Intro to Salt - History of State and Local Tax Systems

Introduction to State & Local Taxation

Kathryn M. Jaques

San Diego State University

History of State and Local Tax Systems

State and local tax systems in the U.S. are very similar in their overall structure and concepts.  In a way the similarities are surprising, because the ancestors of today’s state tax systems are the colonial systems, which differed considerably from northern to middle to southern colonies.  The differences arose from the varied economic structures of the colonies, from the plantations of the south to the mercantile interests of the north.  The varied backgrounds of colonists who settled in different areas also contributed to different taxing systems.

By the late 18th century, the property tax had become the cornerstone of state taxation, and it remained so until the early 1900s.  After that, states shifted their focus to individual income taxes, motor vehicle and gasoline taxes, “sin” taxes on tobacco and liquor, general sales taxes, and corporate income and franchise taxes, while the property tax became the mainstay of local governments and public schools.

Although the broad framework of state and local taxation is fairly consistent from state to state, the devil is in the details.  Local history and politics have had a profound effect on the finer points of state and local taxation.  In addition, differences in local economies strongly influence the kinds of taxes from which states derive most of their revenue.  A western state with small population and abundant natural resources, such as Wyoming, may rely heavily on severance taxes, while an industrial state puts more reliance on income and sales and use taxes.  Michigan adopted the Single Business Tax, a form of value-added tax, in the late 1970s to smooth out the revenue peaks and valleys caused by the cyclical nature of the auto industry, and then replaced it with a dual-measure income and modified gross receipts tax in an effort to be perceived as more business-friendly.^[1]  The culture of some states makes certain kinds of taxes political anathema; it is hard to imagine an individual income tax in Texas, for example, as long as there remains a breathing Texan.   Oregonians feel much the same way about sales and use taxes.

Significance of State and Local Taxation

Until the 1980s, many U.S. companies considered state and local taxes to be a cost of doing business, one that was not susceptible to management or control.  Since then, most companies have come to realize that state and local taxes can be managed, and that every dollar of state and local tax saved, net of the federal income tax effect, goes straight to the bottom line.

Many U.S. companies pay far more in state and local taxes each year than they pay in federal corporate income taxes.  State and local tax practices among the large accounting firms enjoyed explosive growth from the mid-1980s to the early 2000s.  Today, as the number of large international accounting firms has shrunk, the state and local tax practices of smaller national, regional and local firms have been growing rapidly.   In addition, a growing number of consulting firms offer state and local tax services alone or in combination with other non-attest services.^[2]