Virginians will celebrate their annual “sales tax holiday” this weekend—August 7 through August 9. On these three days, the state’s 5 percent sales tax will be exempted from school supplies, clothing, and footwear. Each eligible school supply item must be priced at $20 or less, and each eligible article of clothing and footwear must be priced at $100 or less.
Many other states in addition to Virginia will also have sales tax holidays this year during the “back to school” shopping period. The idea is to lower the cost for parents preparing to outfit their school age children with supplies and clothing for the upcoming school year, and to provide a boost for retail stores. Such holidays are popular with shoppers, and therefore state legislators are eager to offer them. But that doesn’t mean they are good tax policy.
Sales tax holidays do not increase demand for anything. Consumers simply shift their purchases from periods before or after the holiday to the days when they get the sales tax exemption. This creates no new consumption. It also leads to long lines at the stores as shoppers rush to save their 5 percent (in Virginia).
Sales tax holidays also discriminate between products covered by the exemption and those not covered. They tilt the playing field in favor of the exempt items. And they increase the complexity of the tax code because they force stores to determine which items are exempt from the sales tax and which aren’t. The stores then must implement a system to make sure the sales tax applies to the appropriate items.
Despite these shortcomings, states across the country will continue to offer sales tax holidays because of their popularity. As the cash-for-clunkers program shows, it is always popular when governments give away money, even if it is poor policy.
States would be better off expanding their sales tax bases to apply to all goods and services while still exempting all business-to-business purchases (this prevents the tax from pyramiding in the cost of products without consumers knowing). States would then have the leeway to lower their sales tax rates, which would provide a permanent shot in the arm for their businesses and lower the costs for parents purchasing school items all year long.