Structural Deficit: The Shift in Consumption from Goods to Services

As mentioned in our previous post on the structural deficit, Washington relies heavily on the retail sales tax to raise revenue for important public investments. The retail sales tax applies primarily to the sale of goods, taxing few services.

The failure to tax services is one of the reasons that our revenue structure cannot keep pace with the natural growth in the economy. As the graph below shows, Americans have shifted their consumption patterns from spending 49% of their total expenditures on goods in 1983 to only 40% in 2008.


In light of this shift to a service economy, Washington should consider expanding the sales tax base to include a broader selection of services. Not only would taxing services yield much-needed income for the state, it could help to reduce the year-to-year volatility of sales tax collections and make the state sales tax system more fair.

Structural Deficit: E-Commerce Sales Tax Revenue Losses Are Growing

Washington relies heavily on the sales tax to raise revenue for important public priorities. The growth of untaxed electronic commerce transactions, known as e-commerce, result in increasing revenue losses for the state.

When a customer purchases a taxable item in a store, sales tax is paid to the retailer who in turn, sends its tax collections to the state or local government. If the purchase is made online through a store that has a physical presence in the state, an equivalent "use tax" is also collected and remitted.

However, if the purchase is made through a vendor that is not located physically in Washington, the customer still owes the use tax, but the vendor is not required to collect the tax. Instead, it is the customer’s responsibility to pay the tax directly to the state or local government. It is estimated that 25 percent of taxes due on e-commerce transactions go uncollected.

As a result, not only does the state lose revenue, but local merchants start out with a pricing disadvantage because they must charge local sales tax while many interstate merchants don't have to. And the sales tax becomes even more unfair to lower income families that pay sales taxes when they shop in stores that more affluent households avoid when they shop online.

In an April report, Donald Bruce and William Fox of the University of Tennessee predict the inability to collect taxes on internet purchases will cost Washington State about $1.3 billion in lost revenue between 2007 and 2012. (See graph) These losses are equal to the estimated value of the taxes due, in this case $5.4 billion, minus the estimated value of those that are collected, $4.1 billion.


This problem is not unique to Washington State – the report forecasts nationwide states will experience up to $13 billion in e-commerce revenue losses annually by 2012.

Washington has joined a national interstate tax compact, called the Streamlined Sales and Use Tax Agreement, to simplify and standardize the way states tax goods. The goal of the Agreement is to demonstrate to Congress that the burden for interstate sellers has been reduced sufficiently so that states ought to be authorized to require all large merchants to collect every state's sales and use taxes. Legislation to provide this authorization is expected to be reintroduced in this session of Congress within the next one to two months.