Americans can live anywhere they want, and the choices they make about which state they live in can have a dramatic impact on their finances. In particular, the vast majority of states charge an income tax at the state level, but a select group of states has no personal state income tax. Many of these states also don't impose any income taxes on corporations doing business within their jurisdictions, which you'd think would encourage greater business activity.
However, even among the states that most people think of as being the most taxpayer-friendly, there are some pitfalls to watch out for. In particular, the states of Nevada, Texas, and Washington -- often seen as tax havens for individuals -- charge their corporations an even more onerous levy known as the gross receipts tax. This tax can exact a heavy toll on businesses, especially those that are just getting started. That, in turn, makes these three states far less ideal for would-be entrepreneurs than they'd otherwise be.
What a gross receipts tax is
The advantage that the gross receipts tax has is simplicity. The tax gets imposed on all sales a business makes, and there are typically no deductions allowed against the levy. From an administrative standpoint, the only thing you need to know is the revenue from a business in order to calculate the tax due.
At first glance, the gross receipts tax looks a lot like a sales tax. However, as we'll see below, there are mechanisms within the sales tax that prevent it from getting imposed multiple times within the supply chain. Many criticize the gross receipts tax for not doing the same thing and therefore inviting multiple taxation.
Why businesses hate gross receipts taxes
The key to understanding this supply chain taxation problem comes from the way governments measure gross receipts. With sales taxes, there's generally an exemption allowed for transactions at the mid-supply chain level. For instance, if a hardware store buys lumber from a local mill intending to resell it to retail customers, then the hardware store typically gets a sales tax exemption, with the end-customer having to bear the sole brunt of the sales tax.
That's not how the gross receipts tax works. Both transactions involve sales, so both the mill and the hardware store would have to count the proceeds from the sale of the lumber in their tax base. This effectively doubles the tax revenue from the gross receipts tax compared to a sales tax.
How these states tax gross receipts
The gross receipts tax also earns criticism because the way it's calculated can make even a rate that looks small actually much tougher. For instance, the following rates apply in the three states with no general income tax that charge a gross receipts tax on corporations:
- In Texas, the state charges what it calls a franchise tax on gross receipts. Business with income of more than $1.13 million pay a rate of 0.75% for non-retail or wholesale businesses, or half that for retail and wholesale companies. Deductions for costs of goods sold, or for compensation of up to $370,000, are allowed. A simplified form is available for businesses making up to $20 million, with a rate of 0.331% for 2018. The state's lawmakers moved to repeal the measure gradually, but the tax remains in effect for now.
- Washington charges what it calls a business and occupation tax. For services companies, the rate is 1.5%. For wholesale and manufacturing businesses, the rate is 0.484%, while retailers pay a 0.471% tax.
- Nevada's commerce tax is relatively new, approved in 2015. It's quite complicated, imposing different tax rates on more than two dozen categories of businesses. Rates range from 0.051% on mining companies to 0.331% on rail transportation businesses, with a catch-all rate of 0.128% applying broadly. The tax is levied on gross revenue over $4 million annually
Always watch out for taxes
Obviously, individual taxpayers who don't own a business won't be directly affected by these business taxes. However, gross receipts taxes explain in part how some states that go without personal income taxes are nevertheless able to finance government operations. Moreover, anyone who works for or makes purchases from a business that pays these taxes will potentially see some of its costs passed through to them, either through lower wages or higher prices.