Higher prices forecast

But average take-home pay
will also rise, experts say

By Rob Perez
Star-Bulletin

If the state task force's controversial plan to boost the economy is approved, only time will tell whether the reforms do the job.

But there's one thing the plan almost certainly will boost: consumer prices.

Economists, retailers and others predict Hawaii prices for goods and some services will rise if the Economic Revitalization Task Force's recommendation to increase the general excise tax by 34 percent takes hold.

But the panel expects the increase in the excise tax to be more than offset by an initial 30 percent reduction - growing to 40 percent in the third year - in personal income tax rates.

Even as prices go up, state officials say, increases in workers' take-home pay (due to less taxes being withheld from paychecks) will more than make up for the higher prices.

The bottom line, according to the task force, is that every Hawaii taxpayer will come out ahead under the revitalization plan.

It just may not seem that way each time you go to the supermarket or mall.

Raising the current 4 percent excise tax to 5.35 percent generally will result in higher prices - even after factoring in the reduction in the tax's so-called pyramiding effect that the task force is proposing, retailers say.

"All increases in costs are passed right on down the line," said Jan Berman, president of Retail Merchants of Hawaii.

David Higashiyama, marketing vice president for Times Super Market Ltd., agreed: "I'm sure (prices) will go up."

The size of the increases likely would vary by industry and product, by how competitive the market is and by how effective the pyramiding-reducing provision proves to be, experts say.

"If buyers are very sensitive to price increases, it may be very difficult to pass all of that along," said University of Hawaii economics professor Jim Mak.

Economic consultant David Ramsour believes the expected price increases could prompt people to curtail their spending.

If consumption slows enough, retailers may be forced to lower prices to entice consumers back to the registers, Ramsour said.

And if today's disinflationary factors - such as falling rents and land values - still exist when the tax changes take effect, the actual effect of the price increases could be negligible beyond the first few months, he said.

"I don't see the total cost of living being any higher," Ramsour said. "It could even be lower."

The dynamics of pricing are particularly complicated because the excise tax is applied at virtually all levels of transactions, creating the pyramiding effect.

But the task force is proposing to reduce a chunk of that pyramiding by paring the rate to 0.5 percent for wholesale service transactions, the same rate currently afforded transactions involving wholesale goods.

The wholesale-services change would result in about $158 million in less revenue annually to the government, according to the task force.

It would work something like this:

If a lawyer hires an accountant to help with a legal brief for a client, the amount the accountant charges the lawyer would be taxed at the 0.5 percent rate - not the current 4 percent rate.

If that savings is passed to the consumer, the cost of the lawyer's services would be adjusted accordingly. But the overall cost to the consumer would then be taxed at the 5.35 percent rate.

If that same lawyer hires an accountant to do the law firm's annual tax returns, that transaction would be taxed at the higher rate because the accountant's service is consumed by the lawyer, not resold to the client, according to Ray Kamikawa, director of the Department of Taxation.

"This will bring in a lot more transactions" at the lower rate, Kamikawa said.

'A difficult tax'

But figuring which transactions would be subject to the lower tax won't be easy, especially given the overlapping nature of services and the complexities of an excise tax.

"It's a difficult tax to administer and it's a difficult tax for many taxpayers to easily understand and comply with," said Miki Okumura, a local tax attorney.

That makes it harder to predict how prices for services will fare under the task force proposal.

State economists say services most affected by pyramiding stand to benefit the most from the proposed changes, even to the extent that prices may be lowered.

But others question whether the pyramiding provision will have much effect.

"The impact of pyramiding was never that great to begin with," said UH's Mak.

Certified public accountant Bill Wong, who runs a Big Island accounting firm, said less than 1 percent of his firm's revenue would qualify for the 0.5 percent rate under the task force plan.

Wong was on the committee that recommended to the task force that pyramiding be eliminated by exempting all but final (retail) sales of goods and services. The recommendation essentially called for adoption of a pure sales tax.

The task force proposal stops well short of that.

"We cannot cut costs of doing business in Hawaii without completely eliminating the pyramiding," Wong said.

One consolation - at least for residents - of the plan to raise the excise tax is that it shifts more of the payment burden to tourists.

The state estimates that 20 percent to 25 percent of the revenue collected from the excise tax is paid by visitors.

But depending on how prices are affected, the tax increase could further fuel criticism that Hawaii is too costly a place to visit, tourism officials say.

Another group that could suffer from the excise tax increase is the poor. Low-income people typically pay a greater percentage of their budgets on excise taxes because most of their income goes to buying goods and services.

Other income groups tend to have more discretionary income and more diverse budgets, including investments, mortgages or other items not subject to the tax.

Critics have blasted the task force plan because they claim the poor would pay higher prices and more excise taxes but not benefit from the income-tax reductions.

The state says that isn't so.

Because of two low-income tax-credits included in the task force package, even the poor will come out ahead, the state says.

A family of four with taxable income of $10,000, for example, pays an estimated $767 annually in income and general excise taxes under current rates, according to the Department of Business, Economic Development and Tourism.

Under the first two years of the task force plan, that total would drop to $596 annually - a 22 percent savings, the agency said.

In the third year, the family's tax liability would fall even further to $574, the department said.

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Full text of the Governor's
Economic Task Force recommendations.