Isle businesses
to ring in year
with tax breaks

New laws are expected to help
reduce costs and attract more
outside investments

By Bruce Dunford
Associated Press

Starting Saturday, Hawaii businesses will see the first part of a key tax break that will be phased in over the next six years.

It's intended to cut costs to consumers, make Hawaii more business-friendly in hopes of attracting more outside investments and boost the state's economy.

The new law eliminates the pyramiding of the state's 4 percent general excise tax on services, treating those services the same as tangible goods -- food, clothing, toys, TVs and personal computers, for example -- which are taxed at 0.5 percent when sold at wholesale and 4 percent at retail.

"Because the general excise tax does not allow for the intermediary sale of services, the pyramiding effect of the general excise tax has become a large burden on business and the public," says the law, which takes effect Jan. 1. "The pyramiding effect of the general excise tax and the use tax significantly increases the cost of goods and services to consumers."

Lowell Kalapa, president of the Tax Foundation of Hawaii, a business-oriented tax research organization, cited the example of a hotel that hires an outside company to stage a luau for its guests. That company, in turn, hires a caterer of Hawaiian food, musicians and dancers.

Under the existing law, each party pays a 4 percent tax on its gross proceeds from providing its services.

Under the new law, only the hotel pays the full 4 percent on the amount it charges the guest -- the final consumer of the luau services. That tax probably will be added to the guest's luau bill. The luau company, musicians and dance troupe would pay the lesser "wholesale" tax on the gross amount they receive for their share of the services that made up the luau experience.

The law's first phase drops the excise tax on intermediate services from 4 percent to 3.5 percent. It then drops a half-percentage point each year until Jan. 1, 2006, when it reaches 0.5 percent.

The first phase will reduce annual state revenues by about $8 million. After 2006, annual revenues will be reduced by $120 million to $150 million, or 5 percent of the total state general fund income, according to the Department of Taxation.

Another new law intended to enhance Hawaii's business climate exempts local businesses from paying the 4 percent excise tax on services performed out of the state -- as an example, an architect with a building contract in Hong Kong. The same law, however, imposes the 4 percent excise tax on out-of-state businesses performing services in Hawaii. Lost revenues from exported services will be recovered from taxing imported services, tax officials said.