by Dr. Roy Cordato
Senior Economist, Emeritas
North Carolina has a sales tax, right? A sales tax is supposed to tax the final sale of goods and services and only the final sales. But the fact is that our sales tax applies not only to final sales but also to business to business sales–that is to sales from one stage of production to another, which causes what is known as a cascading effect, leading to a tax rate on final sales that is actually higher than the statutory sales tax rate. From Investopedia.com here’s how it works.
A tax that is levied on a good at each stage of the production process up to the point of being sold to the final consumer. A cascade tax is a type of turnover tax with each successive transfer being taxed inclusive of any previous cascade taxes being levied. Because each successive turnovers includes the taxes of all previous turnovers, the end tax amount will be greater than the cascade tax rate.
Cascade tax can create higher tax revenues compared to a single stage tax, because tax is imposed on top of tax.
For example, a government levies a 2% cascade tax on all goods produced and distributed. A company sells $1,000 worth of stone for a tax-inclusive price of $1,020 ($1000 + 2% cascade tax) to an artist. The artist makes a sculpture out of the stone and wants to make $2,000 when he sells it to an art dealer, so he adds this figure to what he paid for the stone to get $3,020, and then adds on the cascade tax to bring the total to get $3,080 ($3020 + 2%). The art dealer wants to make $5,000 for the sculpture, adding this to $3,080 for a pre-tax $8,080. She then adds the 2% cascade tax for a total price of $8,242. The government collected taxes of $242, which is actually a rate of 3.025% ($242/$8,000).
Maybe instead of trying to find ways of extending the sales tax to services the more important fix that the tax needs is to get rid of this cascading effect by abolishing the tax for business-to-business sales.