Maryland Governor Martin O'Malley signed a temporary income tax increase on millionaires this week to make up a portion of the revenue lost by the repeal of a recently passed 6 percent sales tax on computer services that had not yet taken effect. Originally intended to be part of a service tax increase on about six different services, the computer services tax ended up being singled out after its lobbying presence was demonstrated to be much weaker than that of the other services legislators were thinking about taxing. That quickly changed as the sector set up a formidable lobbying presence in only a matter of months.
Though the tax on millionaires is a more progressive option than the computer services tax, this story ultimately has to worry those who appreciate the merits of expanding the sales tax to include services. What lessons can be learned from this failed attempt to carry out a much needed expansion of Maryland's sales tax base?
The failure of this service tax may have been a result of its narrow scope. By going after only one type of service, rather than trying to comprehensively expand the base as Hawaii, New Mexico, and South Dakota have done, Maryland set its sights too low. The debate was focused on an issue much less important than the broader issue of taxing the state's enormous and growing service sector. The position of tax fairness advocates was weakened as a result of this narrowing of the debate. By focusing on only one type of service, advocates of the tax were also left vulnerable to criticisms that they were unfairly singling out certain businesses to pay more. And even if Maryland had succeeded in expanding the sales tax base to include computer services, it would ultimately be only a small step towards the bigger goal of modernizing the sales tax base.
Fortunately for Marylanders, though, the progressive income tax change the legislature enacted was much better than most alternatives. But it certainly would have been nice to get the ball rolling on service taxation in Maryland.