Sales Tax Slice: Are Taxes on Services Going Mainstream?

Some services will be more expensive in the District of Columbia if a budget measure that has preliminary approval passes in coming months. D.C. Council, the District of Columbia’s lawmaking body, gave initial approval to a 2015 budget package on Wednesday that, among other tax provisions, would impose the District’s 5.75 percent sales tax on certain services. D.C. is not the first jurisdiction that has tried to expand its sales tax base to include more services. Last year, several states explored that option. But the results were mixed. Several of the measures stalled and the idea of taxing services drew fire from an important trade group.

A mong the services that would be taxable in D.C. if the legislation is finalized are:

-water consumption through direct selling establishments;

-rental or leasing of storage space for household goods (except general merchandise warehousing and storage and coin-operated lockers);

-carpet and upholstery cleaning;

-health clubs or training studios;

-car washing and detailing (except for coin-operated self-service car washes); and

-bowling alley and billiard parlor services.

The provisions were recommended by the D.C. Tax Revision Commission, a body set up to recommend improvements to D.C.’s tax system. Not all of the commission’s recommendations to subject certain services to sales tax received initial approval though—such as construction contractors and barber and beautician services. 

The commission’s final report states that the District already has a relatively broad sales tax base for services. It recommended the named services because they are typically a final purchase by consumers and they are linked to tangible goods or real property in the District—difficult for consumers to purchase online or in another state. The Council will vote again on the budget this summer. 

The U.S. economy long ago began to shift away from manufacturing and toward services, but efforts to reflect this change in the state tax codes have mostly been unsuccessful.  Only four states (Hawaii, New Mexico, South Dakota and West Virginia) have tax systems in which services are presumed to be subject to sales tax.

In 2013, states like Louisiana, Ohio, Minnesota and North Carolina considered expanding the sales tax base to services, but only in North Carolina did a limited sales tax base expansion occur—to include admission charges to live performances, movies and museums and cultural sites, and service contracts where the seller agrees to maintain or repair tangible personal property. And Massachusetts had a false start in 2013 when it enacted a tax on computer services. It was effective July 31, only to be retroactively repealed by the legislature on Sept. 27 when it proved extremely unpopular.

A bigger issue that businesses see with imposing sales tax on services is tax pyramiding—this means that some goods and services are taxed multiple times as they move through production and distribution to final retail sale, according to a Council On State Taxation report. This issue could potentially be addressed through exemptions for business-to-business sales, much like there are currently sale-for-resale exemptions, for example.  But whether states actually do that is another story.

Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: Do you think the jurisdictions should expand their sales tax bases to services?

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