Late last month the national Tax Foundation in Washington compiled its annual study of sales tax rates from around the country. This year they used a population-weighted rate that took into account local sales tax rates imposed in 38 of the states that allow local governments to levy county or city sales tax.
As expected, Hawaii came in almost dead last with one of the lowest combined state and local sales tax rates at 4.35 percent, outdone only by Alaska’s 1.69 percent rate. Another think tank, the National Center for Policy Analysis, picked up the more sensational parts of the report listing the states with the highest and lowest combined sales tax rates. Hawaii stood out like a sore thumb with its “low” combined rate.
Although the NCPA news release noted some states rely on other taxes and may not have as high a rate as states that depend on the sales tax as a major revenue source, it failed to note other factors in determining the sales tax burden — general excise tax in Hawaii — is the base against which the rate is applied. Had the NCPA newsletter been more careful, it would have quoted Scott Drenkard of the Tax Foundation who wrote:
“This report ranks states and cities based on tax rates and does not account for differences in tax bases (e.g., the structure of sales taxes, defining what is taxable and nontaxable). States can vary greatly in this regard. For instance, most states exempt groceries from the sales tax, others tax groceries at a limited rate, and still others tax groceries at the same rate as all other products. Some states exempt clothing or tax it a reduced rate.
“The taxation of services and business-to-business transactions also vary widely by state. Experts generally agree that Hawaii has the broadest sales tax in the United States, taxing many products multiple times and, by one estimate, ultimately taxing 99.21 percent of the state’s personal income. The base is far wider than the national median, where the sales tax base applies to 34.46 percent of personal income.”
In other words, unlike other states that have a retail sales tax, Hawaii’s general excise tax focuses on the gross income received by a business located in the state. That means any and all of the gross income received by a business in Hawaii is subject to the state’s general excise tax. This means sales of goods and services are subject to the 4 percent tax. In addition, when goods and services are not sold for final consumption but purchased for resale, the tax is charged at 0.5 percent.
Hawaii’s tax is applied to services which in today’s modern economy account for a much larger share of the tax base than the sale of goods. It is estimated only 40 percent of retail transactions in Hawaii are for the sale of goods while the sales of services account for more than 60 percent of the tax base. If Hawaii were to adopt a retail sales tax, it would need to be on the order of 10 to 11 percent in order to generate the same amount of revenue the 4 percent general excise tax yields now. This is because the service portion of the base is one and a half times the size of the goods portion of the base. If the service portion is not taxed, the current rate would need to be increased by 6 percentage points for a total of 10 percent.
That would make Hawaii’s “sales tax” rate higher than Tennessee, which tops the list at 9.44 percent. Unfortunately, the readers of the NCPA newsletter did not have the opportunity to read the Tax Foundation’s complete report and probably believes Hawaii has a comparably low “sales tax” rate.
Those of us who have worked with the general excise tax can attest to the fact that it is one of the reasons why doing business is so costly and difficult in Hawaii. The tax extracts its due without regard to profitability or sustainability. It is, as some have described, “a beautiful beast,” producing generous revenue with such a low rate.
Lowell L. Kalapa is president of the Tax Foundation of Hawaii.
