Sales tax exemptions bite into Iowa coffers

By Erin Jordan and Rod Boshart, CR Gazette –

Sales tax exemptions, often handed out as political favors, cost Iowa an estimated $2.4 billion a year in revenue.

The list of exemptions — including everything from animal feed and grain dryers to carwash soap and dry-cleaning chemicals — gets longer every year and no lawmaker wants to suggest a repeal for fear of being called a tax raiser.

“Once these exemptions are on the books, it becomes extremely difficult to revisit them,” said Sen. Joe Bolkcom, D-Iowa City, who is chairman of the Senate Ways and Means Committee. “It’s portrayed as a tax increase.”

Cutting taxes is the national trend, which means less money for schools, roads, police and social programs.

Sales tax in Iowa is 6 percent, or 7 percent in communities with a local-option sales tax. Retailers are required to remit the tax to the state, which collected nearly $2.7 billion in sales tax in 2011.

The general public benefits directly from many sales tax breaks, including one that waives taxes on most food. The food exemption costs the state an estimated $335 million a year in revenue, but most food shoppers have gotten used to not paying an extra 6 percent on groceries. (Story continues below chart)

But other sales tax exemptions are head scratchers for average Iowans.

“Inert gases? Wow,” said Diana Lenz, of Iowa City, as she scanned a list of exemptions and stopped on one that allows manufacturers to avoid sales tax on argon, nitrogen and other inert gases. “Some of this just seems ridiculous.”

Nineteen tax breaks specifically benefit farmers while costing the state an estimated $237 million in revenue. Farmers skip sales tax on animal feed and bedding, farm machinery, irrigation equipment, chemicals and drainage tile, among other purchases.

Tim Johnson, senior researcher and policy analyst for the Iowa Farm Bureau, said those tax breaks are justified considering the impact of farming in Iowa.

“Iowa’s gross domestic product is well over $100 billion,” Johnson said. “Agriculture makes up about one-sixth of jobs in the state. We feel that $237 million is a good economic investment for the state.”

Farmers aren’t the only ones who get sales tax breaks. Casinos, massage therapists, modular homebuilders, dry cleaners, movie theaters, non-profits and others benefit. Newspapers like The Gazette aren’t required to charge readers sales tax when they buy a paper, which cost the state $3.4 million in revenue in 2005.

Carwash argument

The passage of a recent sales tax break to carwashes shows how one industry’s pet peeve can become state law.

For decades, carwash owners tried to persuade Iowa lawmakers to exempt carwashes from having to pay sales tax on the stuff they buy, including water, soap and electricity.

The group argued that because many carwashes still use coin-op machines — which don’t accept pennies and nickels — they couldn’t easily collect sales tax from customers. Bumping up the price of a wash by a quarter in order to remit part of that money for sales tax might put the carwash at a competitive disadvantage, carwash owners said.

“We’ve been fighting that for 31 years,” said Rod Meier, owner of the Edgewood 5 Seasons Carwash in Cedar Rapids.

Carwash owners call it double taxation — paying tax on your raw materials and on the final product — but this is only true if the carwashes choose not to charge their customers sales tax on their washes.

Two groups, the Heartland Carwash Association and Petroleum Marketers and Convenience Stores of Iowa, lobbied for a carwash sales tax exemption considered by the Iowa House and Senate this year.

Rep. Tom Sands, R-Wapello, introduced House Study Bill 660 in the Ways and Means Committee, which he chairs.

“This is a small issue to the state, but a big issue for the industry,” Sands said. (story continues below report)

Following the money

The Petroleum Marketers group, which gave Sands $350 in 2009, increased its 2010 contribution to $1,000. The group gave Sands $1,000 on Nov. 10, 2011, two months before the start of the 2012 legislative session, and $3,000 on June 22, after the carwash legislation passed.

The $3,000 donation was Sands’ largest during that reporting period.

It’s common for groups to give donations to committee chairs, like Sands, and lawmakers often accept donations only from groups whose interests they already support.

The timing of the gifts from Petroleum Marketers doesn’t imply payback for shepherding the legislation, Sands said.

“That isn’t the way it’s done,” he said. “It certainly isn’t the way it’s done on my committee.”

The carwash exemption was ultimately merged into a Senate bill that included tax credits for solar energy systems and geothermal heat pumps — issues championed by the Democrat-controlled Senate, said Sen. Rob Hogg, D-Cedar Rapids.

“Had it not been combined with the solar tax credit, the carwash tax exemption probably would not have passed in the Senate,” Hogg said.

Lost revenue

When asked about the recent contributions to Sands’ campaign, Dawn Carlson, president of Petroleum Marketers, said: “Rep. Sands is in a very important position where he has the ability to hear from businesses. We appreciate the fact he listened to small business owners.”

The carwash exemption levels the playing field between carwashes and car dealerships, which haven’t had to pay sales tax on automotive fluid for decades, Carlson said.

But she doesn’t think the $400,000-a-year fiscal impact of the law should concern Iowans.

“It’s probably fairly insignificant if you look at overall tax receipts,” she said.

Iowa’s sales and use tax receipts for fiscal 2011 were about $2.7 billion and Iowa’s budget for fiscal 2013, which started July 1, is $6.24 billion.

The Iowa Department of Revenue’s position is that sales tax revenue isn’t lost when an exemption is put into place.

“If the tax is not due in the first place, the tax revenue cannot be considered to be lost,” department spokeswoman Victoria Daniels said.

Mike Owen, assistant director of the Iowa Policy Project, an Iowa City-based research group, disagrees.

“People should make no mistake: It is a loss of revenue,” Owen said. “When they make an exception to the law, that is a choice to spend the money before it goes into the treasury. It still has the same impact on the budget.”

When Iowa lawmakers considered rolling back commercial property taxes earlier this year, officials in Cedar Rapids, Des Moines and West Des Moines said the move would strip about 16 percent from their budgets, causing hundreds of layoffs and cuts to basic services. The deal ultimately fell through, in part because legislators couldn’t agree on how much to backfill local budgets.

Rep. David Jacoby, D-Coralville, ranking Democrat on the House Ways and Means Committee, said the state’s policy regarding who pays sales tax has been piecemeal.

“When you look at it incrementally, each little idea or each piece looks good, but then you don’t look at the totality of circumstances on how it is across the board or how it affects the state’s revenue,” he said. “I think the Legislature hems and haws at any comprehensive tax reform.”

The problem, noted David Osterberg, a former Democratic legislator who helped found the Iowa Policy Project, is that once a sales tax exemption gets approved by the Legislature and signed by the governor, it is difficult to repeal it because opponents and the interests they represent will frame the debate as an effort to raise taxes.

“For a lot of people who have signed some pledge that even if we’re invaded by Martians we will not raise taxes, that’s all you have to say is that’s a tax increase and then all of a sudden that’s not possible,” Osterberg said.

That’s what happened when former Iowa Gov. Tom Vilsack suggested in 2001 Iowa should reconsider sales tax breaks for groups like massage therapists.

Then House Majority Leader Christopher Rants, R-Sioux City, said he was shocked by the idea.

“I thought this governor was not interested in raising taxes to solve this budget problem, but he’s using all the code words to do it,” Rants said.

Bolkcom said he doesn’t believe legislators understand how much revenue the state loses each year to sales tax breaks. ?Part of the reason they don’t understand is that Iowa’s most recent fiscal impact study of taxes uses data from 2005. The Revenue Department is working on a new study now that uses 2010 data, but that won’t come out until January.

What is clear from the numbers, Bolkcom said, is the power of special interest groups.

“You name a profession and they have a lobbyist at the Statehouse,” he said. “The average Iowan does not have a lobbyist.”