Sales Taxes Take A Holiday

Consumers may like back-to-school tax holidays, but are they good public policy?
by | August 17, 2011

'Tis the season to be jolly -- that is, if you're a retailer. Most kids are headed back to school this month, and that means back-to-school shopping. In 17 states, retailers in brick-and-mortar stores get a boost and consumers get a sales-tax break on back-to-school necessities -- from clothing and pencils to, in a few states, computers. The holidays are wildly popular with moms and dads. They save anywhere from 4 percent to 8 percent on their purchases, and politicians get thanked for offering the largesse.

But is it good policy?

Before we get to that, let's take a quick look at tax holiday history. New York state, which has relatively high sales taxes, got the trend rolling in 1997 as a way to keep its consumers from shopping in neighboring states. It no longer offers the holiday. Georgia also stepped back from its tax holiday two years ago. Legislators were swayed by the size of the state's budget shortfall -- between $1.5 billion and $2 billion -- and the projected loss of $13 million in revenue if the tax holiday was enacted. Still, in 2010 the number of states offering the break was up to 19.

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The Tax Foundation, which is generally in favor of lower taxes, has been steadfastly against the back-to-school tax holiday. Among its reasons: the holidays don't promote economic growth, they create complexity for tax code compliance, and they involve politicians in picking products and industries to favor with an exemption.

To explore these and other issues involved in back-to-school tax holidays, I talked to Richard Hawkins, an associate professor of economics at the University of West Florida, in this edited transcript.

How do you as an economist view the back-to-school sales tax holiday?

Back-to-school is always a big shopping time. To many economists, that makes the concept a bit hard to understand. People are buying plenty whether there's a sales tax holiday or not. So you're rewarding households for doing something they would do anyway. In the past, Florida enacted hurricane preparation sales tax holidays. The state exempted from the sales tax items people should stock up on in June, before the hurricane season hits. With a hurricane preparation exemption, you're encouraging people to do something they might not do, whereas with back-to-school clothing, they're going to do it anyway.

Are consumers getting a bargain?

That's something we examined in 2003 and found the answer to be generally "yes" -- consumers receive 90 percent of the relief. But holidays are not necessarily a bargain. In the study, we found that retailers are slightly less likely to markdown items. A prudent shopper who doesn't have high transaction costs should shop the holiday for some things and then shop again after the holiday. I've come to believe -- but have not examined formally -- that end-of-the-season items are an area where the holiday might be the worse time to buy. New fall items, on the other hand, are a good value during a holiday.

What are the revenue losses for the state?

That's a source of great contention. It's extremely difficult to state the revenue effect. I have no confidence at this point in any estimates that can isolate that particular number as opposed to other revenue trends.

There's evidence in some of the literature that the holidays are a revenue enhancer. The idea is that the holidays encourage people to spend and that they spend on exempt and non-exempt items. That finding has not been published in refereed [or peer-reviewed] journals, so I can't express confidence in it.

The holidays are popular with legislators, despite the possible revenue losses. Why do they like them so much?

They have to be enacted every year. Legislators can say, "I voted for your tax cut," and then they can come and say the same thing the next year. Politically, it's very convenient.

Some states backed away from the holiday this year. Is that the beginning of a trend?

The popularity of the holidays wanes sometimes. But I'm afraid they'll keep coming back.

Are retailers the big winners?

They love them, and the reward for consumers is so small. Outside of sales tax holidays, I'm not aware of any advance advertisements retailers run for a 6 percent reduction in prices. But that's what a holiday season ad in Florida announces: 6 percent off. In terms of numbers alone, holidays don't make sense from a marketing perspective. Yet, they are popular and are featured in seasonal advertising. What doesn't work 11 months a year somehow works in August.

If the discount is so small, does the appeal for consumers lie in getting a tax break?

Some consumers are going to see retailer's money and tax collector's money as different. Overall, the price falls by a little. But the tax collectors price is a 100 percent loss -- they get nothing. The retailer receives the full retail price. If the consumer sees that distinction, it might make a big difference. We did some surveys about sales taxes among parents in Pensacola. The one wow factor we found was that people who considered the sales tax as the best form of government revenue also liked the holiday.

Do these holidays help level the playing field between brick-and-mortar stores and Internet retailers?

That's yet to be determined. To what degree will it help independent local retailers in a holiday period versus the rest of year? Does it change a shopper's mind set? I'm not aware of any research on this issue.

What about the border-shopping issue?

If a state is small enough and the neighboring states are not enacting holidays, one could try to lure their shoppers. It depends on geography. One thing that is interesting with the border effect is that the timing becomes very important. If a community or state is trying to lure shoppers, it needs to monitor the school schedules. There's a season, and it depends on school openings.

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