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Sales Tax Complexity: Diaper Edition

3 min readBy: Katherine Loughead

Add diapers to the list of commodities now drawing increased taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. scrutiny. Why? Because in every state with a sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. , a contingent of the population argues that lawmakers should steer clear of actions that would increase the cost of nondiscretionary purchases.

This philosophy has resulted in many states removing certain classes of goods – including groceries, prescription medication, and sometimes clothing – from their sales tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . But in recent years, a growing number of states have applied this same thinking to specific products, hence the diaper exemption.

In 2017, at least 18 states introduced legislation to eliminate or reduce the rate of the sales tax on diapers. Of those states, six are members of the Streamlined Sales Tax Project (SSTP), a voluntary coalition of 23 states committed to certain standards of uniformity in their sales tax practices.

Until last fall, the Streamlined Sales and Use Tax Agreement (SSUTA) specifically included diapers in its definition of “clothing.” As a result, unless a member state exempted all clothing from its sales tax base, it could not exempt diapers without violating the SSUTA.

Given interest among member states in exempting diapers from their sales tax base, the Streamlined Sales Tax Governing Board’s (SSTGB) State and Local Tax Advisory Council (SLAC) decided at its October 2017 meeting to remove “diapers” from the definition of “clothing.” But let’s not be fooled: handpicking certain products for exemption from a state sales tax base is rarely as easy as striking a single word or phrase. A formal definition of “diapers” was needed so consumers would have accurate information and retailers would know how to code their merchandise.

As such, the SLAC met again on May 1, 2018, to hash out a definition for “diapers,” which included debate over whether diapers for adults would be included in the exemption, and whether five years old is the appropriate age at which “children’s diapers” should instead be classified as “adult diapers.” Upon hearing from various stakeholders, the SLAC agreed to differentiate between children’s diapers and adult diapers but left the age cutoff to be decided by the full governing board.

When it met on May 3rd, the governing board unanimously agreed to remove language tying the definition of “children’s diapers” to a specific age, instead landing on “diapers marketed to be worn by children” as the formal definition—with the distinction that “adult diapers” means “diapers other than children’s diapers.” How’s that for clarity?

The diaper exemption is just one example of how – even with an organization dedicated to streamlining sales tax practices among select states – every new exemption has costs associated with it: the cost of forfeited revenue, and the cost of a more complex tax code that requires more time and resources to administer. As long as states continue allowing new categories of exemptions to erode their sales tax base, sales tax administration will never be anything but complex.

Instead of picking winners and losers and crafting sales tax policies based on whichever special interest agenda has gained traction during any given legislative cycle, states should consider taxing all final consumer products at a low, flat rate. When states stand strong in avoiding arbitrary base erosion, they will uncover a more stable flow of revenue, a more transparent system for taxpayers, and a process that involves fewer administrative headaches for states, retailers, and consumers alike.

If you now have a more thorough understanding of what a diaper is, be sure to check out Sales Tax Complexity: Ice Cream Cake Edition, Valentine’s Day Edition, and Pumpkin Edition. For more information about how a similar debate has played out among states with respect to the taxation of feminine hygiene products, read our analysis here.