August 15, 2016

Sales-Tax Holidays Hide the Real Cost

Christopher Koopman

Senior Affiliated Scholar
Summary

The Florida legislature had the right idea by shortening this year’s tax holiday. But a policy that fails for 10 days will also fail for three days. A convoluted tax code —which tells you you’re getting a break while hiding the cost somewhere else — hurts more than it helps. The Sunshine State should let the sun set on its sales tax holiday.

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Two weekends ago, Florida joined a number of other states in holding its annual back-to-school sales tax holiday. Sales tax holidays are a popular way for states to lend a hand to working families, and they’re relatively easy for policymakers of all stripes to agree on. But despite their near-universal appeal, they aren’t actually worth celebrating.

Even though this year’s holiday was the state’s “stingiest” in years — having been scaled back in length (from 10 days to three days) and scope (some clothing, computers, and other technology are no longer part of the program) — it was still touted as a great deal for Floridians.

We’re told that everyone wins. Families can better afford the costs of heading back to school. There are deals for other bargain hunters, too: everything from purses to suits to diapers were included in this year’s holiday. Local economies get a boost. And for a brief period, policymakers look like champions for small business and families alike.

Unfortunately, the facts don’t bear this all out. Let’s examine two common claims:

The first claim is that tax holidays promote statewide economic growth, as would certainly seem to be the case. They don’t.

Supporters argue that tax-free shopping periods stimulate local economies because shoppers make purchases at local stores that they might not have otherwise made. However, consumer research tells us that this simply isn’t the case, as holidays simply encourage shoppers to make purchases they were already planning on making. Arecent study from the University of Michigan found that strategically timed purchases accounted for as much as 90 percent of sales during those tax holidays surveyed.

This should come as no surprise. When studying the effects of its tax holiday on clothing in 1997 — the first such holiday ever offered by a state — the New York State Department of Taxation and Finance found that it did not stimulate additional purchases. Nor did it stop shoppers from going to New Jersey — where the state had no sales tax on clothing — to shop the rest of the year.

The second claim is that tax holidays help families trying to make ends meet, which seems reasonable, even if they don’t bolster the entire economy, right? But again, they don’t.

Recent research by my Mercatus Center colleague Thomas Stratmann finds that for every sales tax exemption a state has (including tax holidays), its sales tax rate will be between 0.1 and 0.25 percent higher. For example, if a state has a sales tax rate of 5.6 percent and adds an additional five exemptions through sale tax holidays, you can expect to see its tax rate increase to 6.1 percent (Florida’s sales tax rate is currently 6 percent). On the other hand, removing sales tax exemptions could ultimately lead to a lower tax rate.

What does a finding like this mean for families? States work to keep their revenue levels constant. So over time they compensate for the revenue they lose by granting tax exemptions with increased tax rates, and vice versa. If you are getting a break from sales taxes for three days in August, you are likely paying it off during the rest of the year.

The Florida legislature had the right idea by shortening this year’s tax holiday. But a policy that fails for 10 days will also fail for three days. A convoluted tax code —which tells you you’re getting a break while hiding the cost somewhere else — hurts more than it helps. The Sunshine State should let the sun set on its sales tax holiday.