Sales Tax on Services? Yes, legal services included!

I am reprinting a memo sent to me by VBA member and CPA Steve Schindler that he sent to legislative leaders and members of the Vermont Society of CPAs. This is an important issue that all of us should continue to monitor. Here is Steve's memo:

             The Top 10 Reasons why Vermont should not assess a sales tax on services:

1. Services are Already Subject to the Income Tax. It is not “unfair” to exempt services from the sales tax, because services income is already subject to the income tax, less some relatively minor amount for overhead (assume for argument’s sake that 80% of services income is subject to the income tax). Sales of products, on the other hand, are generally not subject to the income tax, because the cost of the product is deducted as a “cost of goods sold,” and only the markup, less some amount for overhead, is subject to income tax (assume for argument’s sake that 10% of product sales income is subject to the income tax). The sales tax is largely a back-stop to the income tax, because without a sales tax on products, products would move through the system essentially tax free. Imposing a sales tax on services would “double-tax” services income.


2. Sales Tax Should Only Be Imposed at “Point of Sale” Transactions. The sales tax is imposed at “point of sale” transactions, where someone pays a sales price, plus tax, before leaving a store with a product. The types of services that we presently tax are typically incident to a point of sale transaction, like charges for delivery or installation, unless delivery and installation are separately stated on the invoice in which case they are not taxed under current law. Amusement charges, admissions to sporting events and theatres, telecommunications, utility charges, and printing charges, are subject to a sales tax at point of sale because they are an intangible product produced by a seller using the seller’s facilities. Amusement charges, etcetera, are not personal services.


3. Services are Not “Point of Sale” Transactions. Service businesses do not engage in “point of sale” transactions. Instead, service providers do the work, send a bill, and wait for later payment. As any service provider will tell you, sometimes the payment received does not equal the amount billed. If a bill is not paid in full, the service provider will essentially eat the tax on the transaction, and will have to revise its accounting and books to reflect that a different amount of services revenue and tax were received compared to what was billed. Many customers of service providers also pay their bill over time, which would further complicate accounting for, and compliance with, a sales tax on services.


4. A Sales Tax on Services Would Be Very Complicated. The sales tax on products is one of the most difficult and complicated taxes to understand and implement. You only need to review Chapter 233 of Title 32, and go through a sales tax audit with the Vermont Department of Taxes, to see how mind-numbingly complex, and esoteric, the sales tax can be. There are currently no fewer than 66 exceptions (Sections 9741 - 9744) to the sales tax (and its cousin the use tax), and 44 definitions (Section 9701), required to implement the sales tax. Each of those exceptions has already been vetted through the legislature and is therefore worthy. To revisit these exemptions would be a huge undertaking, counterproductive and duplicative. A sales tax on services would be equally as complex, if not more so, and would have to include its own long list of exemptions and exceptions.

5. Tax Compliance Burdens Would Be Very Onerous. For businesses that are service providers and do not sell products subject to the sales tax, the added compliance burden to compute, disclose, collect, report and pay a sales tax on services would be very onerous. Every law firm, accounting firm, engineering firm, handy man, hair dresser, gardener, consultant, delivery service, realtor, instructor, inspector, etcetera, etcetera would have to prepare and file not one, not two, but at least 12 sales tax returns each year (one return each month), along with at least 12 payments. The burdens of assessing, collecting, accounting for, and paying sales tax on services would be a real and heavy burden on service businesses. Not to mention the added burden on the Tax Department to register all these new tax collectors, and process their returns and payments every month. And because the sales tax is a “trust fund” tax, any slip-up and underpayment of tax could be assessed personally against the business bookkeeper or owner with steep penalties and interest.


6. Vermont’s Sales Tax Rate is Already Competitive. Vermont’s sales tax rates are already competitive, and in fact are lower than our surrounding neighbors, except New Hampshire. But, there is little we can do to compete with New Hampshire, short of eliminating the sales tax altogether.


7. Vermont Would Become Uncompetitive Compared to All of Our Neighboring States. Now, we have to compete with New Hampshire’s zero percent (0%) sales tax rate on retail goods, which we know hurts Vermont’s retailers. If we impose a sales tax on services, we will have to compete with New Hampshire, Massachusetts and New York’s zero percent (0%) sales tax rate on services, which is sure to hurt Vermont’s service providers, compared to all of our neighbors, not just New Hampshire.


8. Vermont Would Be Branded as a “High Tax State.” Being the only state in the union to tax services, we would be an obvious target for the label “High Tax State,” and the administrative and compliance burdens of this tax would also render us a “High Burden State.”


9. The Sales Tax is a Regressive Tax. The sales tax, being a flat rate tax, is a regressive tax because its rates do not increase with a taxpayer’s ability to pay, and lower income people tend to spend a higher proportion of their income on day to day expenditures on goods and services, versus savings. Regressive taxes are generally thought to be less fair.


10. A Sales Tax on Services Would Shift the Sales Tax to Vermont Residents. Much of the Vermont sales tax on products is paid by visitors to our state. That is one advantage to having an attractive state with a substantial tourism industry. Payments for services, on the other hand, are largely local transactions utilized by local people, so the burden of a sales tax on services would fall more heavily upon local Vermonters than upon visitors. If the overall sales tax rate were lowered, the affect would be to shift some proportion of the sales tax to local Vermonters.

In short, a sales tax on services in Vermont would be ill-conceived and unworkable. It would be unfair, complicated, burdensome and not competitive. A sales tax on services would not meet the Commission’s Guiding Principles of Fairness, Simplicity, Transparency or Competitiveness. And a sales tax on services would no doubt result in higher taxes as the rate creeps up over time.

I know this is a long post but I thought it important to fully reprint what Steve said. Many thanks to him for his effort.
Thanks for reading.