Today the Rhode Island Public Expenditure Council (RIPEC) released a report reviewing the proposed “Sales Tax Modernization Plan”, including an overview of the state’s current sales tax structure and how Rhode Island compares to other states in the region.  In addition, the “Comments” outline a set of principles against which the proposal should be evaluated.  The report is available on RIPEC’s website.

The Governor’s proposal is designed to address three primary issues with the state’s current tax structure – changes in personal consumption, a narrow tax base, and cross-border competition – as well as to raise additional revenue to balance the state’s budget.  Specifically, the proposal lowers the rate from 7.0 percent to 6.0 percent and broadens the base by taxing previously exempt items and adding a 1.0 percent tax for specific goods and services.  Together, these changes are projected to increase sales tax revenues by approximately $165 million for FY 2012.

Sound tax policy is the result of carefully crafted and thoughtful changes to tax systems with long-range goals in mind.  Modifications to tax systems should not be made solely to increase revenue or to balance budgets.  Rather, tax structures should be capable of growing with, or reflecting, changes in the economic makeup of a state; periodic review and adjustment of tax policy is necessary to ensure that taxes bear a relationship to a state’s economy.

Rhode Island’s sales tax should be reformed.  The state’s narrow base requires a high rate that not only increases the regressive aspects of the tax, but also puts the state’s businesses at a competitive disadvantage vis-à-vis their competitors in neighboring states.  A broader base and lower rate will allow for a more stable revenue stream that is less susceptible to economic downturns, can potentially introduce greater equity into the tax system, and may allow businesses in the state to be more competitive.

At the same time, policymakers should carefully consider additional taxes within a clearly defined set of principles as to why certain goods and services should be taxed.  Taxation of business inputs, such as the proposed 1.0 percent tax on manufacturing inputs or the proposed 6.0 percent tax on business support services, have the potential to distort economic activity.  Increasing the cost of doing business at a time when the economy is showing signs of a fragile recovery would not be in the state’s best interest.

In RIPEC’s view, the following five principles should be used when considering reforms to the sales tax in Rhode Island.  A high-quality sales tax system should:

• Minimize distortion in economic decisions: changes to the tax system should minimally affect a taxpayer’s decision to engage in, or how they engage in, a transaction;  
• Be equitable and treat similarly situated taxpayers similarly: tax systems should minimize regressivity, taking into account a taxpayer’s ability to pay, while treating similarly-situated taxpayers, producers and goods equally;
• Be simple to administer and to comply with in a cost-effective manner: any changes to the tax system should account for the increased administrative cost to the state and increased compliance costs for businesses;
• Be transparent and predictable for both retailers and consumers: tax systems should be structured so that both consumers and businesses are aware of what goods and services are taxed and at what rate; and
• Generate sufficient revenue in a reliable manner: changes should be made to the sales tax code in order to create a more stable, balanced system of revenue that adequately supports government services without causing an undue burden on taxpayers or businesses.

RIPEC is an independent, nonprofit and nonpartisan public policy research and education organization dedicated to the advancement of effective, efficient and equitable government in Rhode Island.  For more information about RIPEC, please visit our web site at www.ripec.org