The Economics of Sales Tax Exempt States
- May 6, 2015 | Ryan O'Donnell
As we have discussed in other articles, the U.S. federal government does not set sales tax rates...individual states do. States collect these taxes (as well as income and property taxes) as part of their revenue to provide resident services.
This brings up an important question: are there states which do not collect sales tax? (The answer is yes.)
And to follow up, how does this decision impact their economies?
There are five states that do not collect state-level general sales tax; New Hampshire, Oregon, Montana, Alaska and Delaware. Collectively, they are commonly referred to as the "N.O.M.A.D. states". Let's take a look at how they compensate for this lack of sales tax revenue.
Not only does the "granite state" state not collect sales tax, they also do not collect income tax! This makes it a very attractive destination for shopping—especially for nearby Bostonians.
On the flip side, they do have the third highest property tax in the country (only slightly ahead were Connecticut and New Jersey). This is a distinction which has earned the rebuke of politicians occasionally as they argue the government’s funding sources should be more diversified.
If you are a business owner in New Hampshire, then your company pays a government tax directly—as opposed to collecting it from residents—known as the Business Profits Tax. This tax is 8.5% of a business’ income if it’s over $50,000.
Note that, due to Code of Administrative Rules Rev 304.01, out-of-state businesses who have nexus with New Hampshire may also be required to file a return there.
Nevertheless, with no other taxes in the state, the overall tax burden is fairly low for New Hampshire residents (and residents who own businesses there).
While the State of Oregon does not collect sales or use taxes, it does have one of the higher income tax rates in the country, especially for retirees.
Kiplinger’s noted the state in September, 2014, as one of the 10 least friendly states for retirees because their rates range from 5.0% to 9.9%. In addition, their capital gains tax rate is 31%, the 3rd highest in the nation.
However, before you sell your business, retire and rush out to buy a half-million dollar RV in Oregon without paying sales tax—thinking you’ll drive it home to Washington or California, think again.
You will pay when you register and title your vehicle it at your local DMV. You can’t just title and register a new vehicle in Oregon without proving residency there. In fact, "Washington and California employ agents whose job it is to ferret out people illegally registering their vehicles in Oregon" says NewRVer.com.
Another interesting aspect of Oregon’s lack of sales taxes relates to its northern neighbor, Washington. Oregon has no sales tax, yet a high income tax. Conversely Washington has a high sales tax, but no income tax.
Because of this, people living just north of the Oregon border might pay less than most people in both sales and income taxes.
Parts of the Big Sky state are fairly remote and populated centers are few. This would lead you to think Montana collects general sales taxes to try and grow its revenue as much as possible, but they do not.
Like Oregon, Montana has high income and property taxes to capture state revenues.
However, the majority of the state’s revenue comes from natural resource taxes. According to the state’s government revenue website, "Generally, natural resource taxes may be categorized as either severance / license taxes, or some form of ad valorem taxes."
The State of Montana does not even have a general business license, except for certain categories that are required to register and be licensed such as liquor sellers, mining operations and energy producers. You’ll also find resort taxes in certain areas; this is a decision left up to those municipalities.
As a business owner, you will run into the corporate income tax in Montana. The rate of tax is 6.75% and calculated on net earned income. You can alternatively pay a tax of 0.5% of your gross sales if:
- Your company does not own or rent real estate or other tangible personal property in MT
- Your company’s annual gross volume of sales made in MT does not exceed $100,000
- Multi-state corporations who do business that is taxable within MT or outside of it are required to allocate income to Montana based on an equally-weighted, three-factor formula consisting of sales, property and payroll
- Lastly, if a corporation has no property, payroll or sales in Montana during the period, it is excluded from paying anything, even the minimum payment of $50
Although Alaska doesn't have a statewide general sales tax, certain local jurisdictions impose local sales taxes. The average of these rates is low, just 1.69%. Alaska doesn't impose a personal income tax either.
So how does the state get its revenue?
Property taxes are a small way, but the majority of Alaska’s income comes from oil and gas production taxes. Companies which have oil-producing operations such as ExxonMobil, British Petroleum (BP) and ConocoPhillips pay these oil and gas taxes.
Miscellaneous types of taxes Alaskan business owners will have to remit—besides local sales tax—include taxes on beds (lodging), alcohol, car rentals, raw fish and tobacco.
Owning a business in Delaware is simple as far as collecting sales taxes from your customers. Driving through, you might even see the sign on its border crossing that advertises, "Home of Tax-Free Shopping".
The state website says, "Delaware does, however, have an annual business license requirement, as well as a gross receipts tax that is imposed on the seller of goods or provider of services. Sales of tangible property are additionally subject to a retail or wholesaler license and gross receipts tax."
Delaware corporations who do business in Delaware are also assessed an 8.7% corporate income tax.
Even though there are lots of corporations headquartered there, many of them do not do business within the state. These companies are exempt from the corporate income tax and are not required to file.
This applies even if they were incorporated under the laws of Delaware.
Combining the corporate income tax with a high personal income tax allows Delaware to stay out of collecting general sales taxes.