Sales Tax Reform May Be On Agenda in New Mexico

September 06, 2013

New Mexico may be the next state to reform the way it taxes goods and service transactions, according to state Economic Development Cabinet Secretary Jon Barela. Albuquerque Business First reported last week that “Barela said he wants to see the state make a wholesale shift from a gross receipts tax to a pure sales tax.”

Mr. Barela’s comments warrant a note on semantics—New Mexico’s “gross receipts tax” isn’t really  a true gross receipts tax (GRT), which we define as a complex business tax imposed at a low rate on a wide base of transactions, including business inputs and intermediate goods. This results in high effective tax rates that vary significantly by industry, depending on the length of production chains and whether or not firms engage in vertical integration. GRTs are non-neutral, complicated, and create transparency issues as taxes get baked into the price of the final product or service. Failure to exempt inputs causes something tax experts refer to as “tax pyramiding," whereby taxes pile on top of one another as the good or service moves through production. Only five state (Delaware, Ohio, Texas, Virginia, and Washington) levy these taxes. Texas made some improvements to their GRT this year by increasing exemption levels and lowering the rate—a trend we hope continues (though full repeal is the best move).

We’ve pointed out before that these names can be misleading to taxpayers and lawmakers alike. In particular,

[Hawaii, New Mexico, South Dakota, and Wyoming] have broad-based sales taxes that are so unlike other states' sales taxes that many experts in those states consider them different kinds of taxes altogether. For example, most states do not apply the sales tax to services or many business-to-business transactions, but those four states sweep most of those in.

It would be more accurate to characterize the New Mexico GRT as falling somewhere between a true GRT and a sales tax. Our colleague Scott Drenkard creatively and accurately classifies this particular tax as an “overly-broad based sales tax” because certain transactions are included in the base that shouldn’t be—that is, business inputs. Further blurring the distinction is the fact that it’s levied at the same rate as the state sales tax (plus any local option taxes).

We should point out that the curious New Mexico tax encompasses some good tax policy elements, however, because it includes the taxation of service transactions, a practice that is not employed by many states. There are merits to broadening the sales tax base to cover services—namely, it lends neutrality to the tax code and can help solve the ever-present problem of shirking sales tax revenues. But New Mexico lawmakers would be smart to pass legislation that ensures business-to-business services aren’t included in the tax base, since this inevitably causes tax pyramiding.

Mr. Barela is right to acknowledge that New Mexico’s system could use a bit of reform, and we hope lawmakers will take note. He regarded the reform proposition as “the conversation that is already happening,” implying he may not be the only state official contemplating reform. Let’s hope he’s correct.

More on New Mexico here.

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