You may pay more in taxes in 2019
The coming year might be a slow one for tax changes coming out of Washington, D.C., especially with gridlock in Congress. But that’s not the case at the state level.
Lawmakers in many state houses across the nation likely will revamp their own rules in reaction to federal changes and a couple key Supreme Court rulings. Many might try to impose new taxes on previously untaxed goods and services, from sports betting to marijuana.
In a recent report by the Tax Foundation, an independent tax-research group, Senior Policy Analyst Jared Walczak cited the following as among the key state-level tax trends to watch in 2019:
1. Conforming to reform
Changes in the federal tax code, such as the landmark reform package passed in late 2017, often have implications for state income taxes. That’s because most states require residents to begin their own individual state-tax calculations by using federal definitions of adjusted gross income or taxable income.
Many states also incorporate, or “conform,” to federal tax deductions and other provisions.
When the federal tax code got revamped with passage of the Tax Cuts and Jobs Act, it pushed conformity debates to the top of the agenda in state legislatures.
Federal reform expanded the tax base by subjecting more income to taxation, such as by eliminating the personal exemption, Walczak said in an interview. To compensate, federal tax reformers also included breaks such as lower tax rates.
States thus received the potential for higher revenue from base broadening but without necessarily adopting the taxpayer-friendly measures included in the federal legislation — meaning that they stand to collect a lot more state-tax revenue from residents.
Many states have adopted measures to scale back their extra revenue (and thus lessen their residents’ tax burden), but there are exceptions. For example, five populous states — Arizona, California, Massachusetts, Minnesota and Virginia — have yet to conform to the federal changes or have expressly excluded them, Walczak said.
Various other states “have yet to grapple with the revenue implications of their decisions,” he added. That sets up tax-code conformity as a lively topic of debate in many state legislatures for the coming year and beyond.
2. Taxing online sales
In 2018, the Supreme Court altered the sales-tax landscape by providing a framework for states to tax remote or online sales by retailers lacking a local physical presence.
The court’s decision opened up new revenue opportunities for states — provided that they simplified or otherwise streamlined their tax codes.
The court’s decision in Wayfair vs. South Dakota struck down the physical-presence requirement, handing states a major victory. But for states to collect taxes and avoid lawsuits, the court opinion directed them to adopt a simplified tax structure and streamlined administration, so as not to unduly burden interstate commerce.
As of mid-December, 34 states had adopted laws or regulations to tax remote sales, with legislation or administrative actions pending in several others, according to Walczak. Some of these states have simplified their tax systems, as was recommended in the Wayfair decision, but some others are moving forward with collections even though their tax codes are vulnerable to legal challenges, he added.
Walczak predicts more states will work to expand into the taxation of remote sales, but he cautioned that those with overly complicated tax structures can anticipate lawsuits.
The big impediment to online-sales collections in Arizona is the “lack of uniformity in the state and local sales-tax base,” said Kevin McCarthy, president of the Arizona Tax Research Association.
“We’re not remotely close to what the court talked about in the Wayfair case.”
3. Narrowing the sales-tax base
Public-finance experts overwhelmingly agree that sales taxes should extend to both goods and services, Walczak noted in his report. In part, this reflects the rapid growth of the service economy in recent decades.
“Today, services comprise more than two-thirds of all consumption, meaning that the sales tax omits most of what people purchase,” Walczak wrote. The current trend, he added, seems to be one whereby lawmakers and voters resist efforts to broaden the sales-tax base.
For example, Missouri voters in 2017 ratified a constitutional amendment prohibiting base broadening to any service not already taxed. Arizona voters followed suit by passing Proposition 126 last year. In the wake of these election victories, groups that oppose taxes on services are planning similar ballot measures in other states, he said.
Unchecked, this base erosion forces policymakers to increase rates or impose other types of taxes to raise needed revenue.
“Exempting services from the sales tax is also regressive, since services are consumed in greater proportion by wealthier households,” Walczak added.
4. Taxing sports betting
Another important Supreme Court decision, Murphy vs. the NCAA, paved the way for states to legalize and tax sports betting. Many states have wasted no time in pursuing these objectives, Walczak said.
States that have already legalized casino gambling are likely to permit sports betting, but they should be conservative in their revenue estimates, Walczak cautioned. Some types of sports betting, such as fantasy leagues, already are outside the reach of state tax collectors, he noted.
If states adopt high taxes on more traditional forms of sports betting, they could drive gamblers to online and other sites that are harder to tax.
As of mid-December, seven states — Delaware, Mississippi, New Jersey, New Mexico, Pennsylvania, Rhode Island and West Virginia — had legalized sports betting, according to Walczak. That’s in addition to Nevada, which already had a substantial stake in sports betting. Measures are pending in about two dozen other states.
“A lot of states want in on sports betting,” he said. “My sense is that bills will be introduced in nearly every state.”
However, McCarthy at the Arizona Tax Research Association said he hasn’t sensed much activity in Arizona yet on this issue.
5. Taxing marijuana and vaping
As public attitudes toward marijuana have shifted, more states are legalizing the possession and sale of marijuana, and taxation has followed.
Many states now allow medical marijuana, others have decriminalized possession and a small but growing number have legalized recreational marijuana, Walczak said.
“Thus far, every state that has legalized marijuana also has implemented a new excise tax,” he noted.
Marijuana could be made subject to regular sales taxes, but it’s more common for marijuana (like tobacco and alcohol) to have its own excise tax.
Over the past several years, 10 states have legalized recreational marijuana. Michigan and Vermont did so in 2018, joining prior legalization in Alaska, California, Colorado, Maine, Massachusetts, Nevada, Oregon and Washington.
Similarly, nine states and the District of Columbia now tax vaping products. E-cigarettes are relatively new, and states have struggled on how much to tax them, Walczak said.
In particular, taxing vapor products the same or at a higher rate than tobacco creates a disincentive for smokers to shift to what some consider a less harmful behavior. At any rate, as vapor products become more popular, more states will want to tax them, Walczak said.