How do state and local sales taxes work?
Forty-five states and the District of Columbia levy general sales taxes that apply (with some exemptions) to all goods and certain services. Thirty-eight states (including, Alaska, which has no state sales tax) also allow sales tax at the local level. Most states apply separate sales taxes to particular goods, typically tobacco, alcohol, and motor fuels.
How much revenue do state and local governments raise from sales taxes?
States rely on sales taxes more than local governments do. States collected $412 billion—35 percent of own-source general revenue—from sales taxes in 2014 (figure 1). “Own-source” revenue excludes intergovernmental transfers. Nearly two-thirds of that ($272 billion) came from general sales taxes, and one-third ($140 billion) came from selective sales taxes (excise taxes) on tobacco, alcohol, and the like. Local governments, for their part, collected $105 billion—11 percent of local government own-source general revenue—from sales taxes in 2014, with $75 billion coming from general sales taxes and $30 billion from selective sales taxes.
Nevada relied on sales tax revenue more than any other state in 2014, with sales and selective sales taxes accounting for 44 percent of combined state and local own-source general revenue. Sales and selective sales taxes represented more than 35 percent of combined state and local revenue in Arkansas, Hawaii, South Dakota, Tennessee, and Washington in 2014, and more than 30 percent in Arizona, Florida, Louisiana, and Texas. Among the states with a general sales tax, Massachusetts (15 percent of revenue) relied least on sales and selective sales tax revenue.
Every state and DC collected some revenue from selective sales taxes, with average revenue from such taxes accounting for 8 percent of state and local own-source general revenue. Sixteen states collected 10 percent or more of combined state and local revenue from selective sales taxes. Nevada had the highest revenue share from selective sales taxes—17 percent, while Alaska and Wyoming collected the least, around 3 percent of revenues, from selective sales taxes.
How do general sales tax rates differ across states?
Among states with general sales taxes, Colorado has the lowest rate (2.9 percent) (figure 2). No other state with a general sales tax has a rate below 4.0 percent. Five states have rates at or above 7.0 percent. California has the highest rate (7.25 percent). Alaska, Delaware, Montana, New Hampshire, and Oregon have no state general sales taxes.
Thirty-eight states (including Alaska, which has no statewide tax) allow local governments to impose their own general sales taxes. The maximum sales tax rates levied by local governments range from 0.5 percent in Hawaii to 8 percent in Colorado.
What purchases are subject to the general sales tax?
General sales taxes typically apply to most tangible goods. One notable exception is food purchased for use at home: only 13 states tax such purchases, and six of these states tax food at a lower rate than their general rate. Five of the 13 states that tax food for home consumption provide income tax credits to low-income residents to help offset the tax. In contrast, food bought for immediate consumption at restaurants is taxed, often at a higher rate than the general sales tax rate.
Many states also exempt nonprescription drugs, textbooks, and clothing from general sales taxes. Some states have sales tax holidays, periods in which specific purchases—for example, clothes and school supplies right before the start of a new school year—are sold tax-free.
The taxation of services (e.g., dry cleaning, carpentry work, barbershops) is more complicated. All states tax some services, but exemptions are common. Very few states tax professional services such as doctors and lawyers. Hawaii and New Mexico are exceptions to that rule, taxing nearly all services.
Do sales taxes apply to online purchases?
The treatment of online and other remote sales (e.g., catalog sales) is complex. Under the commerce clause of the US Constitution, if a retailer has no physical presence in the online purchaser’s state of residence (technically called a “nexus” requirement) the state cannot require the retailer to collect a state or local sales tax from the consumer.
Many consumers do not realize, however, that in addition to sales taxes, states also levy use taxes. Consumers are subject to these taxes on goods purchased outside their states of residence for consumption in their home states. The use tax rate is the same as the sales tax rate, but few consumers actually pay it. Most states with both a sales tax and an individual income tax (such as California, Kentucky, Virginia, and Utah) give taxpayers a chance to declare liability and pay use taxes on their income tax returns.
The Supreme Court (Quill Corp. v North Dakota) ruled that states cannot require remote sellers to collect sales taxes, but that Congress could enact new rules. The Marketplace Fairness Act, first introduced in Congress in 2011, would allow states to require remote sellers to collect sales taxes on online purchases by their residents. The act would require that states simplify their sales taxes to make it easier for out-of-state sellers to collect the tax. It would also exempt sellers with less than $1 million of sales from the obligation. Congress has yet to pass the legislation.
What taxes do states levy on tobacco, alcohol, and motor fuels?
Most states levy “selective” sales taxes—with different rates than the general sales tax—on particular goods and services. Three of the best-known are taxes on cigarettes (and other tobacco products), alcohol, and motor fuels. Those products are also subject to a federal tax. For cigarettes and alcohol, the taxes are sometimes called “sin” taxes because one purpose of the tax is to discourage consumption.
Cigarette taxes are typically levied per pack. Missouri has the lowest rate (17 cents per pack) and New York has the highest ($4.35). In six states (Alabama, Illinois, Missouri, New York, Tennessee, and Virginia), local governments sometimes levy an additional cigarette tax. Local cigarette tax rates range from 1 cent per pack in Alabama and Tennessee to $4.18 per pack in Chicago (Cook County tax of $3.00, plus city tax of $1.18). Some states and cities levy their general sales taxes on the prices of cigarettes inclusive of the excise tax, while others include the general sales tax in the excise tax rate. Taxes are also levied on other tobacco products, including cigars and loose tobacco. There is new discussion about whether other nicotine delivery devices such as e-cigarettes should be taxed.
Alcohol taxes are generally paid at the wholesale level, so the cost is incorporated into the retail price. The excise taxes are levied per gallon (not as a percentage of the price), and beer, wine, and distilled spirits have different tax rates. In addition to the excise tax, many states also levy a general sales tax on the final purchase price of alcohol, and some states and cities have special sales tax rates for alcohol.
Motor fuel taxes are mostly per-gallon taxes. Consumers pay tax based on how much gas they purchase, not as a percentage of the final retail price of gasoline. However, 20 states and the District of Columbia tie at least a portion of their gasoline tax rate to the retail price. The lowest gasoline tax rate is in Alaska (8.95 cents per gallon) and the highest is in Pennsylvania (58.2 cents per gallon). States earmark much of their motor fuel tax revenue for transportation spending, which has meant funding gaps for transportation in recent years as gasoline consumption is decreasing. States are considering options like tying the gas tax rate to inflation and taxing miles traveled instead of gas to raise more revenue.
Some cities (e.g., Boston, San Francisco, and Washington, DC) also have special tax rates for specific goods and services (e.g., restaurant meals, hotel accommodations, rental cars, and parking) that are higher than their general sales tax rates. The higher tax rates on these purchases are often designed to collect a significant share of their revenue from visitors, who presumably have less political clout than local voters.
Federation of Tax Administrators, “Comparison of State/Local Retail Sales Taxes - 2014.”
———, “State Excise Tax Rates on Cigarettes”, January 1, 2015.
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