Sales-Tax-Free Purchases on Amazon Are a Thing of the Past for Most

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One of the main arguments used against efforts to crack down on online sales tax evasion just got a little bit weaker.  For years, e-retailers have been claiming that state and local sales tax laws are too complicated for them to bother complying with.  But Amazon.com’s decision to begin collecting sales taxes in Ohio last week belies that claim.

Effective June 1, Amazon is now collecting sales taxes in fully half the states that are collectively home to over 247 million people, or 77 percent of the country’s population.  In other words, more than three out of every four Americans now live in a state where Amazon willingly collects the sales taxes its customers owe.

 

In the shrinking number of states where Amazon is still refusing to collect the tax, the problem is clearly not that Amazon is incapable of participating in the sales tax system.  Instead, the company thinks it can retain a competitive advantage over mom and pop shops, and other brick-and-mortar stores, by continuing to offer its customers an avenue to evade state and local sales taxes.  And in at least half a dozen states (Arkansas, Colorado, Maine, Missouri, Rhode Island, and Vermont), Amazon has gone out of its way to preserve this advantage by cutting ties with local advertisers in order to dodge state-specific requirements that it collect sales tax.

As we’ve noted before, Congress could address this inequity quite simply if it were able to overcome its current gridlock and pass the Marketplace Fairness Act or similar legislation.  But until that happens, state sales tax enforcement as it applies to purchases made over the Internet will remain an inefficient and unfair patchwork. 

State Rundown 6/8: Compromise and Defeat

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As legislative sessions across the country enter the final stretch, many states are buzzing with activity around tax policy. Lawmakers in Kansas and Maine are still working on behind-the-scenes negotiations aimed at resolving differences around major tax deals, while Ohio and North Carolina lawmakers are expected to release budgets with more personal income tax cuts (on top of the cuts enacted in recent years). Meanwhile, Alabama, Minnesota, Florida and Illinois are headed into special sessions to tackle thorny budget and tax issues and, in some cases, enduring budget shortfalls. 

Iowa lawmakers reached a budget compromise last week, ending a stalemate that took the state legislature a week beyond its expected adjournment. The debate centered on how to spend a budget surplus. Republican legislators were reluctant to increase spending on ongoing expenses using one-time money, while Democratic legislators and Gov. Terry Branstad wanted to use the surplus to invest in education and human services. The deal includes a 1.25 percent increase in K-12 spending next fiscal year as well as $55 million in one-time expenditures for public schools this fiscal year. In all, the budget next fiscal year will increase by about $299 million.

Rhode Island lawmakers are considering various tax breaks, among them proposals to exempt retirement income from the personal income tax. State Rep. Robert Craven has proposed exempting all state, local and federal retirement income, including Social Security and military pensions paid to those 65 and older, from state income taxation. Craven argues that the measure will keep retirees from moving out of state, though research shows that retirees don’t move for tax reasons. Critics of the plan argue that most of the benefits would go to wealthier citizens. Gov. Gina Raimondo has proposed a more targeted retirement income exemption that would fully exempt Social Security income from taxation for single filers with annual household incomes of $50,000 or less and married filers making $60,000 or less.  House Speaker Nicholas Mattiello supports a similar approach, although married couples earning $100,000 or less ($80,000 for singles) would be exempt from paying taxes on Social Security under his plan. The speaker also supports raising the state EITC to 12.5 percent of the federal credit, an improvement but less than the 15 percent proposal included in Gov. Gina Raimondo’s budget.

Louisiana legislators narrowly rejected a bill that would have doubled the state’s Earned Income Tax Credit (EITC) from 3.5 to 7 percent of the federal credit. If enacted, the change would have benefitted 515,000 Louisianans every year. So far this year, lawmakers in the state have approved or extended a variety of credits for business owners and corporations. One state representative called the EITC “essentially welfare written into the tax code” and sought to do away with the credit altogether. Other representatives rebuked their colleagues for doing nothing to help working families in the state, noting that Louisiana has a starkly regressive tax system.

 

States Ending Session This Week:
Louisiana

 

A “Patent Box” Would Be a Huge Step Back for Corporate Tax Reform

June 4, 2015 02:39 PM | | Bookmark and Share

Read the report as a PDF.

What would you think about a corporate income tax regime under which the bigger a company’s profit margin, the lower its tax rate? Or a system that applies a special low tax rate to profits from selling products on which a company enjoys a legal monopoly? Or partial tax exemptions for companies with well-known brand names?

Such odd tax schemes and variants thereof have recently become popular among lawmakers in many European countries. [1] Now big American companies are calling for the same special tax breaks in the United States. And, unfortunately, some politicians are suggesting that they’d be willing to oblige.

Sens. Chuck Schumer (D-NY) and Rob Portman (R-OH) are driving an effort to pass legislation allowing corporate profits gleaned from intellectual property (trademarks, patents, etc.) to be taxed at a lower rate than other profits. Known as a “patent box”, proponents claim this tax break would encourage corporations to locate research jobs to the United States and promote higher economic growth and innovation. But a close examination of the details reveals that, in practice, this would be yet another revenue-losing corporate giveaway that doesn’t live up to its promise. Further, it would forego critical revenue that could otherwise be used to fund the real basic research that businesses aren’t keen to invest in due to financial risks and the lag time before research investments become profitable.

This paper describes some of the reasons a “patent box” is a bad policy idea.

Background

Patent and copyright laws allow innovators and creators to enjoy the fruits of their work for a fixed period, which is not only fair but also makes good economic sense because it provides an incentive for inventors who know they have legal protections over the product they spent time creating. In fact, these laws are so sensible that they were authorized in the original U.S. Constitution.[2]

In 1954, Congress attempted to create additional economic incentive for investments in research and enacted an income tax subsidy for business research that produces innovative products. Section 174 of the tax code provides an exception to the normal tax rules for business investments. It allows businesses to write off research expenses immediately and thus provides them with a generous tax benefit.[3] According to the legislative history of section 174, a primary goal of the tax break, as the Congressional Research Service has explained, is “to encourage firms (especially smaller ones) to invest more in R&D.” Yet, CRS points out, “The main beneficiaries of the section 174 deduction are larger manufacturing corporations primarily engaged in developing, producing, and selling technically advanced products.”[4]

The effect of expensing research alone is excessively generous, yet corporate lobbyists continued to push for more tax breaks. In 1981, corporations persuaded Congress and President Reagan to add a tax credit for business research on top of breaks received under Section 174. The result is that the profits from research are now taxed at a negative effective tax rate.

From its inception, the research credit has been heavily abused. Congress intended the law to apply to basic scientific research that would benefit businesses that performed the research and society as a whole. But businesses quickly began claiming the credit for product development activities that have nothing to do with the credit’s ostensible goals.[5]

Time has passed, and now even a significantly negative tax rate on profits that stem from “research” does not fully satisfy corporate America. So companies are now lobbying for a patent box, a loophole that would make the effective tax rate on research profits even more negative.

A patent box is wholly unnecessary and a bad policy choice.

1. The creation of a patent box in the U.S. would be extremely expensive and open a new loophole in the corporate tax code.

The ostensible goal of revenue-neutral corporate tax reform is to pay for a lower statutory corporate tax rate by eliminating corporate tax breaks and loopholes. Creating a patent box is anathema to this goal as it would simply establish another special interest tax break.

While the Joint Committee on Taxation (JCT) has not scored a patent box regime, a former Ways and Means Committee analyst predicted that a patent box could cost “hundreds of billions” over a decade in lost revenue.[6] A key driver of its large cost is the difficulty in narrowly defining income attributable to intellectual property, especially since the incentive that companies would have to lobby for an expansive patent box definition and to redefine as much of their income as possible as to meet the definition. Lawmakers find it nearly impossible to agree on enough tax base-broadening measures to lower the corporate rate to their intended target of 25 or 28 percent, so it’s difficult to conceive that they would be able to find even more in base broadening measures to pay for another enormous new tax break.

2. The U.S. tax code already has extremely generous incentives for companies that perform research.

While the U.S. does not have a patent box, it already provides many billions in tax incentives to corporations for research activities. The tax code allows companies to immediately deduct the cost of investments in research and it gives companies the research and experimentation credit, which provides a tax credit for research performed over a base level. Taken together these credits can push the effective tax rate on research-generated profits to less than zero. Each year these tax incentives already provide around $13 billion in tax incentives for research activities.

While the research deduction and credit are in need of substantial reform or repeal, most experts agree that even the seriously flawed research credit is actually a superior approach than a patent box to incentivize research. [7] Tax analyst Martin Sullivan points out that a patent box would be more “costly to administer” than the research credit because it would require identifying income earned from research, which is “an order of magnitude more difficult than identifying research spending itself.” In addition, a patent box is less targeted because it may require subsidizing old as well as new research due to difficulties in separating income from these sources.[8] Similarly, a patent box is less targeted because it may subsidize non-research expenditures, such as marketing, related to the generation of intellectual property income.[9]

Enacting a patent box regime on top of existing tax breaks for research would result in companies paying an even lower negative tax rate and would create a tax shelter ripe for abuse.[10]

3. Patent box regimes are already promoting a damaging global tax race to the bottom. The United States should not follow suit.

The alleged urgency behind the legislative push to adopt a patent box is that the United States will be at a competitive disadvantage compared to countries that have put this policy into place. One problem with this argument is that it assumes that taxes are the only or primary factor in multinational corporations’ decisions about where to locate their research activities. In reality, corporations are much more concerned with an educated workforce, strong infrastructure and a robust legal system to protect their intellectual property, all of which require adequate tax revenue to support.

The best way to encourage companies to keep research jobs in the United States would be to end their ability to defer paying taxes on their foreign income.[11] Ending deferral would make it so that income booked in foreign countries by U.S. corporations, even in countries with a patent box or in zero-tax tax havens, do not receive preferable tax treatment compared to equivalent income booked in the United States.

4. Corporate tax breaks reduce revenue that could be used to directly fund research and innovation.

The 2012 fiscal cliff deal cut federally funded research by $26 billion in 2015 compared to its 2010 level.[12] If lawmakers want to boost research and innovation, the most straightforward way to do so would be to expand direct research funding by the federal government. This approach would avoid the problem of subsidies for “research” has little or nothing to do with real scientific advances. Federally funded research is typically much more beneficial than profit-driven corporate research because it allows companies to focus on broadly beneficial research that may take years or even decades to generate profits.

While Congress has cut federal research funding in recent years to lower the deficit, corporations have not been asked to give up generous tax breaks to contribute to deficit reduction. Instead, corporations and their congressional allies continually cite the nation’s 35 percent corporate tax rate as reason for “reform” and more tax breaks. But that is a ruse. U.S. corporate tax collections as a percent of GDP are already close to the lowest in the developed world,[13] and on average large, profitable corporations pay about half the statutory tax rate.[14] Congress should close loopholes and raise more revenue from corporations.[15] If Congress’s priority is research and innovation, it could use the revenue raised from corporations to undo the cuts in federal research spending enacted in recent years.

 


[1] Joint Committee on Taxation, Present Law and Selected Policy Issues in the U.S. Taxation of Cross-Border Income. https://www.jct.gov/publications.html?func=startdown&id=4742

[2] “The Congress shall have Power … To promote the Progress of Science and useful Arts, by securing for limited Times to Authors and Inventors the exclusive Right to their respective Writings and Discoveries.” “The Constitution of the United States,” Article 1, Section 8 (1787).

[3] Congressional Research Service, “Tax Expenditures: Compendium of Background Material on Individual Provisions,” Committee on the Budget United States Senate, 111th Congress 2d Session, S. PRT. 111–58 (Dec. 2010), p.85. “[E]xpensing has the effect of taxing the returns to an asset at a marginal effective rate of zero, which is to say that it equalizes the after-tax and pre-tax rates of return for an investment.”

[4] Ibid.

[5] Citizens for Tax Justice, Reform the Research Tax Credit — Or Let It Die. http://ctj.org/ctjreports/2013/12/reform_the_research_tax_credit_–_or_let_it_die.php

[6] Alex Parker, Patent Box Becoming Main ‘Focus’ of Congressional Tax Debate, GOP Aide Says, Bloomberg BNA. http://news.bna.com/dtln/DTLNWB/split_display.adp?fedfid=68316311&vname=dtrnot&wsn=494381000&searchid=25136808&doctypeid=1&type=date&mode=doc&split=0&scm=DTLNWB&pg=0

[7] Citizens for Tax Justice, Reform the Research Tax Credit — Or Let It Die. http://ctj.org/ctjreports/2013/12/reform_the_research_tax_credit_–_or_let_it_die.php

[8] Martin Sullivan, Time for a U.S. Patent Box?, Tax Notes. December 12, 2011.

[9] Joint Committee on Taxation, Economic Growth and Tax Policy. https://www.jct.gov/publications.html?func=startdown&id=4736

[10] Michael J. Graetz and Rachael Doud, Technological Innovation, International Competition, and the Challenges of International Income Taxation, Columbia Law Review. October 1, 2012.

[11] Citizens for Tax Justice, Congress Should End “Deferral” Rather than Adopt a “Territorial” Tax System. http://ctj.org/ctjreports/2011/03/congress_should_end_deferral_rather_than_adopt_a_territorial_tax_system.php

[12] American Association for the Advancement of Science, Historical Trends in Federal R&D. http://www.aaas.org/page/historical-trends-federal-rd

[13] Citizens for Tax Justice, The U.S. Collects Lower Level of Corporate Taxes Than Most Developed Countries. http://ctj.org/ctjreports/2015/04/the_us_collects_lower_level_of_corporate_taxes_than_most_developed_countries.php

[14] Citizens for Tax Justice, Sorry State of Corporate Taxes. http://www.ctj.org/corporatetaxdodgers/sorrystateofcorptaxes.php

[15] Citizens for Tax Justice, Revenue-Positive Reform of the Corporate Income Tax. https://ctj.sfo2.digitaloceanspaces.com/pdf/corporatetaxreform.pdf


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Rick Perry Supports a Federal Tax System Akin to Texas’s Regressive Tax System

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If his 2012 presidential campaign is any indication, former Texas Gov. Rick Perry will continue making a pitch in his 2016 presidential campaign for regressive tax policies and cuts in essential public services to fund tax breaks for the wealthy and corporations.

During his 2012 presidential campaign, Perry proposed to replace the individual income tax with a flat tax, at a rate of 20 percent. According to an analysis by Citizens for Tax Justice (CTJ), Perry’s flat tax plan would have cut taxes by an average of $272,730 annually for the top 1 percent of Americans, while reducing taxes by an average of $1,000 for those in the middle 20 percent.

This regressive tax plan would have exploded the deficit by $10.5 trillion in its first decade. While Perry did spell out some ill-advised program cuts, he never explained how he could possibly pay for a full $10.5 trillion in tax cuts.

Perry’s 2012 flat tax plan was essentially a call to replace our current federal tax system with something like the regressive and revenue-starved tax system already in place in Texas. That would be a boon for wealthy people at the expense of the vast majority of Americans.

His regressive federal tax proposals aren’t surprising based on his record as a three-term governor of Texas. During that time, Perry repeatedly demonstrated his support for tax cuts for the rich, even when it would mean tax increases—or reductions in public services—for low- and middle-income families.

High-Tax Texas

One of Perry’s biggest talking points is touting Texas’s low taxes. In reality, however, Texas taxes are only low for the state’s wealthiest residents. According to the Institute on Taxation and Economic Policy (ITEP), the wealthiest one percent of Texans pay only 2.9 percent of their income in state taxes on average. In contrast, the bottom 20 percent of taxpayers pay, on average, as much as 12.5 percent of their income in state taxes, meaning they pay a rate that is four times higher than the state’s richest residents. Because of this, Texas’s tax system is one of the most regressive in the entire nation. For low-income families, Texas is actually the 7th highest tax state in the country.

While Texas’s tax system is tough on lower-income taxpayers, it’s a haven for businesses seeking corporate tax breaks and other handouts. A 2012 analysis using data from Good Jobs First found that Texas gives more special tax incentives for business, totaling around $19 billion annually, than any other state in the country. In other words, Perry is more than happy to let working families pick up the tab for billions in tax breaks for big corporations.

Building on this, Perry has worked in recent years to ensure that Texas and its local governments are perpetually unable to raise adequate revenue to provide funding for critical public services. For example, in 2012, Perry campaigned around Texas calling on lawmakers to sign his Texas Budget Compact, which included promising to oppose any new taxes or tax increases, as well as setting a constitutional limit on spending increases. In addition, he fought to tighten the state’s already debilitating property tax cap, a policy that would have made it even more difficult for local governments to adequately fund education.

Perry’s record on taxes is nothing to brag about. As a presidential candidate in 2016, he is likely to continue making the same pitch for the benefits of regressive tax cuts and reductions in essential government investments. Such policies are only good for  corporations and an elite sliver of the population.

Kansas Considers Tax Hikes on the Poor to Address Budget Mess

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It’s been clear for more than a year that Kansas must make significant policy changes to address its severe budget shortfall. Now, legislative developments are moving quickly as Gov. Sam Brownback and lawmakers try to hammer out a plan to plug the budget gap, but so far proposals on the table would make Kansas’s already regressive tax code even more so.

On Saturday, Gov. Brownback unveiled (a second) tax proposal to fix the state’s fiscal mess, AKA a $400 million shortfall. The governor’s latest plan cuts income tax rates, changes how itemized deductions are taxed, includes a vague low-income exemption and raises both the sales tax and the cigarette tax.

“The latest proposal is asking the Kansas Legislature to repeat 2012 mistakes, proposing dramatic changes to the Kansas tax code without identifying specific statutory changes or data to show the impact those changes will have,” Annie McKay, executive director of the Kansas Center for Economic Growth said in a statement.

By now, it’s no secret that that much of this fiscal mess has its roots in the governor’s own top-heavy, unaffordable tax cuts passed in 2012 and 2013. Perhaps the copious and damaging press over the last several years around the governor’s tax cuts for the wealthy are the impetus behind Brownback’s claim that 388,000 people will not have to pay income taxes under his new plan. While ITEP hasn’t yet evaluated whether this claim is true,  an initial ITEP analysis of Brownback’s plan found that his proposal results in an average net tax hike for Kansans in the bottom 40 percent of the income distribution due in part to higher  sales and other regressive excise taxes.

As our analyses have repeatedly shown, Gov. Brownback’s 2012 and 2013 tax cuts disproportionately benefited the wealthy, collectively cost the state more than $1 billion and actually raised taxes overall on average for the bottom 20 percent of Kansans.

 

State Rundown 6/2: Things Fall Apart

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This week looks like an active one for states that are entering the final stretches of their legislative sessions. Stay tuned to the State Rundown for updates on the tax policy battles happening across the country.

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Bipartisan negotiations in Maine over the scope of proposed comprehensive tax reform failed this weekend after Republican lawmakers in the House and Senate remained deeply divided and a Democratic counterproposal to Gov. Paul LePage’s plan failed to gain traction. State leaders announced that they’ve reached a tentative budget deal that would include no new income tax cuts over the biennium, but as a trade-off would allow a proposed constitutional amendment requiring a two-thirds legislative supermajority to enact new income tax increases to be put before state voters. The plan would also allow the sales tax rate to revert back to 5 percent from a temporary increase to 5.5 percent on schedule (note: this should not be perceived as a tax cut as many commentators have suggested). Republican leaders in the House are vowing to oppose any budget plan that does not include the welfare reform or income tax cuts championed by Gov. LePage in his original proposal. As of now, the compromise budget will fail to be enacted unless is draws enough House Republican support to override Gov. LePage’s certain veto.

Republican leaders in Kansas remain deadlocked over a plan to close the state’s big budget shortfall, despite warnings from government officials that state workers would be furloughed by the end of the week without a deal. Legislators are divided over how to close the projected $406 million gap; some want to roll back Gov. Sam Brownback’s exemption of business pass-through income for business owners and farmers, while others want to rely on increased sales and excise taxes. Meanwhile, Gov. Brownback unveiled a plan on Saturday that would protect his business income exemption but eliminate income taxes for low-income individuals in response to criticisms that his previously enacted tax cuts shift income taxes from employers to their employees. A preliminary ITEP analysis of the governor’s plan found that on average, Kansans in the bottom 40 percent would pay more.

Texas’s legislative session ended on Monday, with lawmakers passing new tax cuts in addition to the tax changes enacted last week. The first change, a $10,000 increase in the homestead exemption for property taxes, has been described as “the least-worst way to under-invest,” as the homestead exemption is spread evenly across taxpayers and the bill will replace local property tax revenue with more state aid to schools. For more on why homestead exemptions can be a good policy option, check out this ITEP brief. The second change, a cut in the business franchise tax rate of 25 percent, will cost the state $2.6 billion in revenue in a way that decidedly favors the wealthy and corporations.

In a welcome development, Nevada Gov. Brian Sandoval gained legislative approval of $1.3 billion in new revenue to fund improvements in public education, despite strong opposition from conservative lawmakers in the Republican-dominated legislature. Sandoval’s tax package, which he is expected to sign this week, will increase the business license fee and the payroll tax, extend some tax measures that were to sunset this year, and implement a new Commerce Tax on gross business revenue that falls more heavily on capital-intensive businesses. Altogether, the measures add up to the biggest one-time tax increase in state history. The new revenue will increase education funding, expand services to the poor, and provide for special education and statewide full-day kindergarten. 

States Ending Legislative Session This Week:
Nevada
Texas
Connecticut
Iowa

Oregon’s Per-Mile Tax Contains Glaring Flaws

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On July 1, up to 5,000 Oregon residents can sign up for a program that indefinitely exempts them from the state’s gasoline tax.  Instead, these drivers will pay a flat 1.5-cent tax on each mile that they drive.

On one level, the logic behind this experiment is sound.  As electric cars and highly efficient cars become more popular, consumers need to buy less gasoline to go the same distances.  The result is less collected in per-gallon gasoline taxes, and less resources to fund maintenance and enhancements to the transportation network.  Oregon’s per-mile-tax experiment is designed to address this emerging issue.

But the plan has fundamental problems. In the short-term, this program will be a boon to the 1,500 gas guzzler owners lucky enough to score a spot in the experiment. Thirty-percent of the slots in the program can go to vehicles that get less than 17 miles per gallon, a provision intended to avoid significant revenue losses.  Toyota Prius owners, by contrast, are likely to be more hesitant to volunteer since the Oregon Department of Transportation estimates that doing so would cost them $117 in additional taxes per year.  This imbalance is a big part of the reason that just 24 percent (PDF) of people support an Oregon-style per-mile tax that does not take vehicle emissions into account.  After rewarding SUV owners and penalizing Prius owners, the net result will be a system that collects roughly the same amount of revenue overall as the current gasoline tax.

But this is not the only problematic aspect of Oregon’s pay-per-mile experiment.  Incredibly, this new tax includes the same design flaw that has plagued the state’s gasoline tax for almost a century: a stagnant, fixed tax rate that is incapable of keeping pace with inflation.

Oregon, like many other states, has recently been having trouble raising enough revenues to maintain and expand its transportation network.  Much of this trouble can be traced back to the design of the state’s gasoline tax, which cannot keep pace with the growing cost of asphalt, machinery, and other construction inputs because it is levied at a flat per-gallon rate of 30 cents per gallon.  Increasingly, states have been moving away from this “fixed-rate” model in favor of smarter, variable-rate taxes tied to inflation or other factors.

But rather than adopt this reform, Oregon lawmakers have overlooked inflation entirely and have opted to launch an experiment aimed at dealing with increasing fuel-efficiency.  The problem with this approach is that fuel-efficiency’s impact on the budget is a longer-term issue that has yet to rival inflation in terms of its practical effect.  When ITEP last examined this topic, we concluded that “construction cost growth has been 3.5 times more important than fuel-efficiency gains in eroding the purchasing power of the gas tax.”

In this light, Oregon lawmakers’ decision to launch a major pay-per-mile experiment is nothing short of bizarre.  If transportation revenue sustainability is their chief concern, indexing the gas tax rate to inflation would go much farther toward addressing this problem, and would do so much more quickly and at much less expense to taxpayers.

Once that reform is enacted, there would be a stronger case to be made that a pay-per-mile tax experiment should be conducted to prepare for the coming popularity of electric cars and highly efficient vehicles.  But even then, lawmakers will still need to be mindful of inflation.  As we explained in our 2014 report on this subject : “Lawmakers interested in adequately funding transportation on an ongoing basis should immediately index their gas tax rates to inflation, and should be aware that such indexing will also be needed under any [pay-per-mile] tax they might enact.”

As things currently stand, Oregon’s 1.5-cent-per-mile tax is exactly as vulnerable to inflation as its 30-cent-per-gallon gas tax.  Despite the hype, this experiment isn’t the leap forward in transportation funding sustainability that Oregon needs right now.