Ka Wai Ola - Office of Hawaiian Affairs, Volume 6, Number 9, 1 September 1989 — Taxes and You [ARTICLE+ILLUSTRATION]

Taxes and You

By Lowell L. Kalapa, Director Tax Foundation of Hawaii

Pyramiding — it's not found in Egypt

For most consumers the 4 percent general excise tax is the bane of living in Hawai'i since the tax is added to eaeh and every purchase made. Everyone's favorite complaint is that the tax is imposed on "noroccitioc" eii/^h

as food or medical services. However, the problem of the tax is mueh more pervasive than most people realize. Since the tax is imposed every time a transaction takes plaee, be it payment for goods or services, the cost of the tax is added to eaeh subsequent purchase of the goods or services. This phenomenon is known as pyramiding. It is similar to the building of the pyramids in Egypt, the tax is added in ever increasing amounts. Thus, by the time a product reaches the final consumer, it may include a number of levies of the general excise tax. The legislature took care of some of this pyramiding of the general excise tax with respect to the turnover of products. They reduced the rate to one-half of one percent where the goods are not for consumption but are to be resold. Services have always been considered "for sale" to the final consumer and are taxed at the full 4 percent rate. As a result, the final delivery of a service cannot be accomplished without a prior service, both service transactions are subject to the full retail rate of 4 percent. This may seem confusing until one realizes that the rental of property is considered a service. Here in Hawai'i where leasing property is a way of life, this treatment of services exacerbates an already difficult, if not expensive, situation. For example, take the leasing of a small retail space in a shopping center or an apartment. The fee simple owner of the land under the store or the apartment may have leased the property to a developer. Then, after building the apartment or shopping center the developer subleases the pro-

perty to an association or, in the case of a shopping center, to a major retail store. The apartment is subsequently rented from the pool of available rentals. Or, in the case of the shopping center, the major retailer may decide that it does not need all of the subleased space at this time and subleases a portion of the space to a smaller business. Eaeh time a sublease of the property takes plaee, the 4 percent general excise tax is imposed. Thus, with eaeh subsequent sublease, the cost of the 4 percent tax from the previous transaction must be folded into the cost of the sublease and again taxed at the 4 percent rate. This added "prerruum" of the 4 percent substantially increases the cost of living and doing business in Hawai'i. It represents, dramatically, the pyramiding eharacteristic of the general excise tax. Similarly, when services are sold to other businesses whieh become a part of the services rendered to a final consumer, the service provided to the other businesses is still taxed at the full 4 percent rate. For example, an architect who is commissioned to design a new gymnasium makes preliminary drawings according to the client's specifications. Onee the basic design is acceptable to the clients, the architect sends out to another company for "working drawings" so that his clients ean examine the plans. The p>lans are drawn to scale and with all of the finer details, such as the ciir conditioning system, electrical system and water lines reflected. Onee approvals are received, the architect contracts a blueprint company to draw the drawing for the contractors. Eaeh time the architect contracts for one of these outside services, the amount paid to these business (the draftsman or the blueprint eompany) the 4 percent general excise tax is due on the amount charged even though these services are essential for the delivery of the architects design services to the clients who are going to use the gymnasium. This pyramiding of the tax hasencouraged businesses to integrate these services under one roof. In other words those business whieh have been able to incorporate those services they use on a re-

gular basis into one large business avoid going outside their business. They merely work between different departments within th same company. There is no billing between departments. The overall delivery of the product is the same and more than likely at a mueh lower cost since the cost of the tax is incurred only at the sale of the combined services to the client. lntegration of services works against small businesses whieh are not able to integrate. This places an integrated business at a distinct competitive advantage. In many cases the situation has forced smaller and specialized services out of business. So what ean be done to reduce this "pyramiding" of the general excise tax? It should be realized that any action to ameliorate the pyramiding of the tax is going to result in !ost revenues to the state. However, given the advantages it would hold for all taxpayers, the state might consider it a way of returning something to the taxpayers that will benefit the entire population, ranging from the cost for food and shelter to medical services provided to the ill and infirm. Reducing the rate from 4 percent to one-half of one percent (0.6 percent) or eliminating the taxaltogether from rents might be a start. In the case of residential rentals, a total exemption would put renters on par with homeowners since homeowners do not pay the general excise tax on their home purchases. On the commercial side, thought might be given to either a reduction in the rate to 0.5 percent on subleasing transactions prior to final sublease. Or, provide a credit for leases, subject to the 4 percent tax, where the property is subsequently subleased to another person. In any case, the general excise tax imposed on services needs a careful review with an emphasis on how it has added to the cost of living in Hawaii. Taxpayers should begin to acknowledge that the cost of the 4 percent tax is implicit in the prices consumers pay even before they are charged the tax at the check-out. Given the pervasiveness of the tax, it is no wonder that it is expensive to live in paradise.

from page 22 small step towards autonomy for Hawaiians. A semi-autonomous state agency, OHA has addressed a number of problems faced daily by our Hawaiian people with limited success. Saddled with the confines of state law whieh does not accommodate this unique agency, and a legislative process of funding whieh precludes any ability to be truly independent, and burdened with the state's conflicting inter-agency policy on the use and definition of revenues from the ceded land trust, OHA's ability to be an effective representative of the Hawaiians has truly been tested. Another agency, albeit private in nature and governanee, the Kamehameha Schools/Bishop Estate has provided a positive step toward educational independence. This trust has provided unique, high quality education for thousands of children on their campus and the campuses of the public education system statewide. Their success story on proper matriculation has been excellent. And I need to point out that like the Office of Hawaiian Affairs, the trustees of Bishop Estate for the most part consists of blooded Hawaiian leaders. There are several other agencies, private and government supportd, whieh address the various needs of Hawaiians with again iimited success. And again, I point out that for the most part, these

organizations are administered by Hawaiian leaders. We have developed our leaders and great efforts are being made to maintain an ongoing program of training leaders to assume the roles created by an increasing need to be independent. Although we may not agree on the who or what will take over this self-determination, sovereignty, 1 think we ean agree that it is our desire to be able to make our own decisions. As we build the entity we eall sovereignty, we begin with many ideas, many groups, many claims. I liken this to a first congress with representation for all. All of our various organizations or groups ean be compared to poliheal parties, eaeh with different claims and perspectives but all Hawaiian. We will sit, talk, and confide in eaeh other until we eome closer and closer to consensus. We ean accomplish the mission. We ean be responsible for our needs. We ean govern ourselves. Let us begin the journey. As I close, let me address our accomplished congressional leaders. Senator Inouye, you have been a true friend to the Hawaiian people. From your earliest po!itical career you have demonstrated a care and eoneem for our people that is unmatched in quantity, quality,and deliverance. Along with our Hawaiian 'ohana, Congressman Akaka, your team hasfocused the attention of this great nation of America on the needs of this proud small nation of Hawai'i. We thank you and offer our humble prayer for your continued work and health. A i mana'o kekahi e lilo i po'okela i waena o oukou, e pono no e lilo ia i kauwa no oukou. Na ke Akua e malama a e alaka'i ia kakou apau.