Under economic pressure, local governments across the country are raising sales tax rates or introducing new taxes.
The latest findings from sales tax solution provider Vertex reveal increases in both local and new tax rates in cities across the country, highlighting an urgent need for revenue at the municipal level.
During the first six months of 2024, the number of cities that increased their sales tax rate compared to the number that decreased it was 12 to 1, according to Michael Bernard, chief tax officer at Vertex. "And the number of districts is near a 10-year high," he said. Police, fire and sewage districts are separate entities from cities.
There are a number of reasons for this rise in rates, according to Bernard.
"First, issuing debt continues to be subpar. Locals just don't want to do it, because administratively it's a hassle," he said. "Inflation is eating at them, whether it's paper or asphalt. The price of office supplies, asphalt and police cars, like everything else, has increased. They need more funding just to deal with inflation, which has run 15% to 30% across the board."
Not so visible is the projected drying up of funds available under the American Rescue Plan, the largest amount of direct federal aid ever for local governments, he explained: "The funds were allocated to cities and counties, but will be paid out by the end of the year. A city getting millions under the plan could purchase police cars, fire trucks and fix potholes. But those funds will go away at the end of the year, so they will need to increase the sales tax to make up for it."
And the ability to raise the sales tax is administratively efficient, according to Bernard: "There is normally no debate — they just pass it at a council meeting, and collections are normally done by the state auditor. ARPA funds will not be paid starting in 2025, and administratively it's easy to pass and increase, so locals can rely on it."
The sales tax is the most resilient source of funding compared to property and income taxes, Bernard observed.
"Depending on whether the economy is reflecting good times or bad times, sales tax collections will go down faster but recover faster than income tax or property tax," he said. "The difference is that sales tax is much more immediate: When bad times come, consumers shut their wallet, but when things ease, they open their wallets faster."
Key findings from the report include:
- City-level spikes. The first half of 2024 witnessed an unprecedented spike in city-level sales tax rate adjustments. While city jurisdictions enacted 95 rate changes in the first six months of 2023, the same period in 2024 saw a dramatic increase to 159 authorized sales tax rate changes — a striking 67% year-over-year increase. "This significant acceleration in local tax rate modifications reflects cities' proactive approach to revenue management in response to evolving economic conditions and budgetary pressures," said Bernard.
- Net new taxation. The adoption of new taxing cities (30) and district taxes (77) in the first half of 2024 remains high, as establishing new taxing cities and districts is a simpler and faster process than altering states sales tax rates. "This decades-long trend of net-new taxation (taxing cities and district taxes) is in stark contrast to state-level tax changes, which typically require a lengthy legislative process," according to Bernard.
- Looking local. Local governments raised sales tax rates with three times more county-level increases than decreases, and 12 times more city increases than decreases. "The move on local-level taxation is driven by several key factors, Bernard remarked: persistent inflation, the ongoing need to maintain and improve public services, and the rising costs of issuing bonds due to higher interest rates.
- New and unique fees. States are increasingly implementing various fees, including airport, environmental, special district and retail delivery fees, according to Bernard: "Two years ago, Vertex solutions supported roughly 400 fee impositions; today, that number is approximately 1,400."
"On the global front, while most nations are refraining from increasing VAT rates to avoid anti-competitive effects and inflationary pressures, VAT remains a crucial funding source for governments. Additionally, the EU is expected to see a rise in environmental taxes, particularly carbon-related fees. These trends underscore the evolving nature of indirect taxation globally with a focus on real and near-time reporting," said Bernard.
