What Is Gross Receipts Tax?
A gross receipts tax is a tax levied on the total gross revenues of a business, encompassing all income sources without allowing deductions for business expenses or costs of goods sold. This form of taxation is distinct from other business taxes, such as a corporate income tax which is applied to net profit. It applies across all business activities, including sales and services, and impacts the overall revenue of firms, regardless of their profit margin. Gross receipts taxes are part of the broader category of public finance and are a method governments use to generate revenue.
History and Origin
Gross receipts taxes, also historically known as "turnover taxes," have a long lineage, with origins traced back to medieval economies in France and Spain as early as the 13th and 14th centuries. In the United States, these taxes gained significant traction during the Great Depression in the late 1920s and 1930s. States sought stable revenue sources to offset declining tax bases and a collapse in state finances, leading many to adopt gross receipts taxes. For example, Washington state enacted its Business and Occupation (B&O) Tax, a form of gross receipts tax, in 1933.17
While many states repealed these taxes over time due to their economic drawbacks, some, like Ohio, adopted them more recently. Ohio implemented its Commercial Activity Tax (CAT) in 2005, a business privilege tax measured by gross receipts, which replaced the corporate franchise tax and the tangible personal property tax.16 Texas also revamped its franchise tax in 2006 to include a gross receipts component, aiming to secure more stable funding for public education.15,14
Key Takeaways
- A gross receipts tax is levied on a business's total revenue, before deductions for expenses.
- It differs from a sales tax, which is typically imposed on the consumer at the point of sale.
- This tax can lead to "tax pyramiding," where the same economic value is taxed multiple times throughout a supply chain.
- Several U.S. states currently implement some form of a gross receipts tax, including Delaware, Nevada, Ohio, Oregon, Tennessee, Texas, and Washington.13
- Critics argue that gross receipts taxes can distort economic decisions and disproportionately affect low-margin businesses.
Formula and Calculation
The calculation for a gross receipts tax is generally straightforward: a specified tax rate is applied directly to a business's total gross receipts.
Where:
- Gross Receipts refers to the total amount of money a business receives from all sources during a given period, including sales of goods and services, without any deduction for the cost of doing business.
- Tax Rate is the percentage set by the taxing authority (state or local government) for the gross receipts tax. Rates can vary by industry or business activity.
For businesses operating in multiple jurisdictions, the calculation may involve an apportionment formula to determine the portion of total gross receipts subject to tax in a specific state.
Interpreting the Gross Receipts Tax
Interpreting the gross receipts tax primarily involves understanding its impact on a business's financial health and pricing strategies. Unlike income taxes that are contingent on profitability, a gross receipts tax is due even if a business operates at a net loss. This means the tax directly reduces a firm's cash flow, as it must be paid on all revenue generated.
Businesses often factor the gross receipts tax into their pricing, effectively passing a portion of the tax burden onto consumers through higher prices. This can make the true tax burden less transparent to the end consumer. For example, Hawaii's General Excise Tax (GET), a form of gross receipts tax, can be visibly passed on to customers. The impact on different industries can vary significantly; industries with high volumes and low profitability may find the gross receipts tax particularly burdensome, as it taxes their top-line revenue without considering their narrow margins. Businesses must carefully manage their liquidity to ensure they can meet their tax obligations.
Hypothetical Example
Consider "Alpha Manufacturing," a company producing widgets. In a state with a 0.5% gross receipts tax, Alpha Manufacturing has the following financial activity in a quarter:
- Total sales of widgets: $1,000,000
- Cost of raw materials: $700,000
- Operating expenses: $200,000
- Net profit: $100,000
To calculate the gross receipts tax, the tax rate is applied directly to the total sales:
Gross Receipts Tax = $1,000,000 (Gross Receipts) × 0.005 (0.5% Tax Rate) = $5,000
Even though Alpha Manufacturing's net profit was $100,000, the gross receipts tax is calculated solely on the $1,000,000 in gross receipts. This $5,000 would be owed to the state, impacting Alpha's final earnings. This illustrates how the tax is levied regardless of the business's underlying expenses or ultimate profitability, distinguishing it from taxes based on net income.
Practical Applications
Gross receipts taxes are primarily a tool for state and local governments to generate a broad and stable stream of revenue. They are applied across a wide array of industries and business entity types, including retailers, service providers, and manufacturers. For instance, Ohio's Commercial Activity Tax (CAT) applies to most business types and forms, regardless of whether the business is located within or outside the state, provided it has sufficient business contacts (or nexus) with Ohio.,12
11
These taxes are often viewed by policymakers as simpler to administer and more resistant to economic downturns compared to corporate income taxes, as they are based on gross sales rather than fluctuating profits. States like Delaware, Nevada, Oregon, and Washington utilize gross receipts taxes as a significant component of their state revenue, sometimes in conjunction with or even in lieu of traditional corporate income taxes. For example, Tennessee has one of the lowest gross receipts tax rates, at 0.02 percent. 10Businesses operating across state lines must determine their tax obligations in each state where they have economic activity subject to such taxes.
Limitations and Criticisms
Despite their administrative simplicity and revenue-generating potential, gross receipts taxes face significant criticism from economists and tax policy experts. A primary concern is "tax pyramiding," where the tax is applied repeatedly at each stage of production and distribution in a value chain. This results in the same economic value being taxed multiple times as goods or services move from raw materials to finished products. 9This effect can significantly increase the effective tax rate on a final product, making it less transparent to consumers who ultimately bear much of the cost.
8
Tax pyramiding can also distort business decisions. It can incentivize businesses to vertically integrate (i.e., produce more components in-house rather than purchasing from external suppliers) to avoid repeated taxation on intermediate transactions. 7This can reduce economic efficiency by discouraging specialization. Furthermore, gross receipts taxes disproportionately impact businesses with low profit margins or those requiring many intermediate transactions, as the tax is applied to gross revenue regardless of the cost structure. This can hinder the competitiveness of such firms and may even lead to businesses relocating to jurisdictions without such taxes. Some states, including Indiana, New Jersey, Kentucky, and Michigan, have repealed their gross receipts taxes after experiencing negative economic effects.
6
Gross Receipts Tax vs. Sales Tax
While both the gross receipts tax and the sales tax are taxes on commercial transactions, their fundamental application differs.
| Feature | Gross Receipts Tax | Sales Tax |
|---|---|---|
| Taxed Entity | Levied on the seller (business) | Nominally levied on the buyer (consumer) |
| Tax Base | Total gross revenues of the business | Price of tangible goods or services sold to the final consumer |
| Deductions | Generally allows few to no deductions for expenses | Typically applied to the final sale price, with specific exemptions |
| Visibility | Usually built into the product/service price, less visible to consumer | Often listed separately on invoices, visible to consumer |
| Pyramiding Effect | Prone to tax pyramiding (taxed at multiple stages) | Generally avoids pyramiding (applied at final consumption) |
The key distinction lies in who is nominally responsible for the tax and when it is applied. A gross receipts tax is a direct business tax on revenue, whereas a sales tax is a consumption tax collected by the seller from the buyer. 5This difference impacts business financial planning and the overall tax burden passed on to consumers.
FAQs
Q: Which states have a gross receipts tax?
A: As of recent data, states with statewide gross receipts taxes include Delaware, Nevada, Ohio, Oregon, Tennessee, Texas, and Washington. Some cities or localities may also impose their own gross receipts taxes.,4
3
Q: Is a gross receipts tax the same as a sales tax?
A: No, they are not the same. A gross receipts tax is levied on the business's total revenue, while a sales tax is imposed on the consumer at the point of final sale for goods and some services. The business pays the gross receipts tax, whereas the consumer pays the sales tax to the business, which then remits it to the government.
2
Q: Why do some states use a gross receipts tax?
A: States may use a gross receipts tax because it can provide a broad and stable source of revenue for government budgets. Its simple calculation based on total revenue can also make it appear easier to administer compared to more complex income-based taxes. It's considered a reliable tax base that is less volatile than corporate profits.
Q: What is "tax pyramiding"?
A: Tax pyramiding occurs when a gross receipts tax is applied repeatedly at various stages of a product's creation and distribution. For example, raw materials are taxed, then components made from those materials are taxed, and finally, the finished product sold to the consumer is taxed. This means the same underlying economic value is taxed multiple times, increasing the final price.1