If there's one thing (and perhaps the only thing) both major political parties agree on today, it's the sorry state of the nation's infrastructure. Our roads, highways, and bridges are in such poor condition they received a D grade in the 2017 Infrastructure Report Card. According to the report, more than two out of every five miles of America's urban interstates are congested, with traffic delays costing the country $160 billion in wasted time and fuel in 2014. Further, more than 56,000 of the nation's bridges were deemed structurally deficient in 2016, though that did not stop people from making an average of 188 million risky trips per day across those bridges.
Despite the agreement on the need for action, it is unlikely Congress will pass a bill explicitly raising taxes to pay for infrastructure repairs and improvements. So any new revenue will likely come in the form of changes to existing excise taxes—and there's the challenge. Accurately tracking and calculating excise taxes is already a complex and time-consuming process, and the possible changes will only exacerbate the problem. If your business or clients currently handle products subject to excise tax—or are planning to do so—you must develop a clear understanding of what excise taxes are, how the changes may affect your business, and what you can do to ensure tax compliance and avoid potential fines, fees, and penalties.
Excise taxes and infrastructure improvement
In the late 1700s, to generate additional revenue after the Revolutionary War, the young U.S. government imposed the first excise taxes—sometimes called nuisance taxes—on the sale of a handful of products, including whiskey, rum, tobacco, snuff, and refined sugar. Over the next 100 years, the use of excise taxes continued to evolve, and, in 1916, when Congress tied the importance of good roads to economic health and allocated millions of dollars to improve them, the states matched the federal funds with money raised from excise taxes on gasoline. In 1940, the first superhighway—the Pennsylvania Turnpike—opened, and, in 1956, the Federal Aid Highway Act (P.L. 84-627) created the interstate highway system, authorizing construction of 40,000 miles of limited access roads.
Highway construction and other projects continue to be funded by excise taxes, but how these taxes are applied is inconsistent, confusing, and always evolving. Today, the taxes apply to the purchase of gasoline, diesel fuel, beer, liquor, wine, cigarettes, firearms, airline tickets, tires, trucks, and more. The taxes are typically paid by a manufacturer or retailer and then passed on to the consumer—though the amount is usually not itemized on a receipt. Some excise taxes are administered by the federal government, others by the states, and some by a county or a local jurisdiction. The taxes may be collected at the point of production or at the point of sale, and often the funds are collected by the different jurisdictions and then used to pay for particular projects by the state or federal government.
For example, federal fuel taxes are deposited into the Highway Trust Fund. From there, more than 80% of the funds go into the Highway Account for road construction and maintenance. Another 11% to 15% goes to the Mass Transit Account. Some states have similar accounts and trust funds, and they also have various ways to distribute the money.
Over the past few years, the desire to improve infrastructure has forced many states to raise their excise taxes on gasoline and diesel fuel, while looking for additional ways to generate revenue. These other approaches include the use of an ecotax levied on activities considered to be harmful to the environment, such as a carbon tax on the use of fossil fuels. The goal of these taxes is to create incentives for environmentally friendly activities, but because of how long it takes businesses to change their practices to avoid these taxes, ecotaxes can generate significant additional revenue. Another approach is to tax underground storage tanks. For example, in California, owners of storage tanks containing various petroleum products must pay a maintenance fee.
Other strategies for generating revenue for infrastructure improvements include Pennsylvania shifting to taxing fuel at the wholesale level, Arkansas and Virginia enacting dedicated sales taxes for transportation, and Ohio floating toll revenue bonds.
Of significant note, many states are shifting to longer-term financing strategies, including public-private partnerships, private activity bonds, Transportation Infrastructure Finance and Innovation Act (TIFIA) loans, toll revenue concessions, availability payments (in which the public partner makes payments to the private investor), and private risk capital. States are also adopting the federal strategy of borrowing capital and repaying it over time rather than trying to fund projects with current cash flow. In Maryland, for example, a new 16-mile light rail line connecting two suburban counties in the Washington metro area is being built, financed, and operated through a public-private partnership.
The practical challenge for businesses and their advisers
The importance of all this for a business and its advisers is that to maintain control over the business's financial health and comply with its tax obligations, the business and its tax advisers must be able to track and understand a very messy and always evolving regulatory and legislative tax landscape.
For example, in 2013, Maryland, Massachusetts, Pennsylvania, Vermont, Virginia, Wyoming, and the District of Columbia increased their fuel taxes. In 2014, Michigan, New Hampshire, and Rhode Island enacted new fuel tax legislation, though Michigan's was later overturned by voters. In 2015, Georgia, Idaho, Iowa, Michigan, Nebraska, South Dakota, Utah, and Washington passed new legislation, while Kentucky and North Carolina altered the structure of their taxes. In 2016, New Jersey enacted fuel tax legislation and California lawmakers just approved a $52 billion fuel tax hike in April, and no one knows what else 2017 and 2018 will bring.
Despite all these changes, a business must at all times be able to accurately calculate its tax liability because errors can result in a significant impact on sales margins, hidden tax liabilities, and even fines and penalties from multiple taxing jurisdictions.
And if different tax rates for different items for each state were not complicated enough, consider the confusion that exists within some states. In New Jersey, for example, legislation increased the tax on gasoline by 23 cents beginning in November 2016, and it will be adjusted quarterly based on the current price of fuel. In California, recent legislation increased the excise tax on gasoline by 12 cents per gallon and on diesel fuel by 20 cents per gallon—with the increases to be implemented over a 10-year period.
In addition, evolving tax laws can create controversy, resulting in an uncertain future. For example, the Hawaii Department of Taxation claims that Uber and Lyft are companies selling transportation services to customers and should therefore be responsible for excise taxes at the point of sale instead of leaving it up to the drivers to pay. Meanwhile, Uber claims it is in compliance with Hawaii tax laws. A ruling against the ride-sharing companies could leave them facing huge tax bills in the future.
California's new gas tax bill has raised the ire of the California chapter of the National Federation of Independent Business. The federation claims the bill will hurt small businesses, especially those with a delivery or travel component, through significantly increased costs. Commuters too will feel the pinch. Meanwhile other business groups, such as local Chambers of Commerce, say the bill is needed and will benefit Californians in the form of lower car repairs, lower road maintenance costs, better fuel consumption, and improved road safety.
Excise tax collection and enforcement are also a mess. At the federal level, the IRS collects excise taxes via tax returns, while at the state level, a variety of enforcement agencies and strategies are employed. And it is important to understand that even though gasoline is supposedly subject to a tax rate of 37 cents per gallon, businesses cannot simply calculate their tax obligation. Different uses may be subject to or exempt from the tax, and the calculations may have complicated considerations that require additional calculations or an understanding of additional regulations.
Options for businesses and their advisers
With all the different tax obligations, enforcement mechanisms, and changing laws and regulations, it is far too easy to miss—or misunderstand the implications of—an update to any particular law. Even if a business knows that a law has been updated, it may not be able to fully translate and contextualize it to be sure of its impact and the business's obligation.
So what are the options? How can businesses and advisers ensure tax compliance and avoid potential fines in the face of such complexity? Here are three approaches:
- Turn to the business's accounting or tax social network: Many businesses rely on an internal accountant or small team who in turn rely on an online social network of like-minded professionals for additional insight. These networks typically have contributors with a broad range of experience and expertise, and many will offer to translate or interpret a regulation and its application. The reliability of this approach depends entirely on just how much these contributors actually know. If their knowledge is not as great as they claim, or if their poor communication skills leave the business guessing about what they meant, the business may end up facing fines for noncompliance.
- Outsource to a specialty firm: While this may be the right approach for some companies to obtain the accurate information they need, the need for constant updates can push the costs beyond the means of most small and medium-size businesses.
- Partner with a tax automation service: These "as a service" providers can integrate with an existing accounting system and automatically deliver timely and accurate compliance with new and updated government regulations based on access to real industry expertise and the latest changes to tax regulations and codes. With visibility into the calculated tax amounts and the specific rules and rates that factored into the determination, the business can be confident its filings will be complete and accurate. Further, by partnering with such a provider, the business becomes part of a bigger ecosystem and is treated as such by the government.
We all want an improved national and local infrastructure to make our lives—and operating our businesses—easier and safer. But given today's economic realities, funding those improvements will probably lead to even more excise tax complexity. Since noncompliance is not an option, businesses (and their advisers) should take the time now to understand how their business might be affected by the changes and what the best approach will be for getting accurate and up-to-date information moving forward.
John Beaty is the general manager for Excise at Avalara, a global tax technology solution provider focusing on indirect tax determination and compliance. He has over 22 years of process technology consulting experience in the petroleum industry and 30 years of team development and organizational leadership covering a wide range of international business consulting including adapting global ERP solutions to meet regional and local requirements.