The Palmetto Insider

The blog of the South Carolina Policy Council

Gross receipts tax hurts small businesses

with one comment

Earlier this year, the Policy Council began providing research on local government issues – particularly in Aiken – surrounding the city’s arcane business licenses policies.

In short, business owners in most municipalities are forced to pay governments for the right to conduct business. Take this snippet from the City of Aiken business license ordinance:

Every person engaged or intending to engage in any calling, business, occupation or profession listed in the rate classification index portion of this ordinance, in whole or in part, within the limits of the City of Aiken, South Carolina, is required to pay an annual license fee for the privilege of doing business and obtain a business license as herein provided.

Additionally, the manner in which these licenses are levied – through a gross receipts tax – makes the system even more burdensome to business.

The entire gross receipts system is based on a single sentence in the state code of law. In South Carolina, Section 5-7-30 grants municipalities the right to: “levy a business license tax on gross income”

Take for example, the company that earns $50,000 more in gross receipts than the prior year. That company then uses that $50,000 to hire another employee. Because their license is based on gross receipts – and not profits – their tax burden increases – regardless of whether they actually had higher profits.

Now, two Southeastern economists have explored the issue of gross receipts taxes – an issue Georgia is researching with a tax commission similar to TRAC.

Robert Lawson and Frank Stephenson, writing for the Georgia Public Policy Foundation, offer some number crunching on how destructive this form of taxation is on business.

“…when the tax base is gross receipts rather than net receipts, the tax is effectively larger on low profit margin firms (such as grocers) than on higher profit margin firms. Moreover, the taxation of gross receipts rather than net receipts means that firms incurring losses are still subject to the tax. That could act as an impediment for start-up firms, which often require some time before becoming profitable. Applying the tax to firms incurring losses also means that the gross receipts tax bears no relation to firms’ ability to pay, one of two commonly cited normative criteria for tax equity.”

Georgia has been looking at adopting a gross receipts tax. But South Carolina’s experience with the tax should give lawmaker’s reason to reconsider.

  • To begin with, the tax is not transparent. As Lawson and Stephenson write: “That the tax is embedded rather than appearing as a separate line item on sales receipts is probably part of the renewed appeal of gross receipts taxes among state politicians. Customers who see the price of bread rise by a few cents may not realize that a new gross receipts levy is responsible for the increase.”
  • Second, taxes are supposed to be based on the benefit principle – which states that tax burdens should be relative to the benefits received from government services. As Stephenson and Lawson point out, “Since a gross receipts tax makes no adjustments for the intensity of firms’ use of government funded services (e.g., roads), it is not consistent with the benefit principle of tax equity.”

With all the talk about cutting taxes for business, especially small businesses, lawmakers should look at replacing the gross receipts tax with a flat fee. In Georgia, for example, many municipalities use a national “profitability ratio” to determine the fee. Under this scenario, each type of business pays a similar license fee – which lowers the compliance costs for the business by simplifying the process.

Fixing this tiny section of state law would provide a huge boost to businesses – without having to play special interests or favorites.

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Written by Geoff Pallay

October 20, 2010 at 7:46 am

One Response

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  1. […] Alternative base, or gross receipts taxes. Noted Lindholm: “Gross receipts taxes are widely acknowledged to violate numerous tax policy principles. … There is no sensible case for gross receipts taxation.” (We agree.) […]


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