Recently, Governor Kim Reynolds (R) of Iowa signed a bill removing the state’s sales tax on aircraft parts and on the labor to maintain and repair aircraft. This is just the latest in a series of reforms enacted by Iowa legislators to improve their tax code, making it more conducive to economic growth and job creation.
Iowa lawmakers have done much this year and in previous years to improve the Hawkeye State’s tax environment. The tax reform package enacted earlier will bring Iowa’s top income tax rate from 8.53% to a flat 3.9% over the course of four years. As Senate Ways & Means Chairman Dan Dawson noted, “it makes no sense for Iowa to have a tax environment that ultimately sends graduates out of state” when the state spends millions on education and training. The reforms enacted by Governor Reynolds, Senate Majority Leader Jack Whitver, Chairman Dawson, and their colleagues will enable more people to stay in Iowa while enticing more people and employers to move in.
While some may overlook the recent repeal of the sales tax for aircraft parts and labor as a relatively minor development or niche tax policy change, it highlights broader principles and important lessons that can be applied in other states.
As lawmakers in more states consider sales tax base broadening proposals as a way to facilitate income tax rate reduction and other forms of tax relief, the recent tax cut in Iowa serves as a reminder that there are some things that should remain outside the tax base, even in the context of tax reform that results in net tax reduction. In the race to reduce income taxes, states are often tempted to offset the lost revenue by expanding sales taxes to more goods and services. However, as state lawmakers weigh tax code overhauls that involve expansion of the sales tax base, they would do well to avoid taxing business inputs. By exempting business inputs like labor and aircraft parts, Iowa lawmakers smartly put an end to state taxation of such inputs.
Business inputs are broadly defined as the resources used by companies and firms to create goods and services. When the government taxes these, it results in various negative behaviors and outcomes concerning efficiency, competitiveness, simplicity, and equity. Taxation of business inputs also leads to a phenomenon known as tax pyramiding, whereby a product is taxed multiple times along the production process. This only leads to arbitrarily different levels of taxation on different products, ultimately resulting in higher and less transparent taxation on the end consumer.
Americans for Tax Reform applauds the tax relief approved by Iowa lawmakers in recent months and years. The changes made by Governor Reynolds and Iowa legislators have reduced taxes across the board, brought down an onerous top income tax rate, and made the state tax code more competitive. As states across the nation mull over tax reform packages involving reducing rates and broadening bases, they should work to achieve net tax decreases and be mindful to avoid taxation of business inputs. Americans for Tax Reform commends the wisdom of the Iowa Legislature and encourages other states to follow their lead.