Flynn's Harp: Lowry has empathy for Gregoire's budget challenge (1-20-10)

As Washington Gov. Christine Gregoire struggles to find ways to plug a $2.6 billion shortfall in the state’s general fund, one who can truly empathize with her is former Gov. Mike Lowry, who found himself in a similar deficit crisis in 1993.

There are obvious differences between the situation Lowry faced, looking ahead to a $1.6 billion shortfall in a biennium whose start was then six-months away, and Gregoire’s gaping revenue hole in a biennium already six-months under way. But in each of their cases the quest to close tax loopholes was, and is, part of the perceived solution.

And like Gregoire, who thinks one way to make up some of the shortfall is by bringing more equity to the state’s business-and-occupation tax, Lowry sought to generate more dollars by creating more tax equity through extending the sales tax to services like law and accounting.

Gregoire wants to extend the b&o tax, which is imposed at different rates for different types of businesses, to out-of-state companies on the portion of their business revenue derived in Washington State.

In focusing on the b&o tax, based on a business’s gross receipts rather than profits, Gregoire may be about to open a longer-term process of looking at the array of rates at which that tax is imposed. The rates range from .0013 percent (13 cents on $100 of gross revenue) to 1.5 percent for services ($1.50 for every $100 of revenue).

“Looking for additional revenue through tax equity was the reason we sought to extend the sales tax to services,” Lowry recalled in a telephone conversation. “And tax equity is what Gregoire is seeking to achieve with her proposal to extend the b&o tax to out-of-state companies.”

Lowry’s  proposal by then made it through the Democrat-controlled House but bogged down in the Senate as attorneys,  in particular, successfully made the case that coming under the sales tax represented too many costly administrative challenges. Lowry recalls that the professions were more open to a b&o tax hike than to being brought under the sales tax.

In the end that 1993 Legislature closed its budget imbalance by increasing the b&o tax paid by those service businesses from 1.5 percent to 2.5 percent, with a provision that the increase would sunset after four years.

Lowry says he frankly doesn’t like the b&o tax “because a tax on gross receives has a lot of problems, like the impact on start-up businesses. And the disparity in rates among industries creates some real irritations about government and taxes.”

Lowry pointed up the challenge of the b&o tax, instituted in 1933 and the nation’s oldest gross-receipts tax, by noting “it’s an income tax, basically, because its rate is based on the assumed profit margins of various industries.”

“It seems to me that a corporate income tax would obviously be preferable, and more equitable to all businesses,” Lowry added.

But failure has met every effort to bring about an income tax, which would require voter approval because the conventional wisdom (not longer agreed to by all) holds that it would require a change in the constitution.

The service industry represents the perfect example of what Lowry is referring to. Firms in that industry pay 1.5 percent of their gross revenue because that industry basically has the highest profit margins, on average. Although it’s anyone’s guess as to why gambling (for those whose annual winnings total $50,000 or less) is specifically singled out for the same rate as the leal, accounting and consulting businesses.

Anyone looking for absurdity in the b&o tax need look no further than its placing escort services in the retailing category, which means the tax is about half of the rate on services. A wag might suggest that the state should not be promoting escort services as retail activity, in which sales occur

Referring to the disparity of b&o-tax rates, Don Brunell, president of the Association of Washington Business, points out that many of the variations in the rates relate to incentives provided to various industries at one time or another.

Thus production of biodiesel fuel was put in the lowest-rate category of .0013, which had been created for “wholesale meat processors.”

And the most high-visibility example was, perhaps, the 2005 change that made “manufacture and sale of commercial aircraft” beneficiary of a reduction from .0042 to .0029, a clear part of the incentive package for Boeing.

Brunell, whose statewide business association is also the state chamber of commerce, suggests that just looking to remove a tax incentive, as Gregoire is basically suggesting, isn’t necessarily the answer. Why change an incentive that is doing what the legislature intended it to do?

“The duty of any industry that gets an incentive such as b&o-tax reduction, is to produce jobs to offset the tax revenue the state is losing from the tax incentive,” said Brunell. “The legislature should be constantly looking at the whole array of incentives and if the incentive isn’t paying off for the state, the legislature should look to change it.”

Incidentally, the additional 1 percent b&o tax hike service industries were hit with in 1993 was eliminated three years later as what was becoming the state’s dot-com surge brought a budget surplus of more than $600 million.

Gregoire and the legislators considering the painful combination of cuts and tax hikes necessary to balance the budget, as well as businesses and individuals who will feel the pain, can only hope that a similar comeback for the economy is in the not-too-distant future.