I would like to broaden the debate about the BPT a bit and explain why, from a progressive point of view, it is not a good tax.
But, before I get to that, however, let me make four preliminary points about the BPT and economic development and explain why I would not vote to reduce the BPT except as part of a package of economic development programs and tax reforms.
1. I do think that reducing business taxes is one way to create more businesses and jobs in Philadelphia. But it is not the only way or the best way. To understand why, you have to grasp that we have two economic development problems in the city. The first has to do with reviving commercial corridors. This is critical to creating jobs for our many citizens who have not attended college. Reducing the net profits part of the BPT will accomplish nothing for this first problem because the cost of doing business in our distressed commercial districts is already pretty low. Eliminating the gross receipts part of the BPT will help because it will make it easier for new businesses particularly in their first few years, when profits are likely to be low. If we really want to help commercial corridors, however, we have to reduce crime in these areas, make start-up capital and business advice available to new locally owned businesses, recruit new businesses to them; improve streetscapes; create nearby parking and recreation centers; advertise commercial areas and so forth. In other words, we have to recognize that we can’t improve commercial corridors by looking at them as a collection of individual businesses. We have to understand that what makes a commercial corridor work is that there are a number of good businesses in one location and that there are public amenities that make them attractive places to shop.
Business tax reductions might help more in bringing leading edge businesses—in medicine, law, hardware and software, architecture, pharmaceuticals and so forth—to the city. These businesses will provide the jobs that we for our many college graduates who want to stay in Philadelphia. Again, tax reductions are not the only important factor. We need to improve education, especially in the high schools, because leading edge businesses also need well trained technical and support staff. But taxes do matter to businesses that can locate anywhere in the region. (Most of the evidence that says taxes don’t matter much when businesses decide where to locate point to international and inter-regional location decisions. When it comes to intra-regional location decisions, the extreme difference in business tax rates between the city and the suburbs probably does matter.)
2. While business tax reductions will help the economy in the long term, I think it will take awhile. The econometric evidence that points to a rapid increase in business growth after the BPT is reduced is misleading. We have to remember that there were many other factors besides taxes that lead businesses to leave in the 60s and 70s—racism, red-lining, interstate highway construction, low inetc. The whole spirit of the time was to leave urban areas. Many white, middle income people had their bags packed, waiting to leave the city. We would like to believe that the reverse is true now and everyone wants to come back to the city. But while I hope that will become true soon, we are not yet close to a reversal of the situation we faced in the 60s and 70s.
3. The econometric studies that show that reducing the BPT will not lead to tax revenue losses suppose that property values and thus property taxes will increase as businesses and residents move into the city. If that happens without some means of protecting low income residents from massive property tax increases, the net effect of BPT reductions will be much greater inequality in the city. That is unacceptable.
4. So, even though I have argued that reducing the BPT will help bring businesses to the city and will point out below that the BPT is a lousy tax from a progressive point of view, if given a choice only between reducing the BPT and keeping it at present levels, I will vote on council against reducing it. We can’t afford to lose revenues when we need to spend more money on education and crime reduction, and when health care costs are going through the roof and we have massive unfunded pension liabilities.
However, if reducing the BPT is part of a larger program that includes raising other less job-killing progressive taxes, protecting low income residents from property tax increase, and investments in other business creation strategies such as commercial corridor investments and more resources for education, I would vote for it. Here’s why:
The BPT sounds like a progressive tax. We progressives want to tax businesses and capital, right? The problem however is that no one is exactly sure who pays the BPT (and all other business taxes). Thirty years ago I spent much of a semester with a left wing economist studying what economists call tax incidence—who taxes really fall on. And at the end of the semester I concluded that, in all likelihood, taxes like the BPT are not progressive taxes at all. I have followed the literature since and have seen nothing to change my mind.
There are two reasons for reaching this conclusion.
The first is that some businesses can pass business taxes on to their customers. When they do so, the BPT becomes equivalent to a sales tax.
Not all businesses can pass the BPT on to their customers. Those that can do so have one of three features. (1) They produce goods which people pretty much have to buy—in technical terms, the demand for these goods is inelastic. Food, basic shelter, clothing, and medicine are examples. Because we have to buy these goods, we don’t have much choice about buying less of them when businesses pass the BPT on to us. But people who sell goods that we don’t have to buy—say comic books—cannot pass the tax in the form of higher costs because people will simply buy fewer comic books.
(2) They produce goods that are almost always bought locally from businesses all of which pay the business tax. Again food, clothing, and medicine are examples. Almost everyone in the city buys food and medicine from businesses that are located in the city. Unless we live near the borders of the city, we are not likely to go outside it in order to find a grocery store that does not pay the BPT. Nor do many of us buy food, clothing, and medicine on the internet. So, city owned stores can pass the tax on to us.
(3) They sell goods to people who cannot easily buy outside the city. This would be true for people who do not own cars—and can’t easily shop in the suburbs—or who do not own computers and cannot buy goods on the internet.
If you look at the goods that fall under the first two categories, you will see that food, clothing, and medicine fall in both of them. Computers, cars, furniture do not. People with low incomes spend a much higher percentage of their income on the goods that fall into these first two categories. And the people who cannot easily buy outside the city are also likely to be those with low incomes.
I conclude, then, that the BPT is often just a hidden sales tax, and one that is much more regressive then the regular sales tax. The regular sales tax in Pennsylvania exempts food, clothing, and medicine and it taxes all classes of people the same. But the BPT is likely to tax food, clothing, and medicine at higher rates than other goods and it falls particularly heavily on people with low incomes. (This is one reason for the oft-noted phenomena that prices for many good are higher in poor areas than rich areas.)
Second, the BPT is an unfair and partly regressive tax because it hits medium size businesses harder than small or large businesses. I have just argued that many small businesses—and some large ones, like Acme—can pass on the tax to their customers because they mostly serve a local clientele. Some very large companies like Sunoco can’t pass the tax along to consumers. But they can arrange their books so that their subsidiaries in jurisdictions with low business taxes make high profits and their subsidiaries in Philadelphia make low profits. It was precisely this problem that lead to the introduction of the much hated gross receipts tax.
So the BPT is likely to be a tax on capital for businesses that are not large enough to shift profits outside of Philadelphia, that sell goods with an elastic demand, and that compete with businesses outside the city. At the very least, I’d have to say that taxing such businesses but not others is pretty haphazard at best. At worst, it is likely to be regressive with some small and medium size businesses paying the tax at high rates while large businesses pay at low rates.
My point is not that we should never tax capital. We most certainly should. But we should do it in ways that are progressive and not likely to reduce jobs and businesses in the city. Here are two possibilities. We could transform our wage tax into a tax on income, which includes dividends and interest. This has to be investigated in some detail because we don’t know whether this would hurt senior citizens with low incomes. We could mitigate that problem if we finally removed the uniformity clause from our state constitution and made our wage or income tax progressive.
The second way to tax capital is to do what many cities do around the country, tax commercial property at much higher rates than residential property. Doing so would bring in substantial revenues with very little impact on where businesses locate. This, too, would require overturning the uniformity clause.