Sales taxes, or taxes on consumption, are considered the least harmful in comparison to income and corporate taxes. This does not mean a state should have a high sales tax, because this too would be harmful for economic growth. States should work to establish a tax code that has low rates combined with simplicity and transparency. This would in turn create certainty and stability.
In 2018, the Iowa legislature passed the first major income tax reform legislation in two decades. That tax reform began the process of lowering both the individual and corporate income tax rates and broadened the sales tax base by requiring sales tax be paid on e-commerce and other digital services. However, the sales tax rate itself remained unchanged at 6 percent.
Iowa’s General Fund relies heavily on income taxes for funding. Since 1993, individual and corporate income taxes have a combined average of 64 percent of General Fund revenues, while the sales tax has been averaging 32 percent. Iowa’s dependence upon income taxes for revenues further demonstrates the need for tax reform. Income taxes are the most harmful for economic growth and they tend to be less stable, especially during economic downturns.
Iowa has some of the highest tax rates in our region and this makes the state less competitive. Further base broadening of Iowa’s sales tax would provide additional revenue to be used to lower other tax rates and would result in a more equal and neutral playing field. Numerous exemptions force the sales tax rate to be higher. Several of the exemptions are on specialty services—such as accounting, marina boat-docking, lawyers, lobbying, private charter flights, and lawn care —which are often utilized more by people with higher incomes.
A high number of sales tax exemptions can cause the sales tax to be more regressive. Many assume that broadening the sales tax will do the same, but it can make the tax more progressive. It is possible to lessen the regressive nature of the sales tax by broadening the tax base.
Policymakers should approach any sales tax reform with caution. To ensure Iowa has a more competitive economic climate, it is essential that any new sales tax revenue be utilized to lower income tax rates. The sales tax can be part of a greater conversation for a more pro-growth tax reform, which will place Iowa taxpayers first while promoting entrepreneurship and job creation. If these end goals are at the forefront of tax reform discussions, Iowa will be on the path to greater prosperity.