Taxes that Keep Businesses in Town

Building on a successful tax break for Twitter, San Francisco's mayor is asking voters to change the way the city taxes businesses that create jobs.
by , | November 5, 2012
 

These days, almost every city leader is searching for revenue to help confront important needs while balancing these needs against the effects of taxes on job creation. Urban areas in particular confront sharp trade-offs, as so many of them include areas of concentrated poverty that needs to be addressed. At the same time, the wealth and jobs that remain must be retained.

In the face of this dilemma, Mayor Ed Lee of San Francisco is proposing what at first appears counterintuitive. He is asking voters to strategically reengineer business taxes. Lee is hoping that Proposition E, a measure on Tuesday's ballot that would transform the way the city taxes its businesses, will keep growing, hiring businesses in the city while growing new ones. Proposition E would replace the city's 1.5 percent payroll tax on employee salaries with a tiered gross-receipts tax. The switch is intended to be revenue neutral (bringing in $410 million annually) while widening the base and giving labor-centered and tech-based companies an incentive to relocate, remain and expand within the city.

The initiative evolved from the city's 2011 "Twitter Tax Break," a six-year elimination of payroll taxes for new employees hired by companies located in the historically distressed Central Market Tenderloin area. The break kept Twitter from relocating by promising to save the company $22 million while helping a handful of other companies such as Zynga, an online-gaming company, and Prosetta Antiviral, a drug company. In terms of simple implementation, the Twitter Tax Break, as a geographically specific and small-scale incentive, didn't replace the payroll-tax with another tax--it flat-out eliminated it.

San Francisco remains the only California city to still employ a payroll tax, which many believe distorts incentives away from job formation, discouraging the very kind of businesses these cities want to attract: high-tech industries that employ educated, well-paid workers.

Mayor Lee claims that the proposition, if it is approved by the voters, would bring 10,000 tech jobs to the city over the next two years by removing the old payroll tax, which he says essentially has "punished companies for growing." The gross-receipts tax would exempt smaller companies with annual sales of less than $1 million and introduce seven different rates tailored to particular kinds of industries.

The support for Proposition E is considerable. It is endorsed by labor, a unanimous city Board of Supervisors, media including the San Francisco Chronicle, and particularly businesses that have traditionally borne the brunt of the payroll tax: the restaurant, manufacturing and technology sectors. The San Francisco Citizens Initiative for Technology and Innovation, a consortium of 330 tech companies that helped elect Lee, has become one of the more vocal sources of support for the Proposition.

Economic studies differ on which tax advantages create economic development in a sustainable, long-term way, or whether they only shift economic activity around. Certainly, economic breaks within a region often simply allow one jurisdiction to cannibalize jobs from another. Yet outspoken mayors like Lee, even in more liberal communities, now stand unafraid to make the case that if business is punished with high taxes it will not create new jobs.

A recent study by the Hospital Council of Northern and Central California credits the city's payroll-tax exemption for biotech companies, which has been around since 2004, with bringing a hundred biotech firms to San Francisco, contributing to the development of thousands of hospital, biomedical -research and medical -education jobs along with thousands more in related industries.

Of course, it remains impossible to tell if all these jobs would not have been created without the tax breaks. Nevertheless, Proposition E is a wise change: a robust piece of legislation replacing a tax policy that distorted the labor market considerably and discouraged hiring with a new tax that broadens the base. While the gross-receipts tax will impact prices for goods and services within the city, levying taxes at each transfer of products and services, the effect should be less distortive and reduce the effective penalization for adding new jobs.

Through this proposed shift in the fiscal architecture of the city, Lee is standing out as a leader willing to advocate progressive causes founded on sound pro-growth tax policy--an important recipe for urban success.

UPDATE: San Francisco voters overwhelmingly approved the gross-receipts tax in the Nov. 6 election, with 162,290--70.6 percent--voting for Proposition E and 67,724 voting against the ballot measure.

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