(originally published at thearkansasproject.com).
This weekend, Arkansas consumers are predicted to flock to retailers in order to save a bit of sales tax. That’s because this weekend is the “sales tax holiday” on various items under $100. Many politicians and retailers favor this policy, arguing that it gives consumers a needed tax break while stimulating the economy. However, there is little evidence that any economic benefit exists.
Tax holidays are widely supported by politicians because they are highly visible; that is, all the hype that surrounds the tax break, plus the instant savings, are things that consumers can easily see and remember and credit their representatives for providing. A widely supported, highly visible policy is the perfect method for politicians to secure votes in an upcoming election; thus, it should be no mystery why public officials favor them.
Arkansas politicians are not alone in supporting tax cut holidays. Tax cut holidays became so politically popular that, at one point, 19 states implemented some type of tax holiday, but that number is now down to 17 as the true costs of this policy have come to light. Though many claim that a tax holiday increases consumer spending, thus stimulating the economy, there is little empirical evidence of this — and many reasons to believe the exact opposite.
Sales tax holidays provide such small savings to consumers that the increase in consumer spending is minimal. There is reason to believe that consumers simply shift the dates of purchase around to save a few dollars. After all, items less than $100 don’t offer much opportunity for significant ‘savings,’ nor are they likely to be luxury items. Furthermore, most of the exempted items are school supplies and clothing — things that consumers are very likely to buy (and buy in the same quantity) without the tax exemption. In fact, New York state became increasingly skeptical of its tax holiday after a study showed that although sales rose on the tax holiday, overall yearly retail sales did not. This suggests that consumption didn’t increase, but only shifted.
In order to prepare for the tax holiday, businesses often have to take special measures to keep their accounting records compliant with the new rules. Businesses also must hire additional temporary staff, accumulate extra inventory, and take various costly steps in order to satisfy consumer demand for one weekend of tax exemption.
To pay these additional costs, the Tax Foundation reports that some stores even raise prices during the tax holiday. While the rise in retail prices is not typically great enough to eliminate all of the savings from the tax break, the study found that during the Florida tax holiday, retailers typically increased their prices enough to recapture 20% of consumer tax savings.
Many supporters of tax holidays argue that it provides much-needed relief to low-income individuals. They explain that, while the savings might not seem like much, they are significant for poorer people, given that the exemptions apply to items that most people must buy. While this position is not completely erroneous, there are certainly much better ways to aid low-income individuals than giving them a two-day vacation from the tax law. This argument, however, demonstrates that the same citizens suffer from the tax code during the other 363 days of the year. Those who believe that tax holidays provide a significant economic stimulus would do better to work to lower them across the board year-round.
The sales tax holiday is certainly expedient if you’re a politician, but the policy carries costs that are passed on the businesses and the consumers. Tax holidays are not sustainable solutions to promoting economic growth, they are not sound tax policy, and any time spent on extending or implementing this policy is time spent kicking economically-productive tax reform down the road.
For a more developed discussion of how Arkansas can — and should — reform our tax code in order to create jobs, attract investment capital, and spur economic growth, you can read this policy paper from Advance Arkansas Institute: “How to Cut Taxes in Arkansas: Basic Principles of Tax Policy.”