Name a Service. There's a State Tax for That!

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California's initiative to legalize and tax marijuana isn't the only wacky new tax idea bubbling out of our laboratories of democracy. Record states deficits -- an average of 7% of FY2010 General Fund Budgets -- are forcing governors to consider taxing all sorts of services: health clubs, dating services, pet grooming shops, bowling alleys. You know. Only the services with letters in their names.

The New York Times explains:

In Nebraska, a lawmaker has introduced a bill to tax armored car services, farm equipment repairs, shoe shines, taxidermy, reflexology and scooter repairs. In Kentucky, Jim Wayne, a state representative, and some fellow Democrats are proposing taxing high-end services: golf greens fees, limousine and hot-air-balloon rides, and private landscaping.

In June, voters in Maine will decide whether to accept a state overhaul of its tax system that would newly tax services like tailor alterations, blimp rides, and entertainment provided by clowns, comedians and jugglers.

The states are constitutionally required to balance their budgets, so they cannot run yearly deficits like the federal government. When tax revenue dries up in a recession, they don't have the option to borrow a couple (hundred) billion from Japan and China. So they have to raise taxes or slash spending. What makes today's news news isn't that the states are responding to revenue shortages by raising revenue, but rather that the historic revenue dry spell is forcing them to cast their widest net ever across the service industry to trawl for cash.

taxable services.png

Before the recession, some states already taxed a wide range of services and others taxed very few. Of the 168 services counted on the Federation of Tax Administrators' state tax report, Hawaii taxes 160. Some examples of those services are in the NYT-provided graph to the right.

Is this a good idea? I think we're passed the normative world of good and bad.* Raising taxes is necessary for the states --  dividing those taxes among services will be a matter of political wrangling. Some firms will get stuck with unfair bills and others with better connections to the state's power levers will emerge unscathed.

In any case, the bigger point to make is that the state-by-state desperation for tax revenue is a funny colorful story that obscures dismal state budgets whose cuts will most immediately affect students, teachers, the poor, elderly and sick. That's one more reason I wholeheartedly support the additional $25 billion in state aid lurking the Senate's new $150 billion stimulus bill. Paul Krugman memorably refers to the states' obligatory thrift as "50 Herbert Hoovers." Yes, of course, the debt looms. But now is not the time to add a 51st.
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*Although the lesson of Washington, D.C.'s bag tax suggests that shrewdly designed Pegouvian state taxes could both raise money and correct for negative externalities. However, states are more likely to aim for services with more inelastic demand so that the taxes raise dependable revenue.

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Derek Thompson is a senior editor at The Atlantic, where he writes about economics, labor markets, and the entertainment business.

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