Feature Stories - October 2009

The Tax Effect

How the New Business Taxes Will Effect Nevada Businesses

by Jessica Santina

    Everyone in the state saw it coming, but that didn’t make it any easier. As legislators entered the 2009 session, they faced a biennial revenue shortfall of $2.4 billion. Governor Gibbons’ proposed budget still fell short by $1.6 billion. And while he vowed to veto any tax increase, legislators, ultimately, felt that they had no choice. They passed several new taxes that took effect this July – many of them having significant repercussions for businesses.

    So here in Nevada, where the July 2009 unemployment rate hit a record 12.5% – the third highest in the country – businesses find themselves struggling even more. Here’s a look at what these new taxes are, how businesses around Nevada are responding to them and what they could mean for our future.

A Look at the Numbers

    Overall, the 2009 session resulted in almost $1 billion in new taxes for 2009-2010, the bulk of which will sunset in 2011. According to the Nevada Taxpayers Association (NTA), the increases are comprised of the following:

Sales Tax

    While the base rate did not change, the Local School Support Tax (LSST) portion, which is earmarked for local school districts, was increased by .35%, meaning that less money is required of the General Fund for education.

Modified Business Tax

 
    This quarterly payroll tax that is based on gross wages was adjusted based on a two-tiered system. The first tier rate of 0.5% is on the reported quarterly payroll that does not exceed $62,500. The second rate tier is on the reported quarterly payroll over $62,500, and increased from .63% to 1.17% on July 1. This increase alone is projected to bring in almost $346 million over the biennium.

Business License Tax

    The $100 fee was increased with a $100 tax. Together with the Modified Business Tax, the projected revenue from this move is $83 million.

Room Tax

    This increase of 3% affects room rentals in Clark and Washoe Counties, with a 13% cap. Funds will only be diverted to the General Fund until July 1, 2011, at which point they are redirected to schools.

Washoe County Fuel Tax

    This increase will take effect on Jan. 1 in Washoe County only, and will enable the county to issue $80 million in bonds over the next year to cover a variety of infrastructure improvement projects.

    As Carol Vilardo, president of the Nevada Taxpayers Association, explains, the rate of vehicle depreciation in the state was also delayed by one year, effectively making registration fees more expensive than many might have previously expected. “This is effectively an increase, because now you don’t get the 10% reduction you might have otherwise.”

Reactions Around the State

    While no one likes to pay more taxes, reactions to these increases have been mixed, depending on the industry.

    “Once taxes are raised, they’re unlikely to ever go down,” says Jason Thomas, a certified public accountant with Fair, Anderson and Langerman, a full service accounting firm in Las Vegas. Thomas warns that these increases could mean trouble down the road. “Once it’s passed, the rate will go up when the conventional sources of tax revenue contract, like sales tax and room tax.”

    According to Vilardo, for some small businesses, these increases could be disastrous. “For instance, look at the business license and modified business taxes. With a sole proprietor who has one or two employees, a hundred dollars can be a big deal - especially if your employees are paid so that your reported payroll is over $62,500 a quarter,” she says. “At the same time, there were minimum wage increases, and probably in the near future we’ll see a substantial increase in unemployment tax premiums. That’s not including every other expense that a business incurs, like increased shipping costs and a potential increase in property taxes. Then there’s sales and use tax. Look at it all cumulatively, and in this economy there’s a very substantial impact on businesses.”

    Still, many business people around the state believe there was no other choice but to raise taxes if Nevada is ever going to climb out of this hole. Among them are those in the mining industry.

Mining Shoulders a Big Burden

    In 2007, the mining industry paid roughly $200 million in taxes, making it a top contributor to the state’s General Fund. Mining is also one of the four industries that pays an industry-specific tax, the Net Proceeds of Minerals (NPOM) tax, paid on the value of minerals sold at market less the cost incurred by the miner to extract and sell it. In 2007, it totaled $76 million.

    Still, according to Nevada Mining Association President Tim Crowley, mining as a whole supported the tax package. “We felt we could contribute more to the state, that businesses have the ability to contribute more, and that it was time when all businesses, mining and otherwise, needed to dig deeper and help with this dilemma,” says Crowley. “No business wants to pay taxes, but there was no question for us that businesses needed to do more.”

    Part of doing more is paying the NPOM tax in advance, rather than in arrears – a decision made during the special 2008 legislative session to aid with the state’s cash flow problem. “We’ve done this before, and it wasn’t the best way to handle it from a mechanical standpoint,” says Crowley, “but from a cash situation standpoint, it’s really the smart thing to do when the state is struggling.”

    Additionally, sales taxes in the amount of $90 million were paid in 2007; although Crowley doesn’t have a sense of the numbers yet, he imagines the tax increases will have a significant impact on the industry. Plus, with salaries in gold mining in the $70,000-$80,000 range, mining pays the highest payroll taxes in the state. The increases, though they’ll be deeply felt, were also supported by  the mining industry.

    Finally, the association also self-assessed a fee increase on mining claims to help the University of Nevada’s Mackay School of Mines. It will provide about $400,000 more a year to the struggling school.

What’s in the Cards for Casinos

    In spite of the state’s ongoing efforts to diversify the economy, gaming taxes still comprise nearly 30% of General Fund revenues; combined with various retail sales and use taxes, liquor taxes, room taxes, and Modified Business taxes, Nevada’s casino industry accounts for roughly half the state’s funds.

    And as Bill Bible, president of the Nevada Resort Association, points out, 2008 saw record decreases in gaming revenues and hotel occupancy rates – the most dramatic decrease since the Gaming Control Board began collecting such data.

    Meanwhile, the industry was hit with tax increases; in addition to a 3% room tax increase, casinos will face the standard business tax increases. Payroll will be hit hard, as will the increase in sales tax; the industry provides about 20% of the state’s General Fund totals for each.

    Still, resorts as a whole supported the increases. “The package itself takes a pretty good bite out of the industry, but we recognize the dire straits that the state is in,” says Bible. “We recognize the importance of education, support services and public safety functions. Surely it’s a hardship to us in these difficult economic times; these increases will be difficult to absorb. Many properties are  already operating at thin margins and some are close to bankruptcy.”

    Bible suggests that the largest, busiest properties are likely to be the hardest hit, while some of the smaller ones, with graduated business tax protections, may be somewhat safer.

    “I think everybody is hoping that some experts are right about conditions improving, and that we’ll see increases in tourism next year, at least in time for the next session in February of 2011. If that’s the case, maybe we’ll have a different set of circumstances,” says Bible.

Retailers Take a Hit

 
    Retailers are feeling the increases the most. The state’s heavy reliance on sales taxes – about a third of the General Fund budget – is a big part of our problem. In the last quarter of 2008 alone, taxable sales decreased by 7.4%, according to the Retail Association of Nevada (RAN). In the Reno/Sparks area alone, retail vacancies are at 14%. So it’s not hard to understand why RAN opposed the recent tax increases.

    “Money’s tight anyway, and all of a sudden people are seeing a further tax expense,” says RAN President Mary Lau. “In an economy like this, consumers may now put off purchases of big ticket items, or pay to make repairs on existing items that otherwise wouldn’t be cost-effective in a better economy. Plus, not all Internet sites collect tax, so if people choose to spend money online, it doesn’t contribute to the state. So everybody’s hurting, and retailers are laying people off or not hiring, just trying to maintain a certain level of income.”

    Lau says that a 3% slump in back-to-school spending (at the time of this writing) may be an early indication of poor holiday sales as well. Add to this a minimum hourly wage increase of 70 cents, and retailers are certainly left feeling bruised – particularly the “mom and pop” stores, as consumers head to big box discount stores to save money.

    Also of concern to RAN is what Lau terms the “appetite” some lawmakers have for a net profits tax, as well as a lack of control when it comes to spending. “We over-commit in times when we have money, instead of holding back and looking for ways to save,” Lau says.

Contractors Getting Hammered

    Construction was the first industry to feel the economic pinch, and one of the hardest hit. As John Madole, executive director of the Associated General Contractors, points out, the increases will likely be painful. There’s sales tax, which is paid on supplies and then extended to customers, payroll, significant workers’ compensation, and fuel taxes. “For people who have a lot of trucks in their businesses, a fuel tax increase is pretty significant,” says Madole. “I talked to a guy the other day who buys 8,000 gallons of fuel a day. With fuel taxed at 53 cents a gallon, that’s a huge amount of money.”

    Contractors also find themselves in a unique situation when it comes to collecting taxes on fixed price contracts established in early 2009. “Typically, if you want a building built, you collect several estimates, take the low bid and award the contract,” explains Madole. “The contractor would include taxes in the cost of the bid. If you signed a contract on January 1 to build a $2 million building in one year, and taxes went up July 1, you have no way to recover those additional costs, so the contractor absorbs it.”

    Part of the problem is an extremely small margin of profit across the country on construction projects, at less than 2%. Although stimulus funding for construction projects has encouraged growth in the industry, contractors are bidding so competitively to earn jobs that they’re coming in at 15-20% less than they normally would. “We’re taking a business where a lot of guys have been out of work for a long time, and we’re adding taxes to them, which makes it difficult for them to survive,” says Madole.

    Nonetheless, Madole and the AGC didn’t dispute some of the tax increases, and have even recommended raising gas taxes, which haven’t been raised statewide since 1992. “When inflation affects your purchasing power, it makes sense to incrementally raise taxes to build roads,” says Madole. “If you let a road go more than eight years without an overlay, it quadruples the cost to repair it. So maybe we need to have a more long-term approach to things, and plan five or ten years down the road. I think instead that we tend to have knee-jerk reactions.”

Will Taxes Affect Nevada’s Growth?

    The Silver State currently ranks 50th for its tax burden outside income, property and sales tax, and our property taxes are the country’s 16th lowest. In mid-August, the American Legislative Exchange Council, a Washington, D.C. think tank, ranked Nevada among the 10 states with the best economic outlook, due to its low taxes and pro-business regulatory environment.

    As executive director of the Nevada Commission on Economic Development, the organization created in 1985 to diversify the state’s economy and create jobs, Mike Skaggs watches the state’s taxes closely. After all, Nevada’s lack of personal or corporate income tax is one of the biggest recruiting tools in his arsenal.

    Luckily, these taxes weren’t much affected by the recent legislative decisions, as the new Modified Business Tax rate of 1.17% is still very competitive with neighboring states.

    “On the recruiting side, these changes don’t affect us a whole lot,” says Skaggs. “But on the abatement side we were affected. We deal a lot with trying to bring renewable energy companies here, and there were some changes made on how much we can abate for new companies to start up … we were dealing with a client before the session who was talking about building plants, and now there will be less of an abatement on the front end, so they’re having to borrow $200 million to put in a facility. So in that sense, it makes the job a little tougher.”

    He’s talked to some existing business owners who have said they’ll likely be laying off employees to keep costs manageable as a result of the tax increases. He’s also concerned by some lawmakers’ talk of a corporate income tax, which could chip away at Nevada’s ability to diversify by drawing businesses here. Still, he hears encouraging reports about the state of the economy, and expects us to be in a better situation soon.

What the Future Holds

    While much of the country’s economic news is encouraging, the fact remains that these tax increases sunset in 2011, just in time for the next legislative session. With no stimulus money in the offing, lawmakers will likely find themselves in an even more difficult situation as they face a $2 billion shortfall.

    That’s partly why lawmakers made a plan to hire an independent consultant to analyze and make recommendations about the state’s tax structure. Numerous studies, including one in 2003, have been done and all drew the same conclusion: Nevada needs a more stable, more diversified tax base that doesn’t rely so heavily on such volatile industries as gaming and sales.

    Carol Vilardo echoes the words of many when it comes to looking at Nevada’s economy. “Our revenue base needs to be adjusted to better reflect the way the economy is functioning, and we haven’t done that. We need to get to the point where we don’t spend every cent of our revenue on projects, and develop a good rainy day fund that allows us to minimize cuts in a downturn. We need to put a lot more away than we have been.”

Jessica Santina
Jessica Santina is a freelance writer based in Reno.