Tuesday, March 28, 2017

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Tax Holidays in the Dog Days of August

In what has become a common practice in about a dozen and a half states, August is the month for the sales tax holiday. Whether the goal is to encourage consumer spending or ostensibly offer tax relief to families, the three-day holiday waives sales tax on certain purchases – typically school supplies and clothing. Here’s a chart listing the states and the once-a-year exemptions they offer.

What exactly do sales tax holidays accomplish? Some claims:

  • They save consumers money.
  • They increase consumer spending on both tax-free and taxed items. On net, the result is more revenue in what the National Retail Federation calls a “win/win/win” for consumers, retailers and governments.
  • A weekend tax break keeps spending in the local economy. According to Bloomberg BNA Ohio and Michigan first experimented with a tax holiday on cars in 1980. New York picked up the weekend tax holiday in 1997 to entice borough residents to keep their clothes shopping dollars in NYC rather than cross the border to New Jersey’s malls.
  • It is a way for politicians to make good on tax relief without making permanent changes to the code.
The Tax Foundation claims that tax holidays only shift consumer spending and any savings in tax may be offset by higher retail prices. In addition, the “gimmick-y” exemption leads to arbitrary decisions (e.g. backpacks are exempt but briefcases are not – see Virginia). Basically, the one-time break is a way for politicians to crow about tax relief while avoiding more substantive reforms to the code such as broadening the base and lowering the rate of tax.
A 2009 econometric study, The Fiscal Impact of Sales Tax Holidays, by Adam Cole of the University of Michigan finds that sales tax holidays induce “timing behavior” in consumers. There is a reduction in sales and use tax collections by 4.18 percent in the month of the tax holiday. Half of this reduction is attributed to consumers timing their purchases to coincide with the tax-free weekend. Though there is no evidence that this leads to a large substitution of purchases during the rest of the calendar year.
Cole raises two interesting issues for researchers to consider. Do tax holidays produce cross-jurisidictional shopping effects? Secondly, because of their short duration, do tax holidays allow retailers to evade taxes by attributing earlier sales to the holiday weekend?

Marwell and McGranahan (2010) provide another set of questions to consider for those who over-sell the benefits of back-to-school bargains for family budgets. In their working paper, “The Effect of Sales Tax Holidays on Household Consumption Patterns“, the authors ask: Who’s shopping and what are they buying? Their preliminary findings suggest it is primarily upper income households and they are mainly purchasing clothes.

On a purely anecdotal note, I calculate that if our family went shopping during Virginia’s August 3-5 tax holiday we would have saved about $9.00 on backpacks and school shoes. To avoid the back-t0-school crowds we purchased those items at Tysons Corner the weekend before. If that’s the premium for efficient mall shopping, we paid it gladly.