxed. Another 8 services were exempted.

The FTA data indicates that Washington, in fact, taxes more services than most states. But numerous inconsistencies are apparent. Auto storage is taxed while fur storage is exempt. You pay a sales tax at a tanning parlor, but not at a massage parlor. Hiring a fishing guide is taxed, but a golf instructor is not. If you pay someone to install a sign on your business you will be taxed. But not if you advertise on a billboard. Video rentals are currently subject to retail sales tax, but movie theater tickets are exempt.

The Department of Revenue provides a listing of services subject to the retail sales tax in four categories: construction, recreation, personal, and miscellaneous. Data provided by the Department to the author indicates that services in fiscal year 2013 generated $1.2 billion, or about 15 percent of all sales tax collections.

The department’s 2012 tax exemption study estimates that the state could collect $3.76 billion in the current biennium (2013-2015) if the implicit exemptions were repealed.

The shift of the American economy from tangible personal goods to services was identified more than 50 years ago. In 1968 economist Victor Fuchs observed that half of American jobs were in services.

Since then, the growth of the service sector has been inexorable. The federal Bureau of Labor Statistics, which tracks consumer spending, summed up the shift over the 30 years from 1982 to 2012 in an article earlier this year:

 There has been an increase in the total quantity of services at the expense of commodities — a shift primarily due to an increase in the quantity of shelter, in particular owner-occupied shelter. There has also been a considerable increase in the quantity of 'other services' (a residual category not including shelter, transportation services, medical care services, and energy services)…

Services now account for almost two-thirds of Americans' out-of-pocket spending. In states, including Washington, that are highly dependent on the sales taxation of consumer goods, this has had a profound effect on tax revenues.

The state’s Economic and Revenue Forecasting Council tracks taxable sales relative to state personal income, and forecasts that the measure will continue on a downward slide in Washington at least through 2019. (See chart below.)

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About the Authors & Contributors

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Dick Nelson

Dick Nelson is a former Washington State legislator. He currently contributes to the public debate on state and local fiscal issues through research and commentary. As when he was in the legislature, he prefers the Democratic Party.