Sales Tax

The most common tax levied on goods or services is the sales tax applied at the retail level of transaction. Used primarily by the states, its popularity is relatively recent. As of 1931, no state levied a retail sales tax (RST). Until that time, states had relied mostly on property taxes, business taxes, excise taxes, and, in a few states, income taxes. By the 1930s, however, state revenue was under pressure, because of both the Depression and a movement to transfer the property tax to local governments. In 1932, Mississippi adopted a 2% retail sales tax as a replacement for a business tax. Seventy years later, sales and use taxes (taxes on use when a customer buys out of state for delivery in the state) now account for about 32% of state government tax collections nationwide, trailing only the individual income tax as a source of revenue. They are imposed by 45 states and the District of Columbia, as well as over 7,500 local jurisdictions.

While retail sales taxes are the most common tax levied on goods and services, such taxation may take a variety of forms. A general sales tax applies to all [Page 894]transactions at a specified level of economic activity, except for enumerated exemptions (e.g., a sales tax may apply to all sales at retail except food or medicine). A selective sales tax (commonly called an excise tax) applies only to enumerated transactions (e.g., retail sales of tobacco products or liquor). A specific tax applies only to the number of physical units bought or sold (e.g., a motor fuel tax may be 30¢ per gallon). An ad valorem tax applies to the value of the good or service purchased (e.g., a hotel tax may be 10% of the hotel bill). A tax may apply every time a transaction occurs (multistage tax) or only at one stage in the production and distribution process (single-stage tax).

The RST is an example of a single-stage tax and is the preferred form of goods and services taxation for several reasons. First, the tax paid by the consumer will likely be the amount received by the government. Multistage and preretail taxes, in contrast, tend to pyramid. Second, multistage taxes impact each market transaction, thereby favoring integrated firms (e.g., those that manufacture, wholesale, and retail) with a lower tax. Third, the RST applies to the full value of the product.