TAX NEWS - June 2010

Canada Tax: Tax break for Canadians could hammer Whatcom County governments

Local governments in Whatcom County reacted with shock Tuesday, June 8, to an announcement from the Washington Department of Revenue that British Columbia residents will soon be entitled to an exemption from state and local sales taxes on merchandise.

Bellingham Mayor Dan Pike said the impact of the tax change is uncertain. On Wednesday, June 9, earlier estimates were being revised downward, but Pike said the annual loss to the city still appears likely to be in the $400,000 to $800,000 range-more than enough to have a potential impact on the services that sales tax revenues pay for.

The city got $16.2 million in sales tax revenue last year. Whatcom County got $12.5 million.

It appears that nobody in local government had any idea that such a thing could happen until the Department of Revenue issued a brief press release Tuesday afternoon announcing the change: Beginning July 1, B.C. residents can claim the exemption from the 8.5 percent combined state and local sales tax by flashing a driver's license or other proof of residency at the register.

"Everyone was caught flat-footed," Pike said.

The tax exemption is linked to changes in the taxation system in British Columbia. On July 1, the province is scheduled to drop its federal goods and services tax and provincial sales tax in favor of a combined "harmonized sales tax" or HST. As Department of Revenue attorneys interpret Washington state law, that change will qualify B.C. residents for a sales tax exemption originally put in place to encourage Oregonians to shop in Clark County.

Pike noted that the new tax system is drawing some furious opposition in British Columbia, and if a grassroots referendum process there succeeds in overturning it, the revenue problem for local governments might disappear. He said the state should have waited on political events north of the border before issuing its ruling.

Department of Revenue spokesman Mike Gowrylow said the new exemption for B.C. residents is the result of two factors: the 1965 law meant to benefit Clark County merchants, and a change in the tax system in British Columbia.

The 1965 law says that people whose home states or provinces have a sales tax of 3 percent or less are entitled to a sales tax exemption when they shop in Washington.

British Columbia's provincial sales tax is now 7 percent, and the federal GST adds another 5 percent. But as Revenue's attorneys see it, the new HST - despite its name - is actually a value-added tax, not a sales tax.

Pike was skeptical.

"My question is, how can a harmonized sales tax not be a sales tax?" he asked.

Dewey Desler, the county's deputy administrator, said the county's own attorneys would review Revenue's ruling and would challenge it if possible.

"We do get some crazy interpretations that come out of the cubicles in Olympia," Desler said. "It's actually ludicrous to have our tax policy set by foreign governments."

The ruling from Revenue also was an unpleasant surprise for Blaine City Manager Gary Tomsic.

"This is incredible," Tomsic said in an e-mail. "The impact on Blaine will be very significant."

The exemption affects only goods purchased for use in Canada. B.C. residents still will have to pay sales tax on such things as haircuts, oil changes, motel bills and restaurant meals. That helps to make it difficult to calculate the potential impact.

Hart Hodges, director of the Center for Economic and Business Research at Western Washington University, said he's in the process of completing a new survey to estimate what percentage of Whatcom County retail sales come from British Columbia. But an earlier survey, six or seven years old, suggested that as much as 10 percent of local retail sales may be to Canadians.

"What happens if we take a 10 percent hit in sales tax revenues?" Hodges asked.

Nothing good, Desler said.

"Last year we dropped a half million in sales tax revenue as it is," Desler said. "If it were another five or six hundred thousand, it would really start to hurt."

The Whatcom Transportation Authority might feel the most pain. The county and its cities collect substantial amounts of property taxes and other revenues that won't be affected, but more than 85 percent of the countywide bus system's revenue comes from sales taxes. WTA recently failed to convince county voters to approve a sales tax increase to avoid service cuts in the face of slumping retail sales amid the severe recession.

Nobody at WTA was immediately available for comment late Tuesday.

The new sales tax exemption is looming at a time when Canadian shopping appears to be on the upswing thanks to a strong Canadian dollar.

Curt Grady, store manager at DeWaard and Bode, said he's noticed a significant increase in Canadian interest in his store's appliance and electronics merchandise, although he declined to offer a percentage estimate.

A sales tax exemption would amount to an 8.5 percent price cut for Grady's B.C. customers, and he said that would likely be a boon for him and other retailers. The increased traffic could generate other tax revenues that might make up for some portion of the losses to local governments.

Ken Oplinger, president of the Bellingham/Whatcom Chamber of Commerce and Industry, said the sales tax exemption might be good news for many local retailers who want to attract more B.C. customers. But he also observed that it might make it harder to encourage local governments to agree to big-box stores and other retail growth, since local governments would see less economic benefit from the retail sector if B.C. shoppers pay no sales tax.

Estimates of the sales tax impact on the City of Bellingham and information about Canada's tax system was updated June 9, 2010.