Sales Taxes

Overview

The sales and use tax is generally considered a tax on consumption.  It is usually added to the purchase price of any retail sale, collected by the seller and returned to the state.  The state collects the state and all municipal sales taxes except the tax on motor vehicles.  Forty-six states and the District of Columbia have a sales tax, although a handful, most notably New Mexico and Hawaii, levy the tax as a gross receipts tax on businesses generally.

While tax experts would argue that the tax is to be levied only on final consumption, Nebraska, like most states imposes the tax on at least some business purchases.  Prominent among the business purchases subject to sales tax are business machinery and supplies.  Most exemptions are also for business purchases, notably ingredient and component parts, sales for resale, packaging containers, manufacturing machinery and most interstate transportation equipment.  Estimates made recently by a professor at the school of business of the University of South Dakota, Vermillion, based on 1989 data, calculates the business share of the Nebraska sales tax burden to be 40%, in line with the national average of 41%.  (Ring, Raymond J. Jr., National Tax Journal; March 1999, pp. 79-90)  In other studies, the Minnesota Department of Revenue estimated the business share of the Minnesota sales tax to be 38.3% in 1990 and a 1986 study calculated the national business share to be 38.4%.  Forty percent seems to be a reasonable estimate.

The use tax is a tax levied on persons that purchase goods or services in another state for use in Nebraska.  Any sales tax paid in another state satisfies the use tax responsibility, so the use tax comes into play only when an individual or business makes a taxable purchase in another state where the retailer does not collect any tax from the purchaser.  This is either because the purchase is tax exempt in the other state or the sale is made remotely with a company that has no obligation to collect Nebraska tax.

Generally, the sales tax base in Nebraska is any retail sale of tangible personal property, unless exempted, and selected, listed, retail sales of services.  Therefore, sales of a newly-invented good would automatically be included in the sales tax base while sales of a newly invented service would not.  Sales of real estate are not in the base.  Prior to the enactment of LB 1085 (2002) and LB 759 (2003), Nebraska's sales tax base included 48 services according to a survey done periodically by the Federation of Tax Administrators.  This was about average nationally but was more narrow than most of the states bordering on Nebraska.  The recent expansion of the base increased the number of services taxed in Nebraska to 76 based on the 2004 FTA survey.  This is still fewer than Iowa and South Dakota, but is more than other states in the region.  Under this measure, Nebraska ranks 10th nationally.  Ranking information appears on a ranking page that may be accessed below.

Tax Policy and the Sales Tax

Adequacy - Sales tax tends to be reliable, at least when compared to income tax.  People and businesses both tend to consume taxable goods and services even when the economy is weak.  Over the last 20 years, the sales tax has grown 93% as fast as personal income.  The fact that Nebraska historically has expanded the base to include services infrequently has limited its growth potential.  This shortcoming may be changing with recent actions.  Nevertheless a growth rate near the rate of growth in the economy is better than excise taxes or the corporate income tax.

Equity - The sales tax is universally viewed as a regressive tax.  While the exemption of food may make it less regressive, the tax still hits low-income people harder than high-income people.  The Citizens for Tax Justice organization has issued reports detailing the degree of regressivity of different features in some detail, and these reports are available.

From the standpoint of horizontal equity, the tax also presents problems.  Exemptions, particularly those based on the item or service creates differences between similar taxpayers.  Sales tax burden is not determined by the services utilized, economic position, ability to pay, or even the overall level of consumption.  Instead, the level of tax depends on what is consumed, that is goods versus services, or food versus automobiles.  The local option sales tax also means that where it is consumed makes a difference in how much tax is paid.

However, despite its negatives from the standpoint of equity, the sales tax remains popular with the public.  Many people view it as the most "fair" and policy makers in most states have used it in fill recent shortfalls in revenues.  There is some connection between the benefits received from government and consumption of goods and services in the state economy.  This helps mitigate the negatives of the tax from the standpoint of equity.

Simplicity - For taxpayers, the tax is relatively simple because he or she pays a little bit at a time.  This also helps make the tax popular among taxpayers.  The sales and use tax also is relatively easy to administer from the standpoint of the state since retailers collect most of it.  Audits of retailers are generally combined with other tax programs so the costs are reduced.  The local option sales tax, by law, taxes exactly the same base of transactions as the state sales tax at a uniform rate.  This simplifies collection of the local tax, at least as compared to some other states that allow local government to determine the base within their jurisdiction.  Recent efforts with other states to make sales and use taxes more uniform in definitions, exemption administration, registration to collect tax, and other administrative details are designed to make the tax even more simple to comply with for multistate retailers.

There are difficulties in administration, however, the existence of exemptions means that disputes arise over the taxability of particular purchases, especially business purchases.  Quite often, disputes occur where a business argues that purchase of an item critical to a manufacturing process results in that item becoming a "component part" of the final product and, therefore, exempt, while the Department of Revenue argues that the item is "consumed" in the process and is therefore not exempt.  The biggest enforcement problem for states, however, is probably collection of the use tax on remote sales.  The commerce clause of the U.S. Constitution, as reaffirmed in Quill Corp. v. North Dakota, limits Nebraska's ability to address this problem except by interstate compact or congressional action.  The Streamlined Sales and Use Tax Agreement, which Nebraska has signed and become a party to, is to resolve many of these difficulties with more uniform procedures and definitions.  The idea is to reduce the burden that multistate sellers face in complying with dozens of different sales tax systems.  The hope is that Congress or the Supreme Court will allow the collection of sales tax by out of state retailers if the Streamlined Sales and Use Tax system is in place.  The Streamlined Sales and Use Tax Agreement became operative Oct. 1, 2005, with Nebraska among the 18 member states that are fully compliant with its provisions.

The tax is difficult to administer from the standpoint of the retailer.  Exemptions to the tax are a complicating factor, especially since some exemptions are based on what the product is, for example food, while others are based on the status of the purchaser, for example schools or hospitals.  Other exemptions depend on the use of the product by the purchaser, for example, purchases for resale, or purchases of machinery to be used in agriculture.

Accountability - The fact that the tax is collected a little at a time separates the taxpayers' act of paying the tax from the provision of services.  The tax is less accountable to taxpayers than the property tax or even income tax.

Economic competitiveness - In theory, a sales tax should tax only consumption within the state and would not tax consumption outside the state.  If this were so, the tax would be economically neutral.  In practice it is more complicated.  Consumers do cross state lines to buy goods and services, and sales tax rates and exemptions can influence these decisions.  Another negative factor is the extent to which retailers locate outside city limits to avoid collecting city sales taxes.

As applied to consumers, which is about 60 percent of sales tax collections, the tax is fairly neutral.  All the states surrounding Nebraska have a sales tax, and Nebraska's rate is about average.  As applied to the 40 percent of the sales tax that is collected from business as consumers, the tax can affect economic decision-making.  Many states, including Nebraska, do not collect a sales tax on purchases of manufacturing machinery.  The taxation of business inputs has been a concern in many states, including Nebraska, and it is generally considered unwise to expand the base to include out-of-state consumption.  Some years ago Florida attempted to broaden its sales tax base greatly by apportioning to Florida goods and services, particularly advertising, which were purchased in a national marketplace.  The legislation was quickly repealed without ever having been effective.