Kansas Sales Tax Reform Options

Madam Chair and Members of the Committee:

Thank you for the opportunity to testify on HCR5014.

My name is Katherine Loughead, and I am a Senior Policy Analyst & Research Manager at the Tax Foundation.

The Tax Foundation is a nonprofit, nonpartisan, tax policy research organization based in Washington, DC. For the last 87 years, we have been working to advance sound tax policy at the state, federal, and international levels.

The Tax Foundation does not take a position on legislation, but I appreciate the opportunity to provide some information on this subject matter that I hope will be helpful as you consider this proposal.

To start, some of the ideas contained within this resolution have merit and could be worth considering. However, I have several strong concerns about various provisions as currently drafted, so I would like to take this opportunity to propose potential solutions.

First, it’s important to understand the underlying goals of this resolution. Ultimately, HCR5014 seeks to create what is essentially a state-run endowment fund to finance the eventual elimination of multiple taxes, including the tangible personal property taxA property tax is primarily levied on immovable property like land and buildings, as well as on tangible personal property that is movable, like vehicles and equipment. Property taxes are the single largest source of state and local revenue in the U.S. and help fund schools, roads, police, and other services. on motor vehicles (as proposed in a possible draft amendment to the resolution), state-levied and state-mandated property taxes (but not local property taxes), and the individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source, corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax., and state privilege taxes. Once these taxes are eliminated, the proposed constitutional amendment would prohibit similar taxes from being levied in the future. The principal deposited into the so-called “freedom from taxes fund” would come from modernizing the state’s sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding.  base by eliminating various sales tax exemptions.

Of these goals, the goal of reducing reliance on income taxes is particularly worthwhile. While all taxes create economic drag, some taxes are much more economically harmful and distortionary than others, so it is important to prioritize the most economically harmful taxes for reduction or elimination.

There is a large body of economic literature showing income taxes to be more of an impediment to economic growth and location decisions than well-structured sales or property taxes.[1] Income taxes fall on savings and investment and reduce the capacity for future consumption, while well-structured sales taxes are much more economically neutral.[2] When it comes to the corporate income tax, it is important to keep in mind that corporate income tax burdens are borne by workers in the form of lower wages, consumers in the form of higher prices, and investors in the form of lower returns on investment. When it comes to the individual income tax, year after year, states with no income tax—or with a low, flat individual income tax rate—outperform their peers in attracting new residents from other states.[3] The Kansas Legislature therefore has an opportunity to help foster greater economic growth in the state by rebalancing the tax code away from taxes on productivity and toward less harmful taxes on consumption.

Another goal of this resolution is to broaden the sales tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. by eliminating various sales tax exemptions and depositing the additional revenue into a “freedom from taxes fund” so the interest that accrues in that fund can be used to eliminate various taxes. Modernizing the sales tax base is a worthwhile goal and has long been something we have recommended Kansas policymakers work toward, but it is absolutely essential that any sales tax base broadening be done properly.[4] Most economists would tell you that retail sales taxes are designed to be a tax on final personal consumption only, including goods and services, but they should not apply to business-to-business transactions (i.e., business inputs).[5] Taxing business inputs causes harmful tax pyramidingTax pyramiding occurs when the same final good or service is taxed multiple times along the production process. This yields vastly different effective tax rates depending on the length of the supply chain and disproportionately harms low-margin firms. Gross receipts taxes are a prime example of tax pyramiding in action., where taxes are levied at multiple stages of the production process, with much of that tax burden getting passed along to consumers in the form of higher prices. Then, when a consumer pays the sales tax on something they purchase, they are forced to pay a tax on top of the taxes that were embedded in the price of the good or service.

Taxing business inputs would not only raise taxes on Kansans in a nontransparent way, but it would also make Kansas’s sales tax less of a well-structured tax on consumption and more like a poorly designed tax on the factors of production. This would hurt business investment and economic growth in Kansas, which would be counterproductive, since one of the main goals of this resolution is to promote economic growth by eliminating the income tax.

To explain in greater detail why taxing business inputs is problematic, it is important to note that Kansas’s sales tax, like most states’, is destination sourced, meaning it is levied based on the location of the buyer, or where the buyer takes possession of the item, not the location of the seller. That means taxing business inputs would hurt Kansas businesses but not their out-of-state competitors. For example, if Kansas were to apply its sales tax to marketing services, a Kansas business that hires an out-of-state marketing firm to generate a marketing campaign would have to pay sales taxes on the price of those marketing services, but an out-of-state business that hires a Kansas marketing firm to generate a marketing campaign would not have to pay that tax. This would raise costs on the Kansas business but not the out-of-state business, putting the Kansas business at a competitive disadvantage. If many different inputs are taxed or a business relies heavily on any one taxable input, this could influence businesses to move out of Kansas to avoid this competitive disadvantage.

One concern with HCR5014 as currently drafted is that it leaves all existing sales tax exemptions on the table for possible elimination, including exemptions for services and goods that are primarily, or oftentimes, purchased as business inputs. Since increasing taxes on productivity runs counter to the goals of this resolution, sales tax exemptions for business-to-business purchases should not even be on the table for possible elimination, and the only way to guarantee that is by setting those parameters in the underlying resolution.

Separately, it is also important to keep in mind that any expansion of the state sales tax base would automatically affect the local sales tax base as well, since Kansas has a uniform state and local sales tax base. The revenue from expanding the state sales tax base would be deposited into the freedom from taxes fund, but the revenue from expanding the local sales tax base would go to local governments, which they would then likely use to increase local spending unless the state enacts a law to require that additional revenue be used to reduce other local taxes. Policymakers should therefore consider whether this expansion of the local sales tax base with no other parameters surrounding it is a desirable outcome.

This leads me to another concern: that the resolution, as currently drafted, would task an unelected “Kansas citizens freedom review board” with the responsibility of identifying sales tax exemptions for elimination, and any exemptions the board decides to eliminate would be eliminated without an act of the legislature.

While the resolution does specify that the legislature would have the authority to pass legislation after the fact to reverse decisions made by the citizens board, repealing exemptions and then potentially restoring them soon thereafter would create uncertainty for taxpayers, instability in the tax code, and unnecessary turbulence in the policymaking process. This could put legislators in the tough position of having to reverse decisions that the review board makes that are unrealistic or impossible to uphold for legal or structural reasons, or that the legislature disagrees with as a matter of policy.

But more importantly, the legislature should ultimately make any sales tax base broadening decisions because the power to tax is one of the fundamental powers granted to the legislature as an elected, responsive body that is checked by the governor. Authorizing a separate board to change the law would be an abdication of the legislature’s right and responsibility to make the tax policy decisions voters have entrusted to them. Any expansion of the sales tax base should be done carefully and methodically, with the legislature leading this process, and with sufficient opportunity for all legislators and stakeholders to provide their input. If an unelected board is appointed to make these decisions, then tax burdens could shift dramatically with no input from policymakers directly accountable to the people and subject to a legislative code of ethics.

But if policymakers do not wish to abandon the idea of a citizens review board entirely, one alternative could be to have this board serve as an advisory board that issues a report with recommendations to the legislature, with the legislature maintaining the authority to make all decisions about changes to the law.

Additionally, it would be prudent for policymakers to consider adding some basic parameters for the composition of any such review board within the underlying resolution itself, rather than waiting to do so in a future implementation bill after voters have already approved the constitutional amendment. For example, to provide more peace of mind ahead of time, this resolution could require that a certain number of legislators, economists, and other experts be included on the board. This type of structure—something that’s more like an advisory board or a blue-ribbon commission—has substantially more precedent than a board that is authorized to make policymaking decisions outside the legislative process. 

Now, I’d like to move on to the main substance of what this resolution seeks to accomplish, which is to create what is essentially a state-run endowment fund to finance the elimination of various taxes.

The idea of an endowment fund is something that could be worth considering, but I would strongly encourage policymakers to consider phasing down the specified taxes over time instead of waiting until there is enough interest in the fund to eliminate a particular tax altogether. For example, if a law is enacted to eliminate approximately $1 billion worth of sales tax exemptions, that would generate approximately $1 billion in additional revenue that could be transferred to the fund each year as principal. As long as the principal remains inaccessible and a similar amount of revenue is transferred to the fund each year, the amount of interest would continue to grow with the principal, even if most of the interest income is taken out on an annual basis to help phase down various tax rates over time.

Specifically, let’s imagine $1 billion is deposited into the fund after the first year of a broader sales tax base. Assuming a 7.5 percent annual rate of return, this would generate approximately $75 million in interest after the first year of investment, meaning the following year, policymakers could generate $75 million less from various taxes than they would have had to raise otherwise. After the second year of a broader sales tax base and after the second year of investment, assuming all the sales tax base broadening from the previous year remains intact, the state would likely have approximately $2 billion of principal, even if none of the initial interest remains in the fund, since that would have already been used to lower tax rates. That $2 billion would hopefully generate roughly $150 million in interest after the second year of investment, assuming the same rate of return, meaning tax rates for the following year could be lowered even further to generate up to $150 million less in revenue from the state’s taxes than would have been needed otherwise. So, this approach would allow the state to phase out various taxes over time by lowering tax rates incrementally year after year.

It’s also important to consider how the state would want to respond if the market had a tough year and the fund generated less interest than expected. I would encourage policymakers to consider adding some buffer in the proposal so that, for example, only 90 percent of the interest accrued in any one year could be used to reduce tax rates, with the rest specifically retained in the fund to be used to prevent tax rate increases in leaner years.

Phasing down tax rates over time as I have described would be better for taxpayers and better for the economy because individuals and businesses could start benefitting from this proposal almost right away, much sooner than if they were forced to wait until enough interest accrues in the fund to eliminate a tax altogether. This approach would also make any sales tax base broadening more palatable for taxpayers. Understandably, taxpayers may be hesitant to accept paying potentially billions of dollars in additional sales taxes each year if they know they will have to wait many years before they receive any of the promised relief. If taxpayers know some of these tax increases will be offset almost immediately, that may improve the feasibility of the plan. Specifically, phasing down income tax rates over time would kick-start increased in-state investment and economic growth almost immediately, whereas the proposal as currently drafted would delay by decades most of that economic growth, especially if the income tax is the last tax to be eliminated.

Now, I want to turn back to the ultimate goals of this resolution: eliminating the state portion of the property tax, as well as the state’s income and privilege taxes, and potentially first eliminating the state property tax on motor vehicles (as has been proposed in a draft amendment to this resolution). Of these three separate goals, working toward the eventual elimination of the income tax should be the highest priority because income taxes are much more economically damaging than taxes on real property. Of the various sources of revenue state and local governments rely on to fund government services, corporate income taxes have been shown to be the most economically harmful, followed by individual income taxes, then sales taxes, and then property taxes.[6] Therefore, the state wouldn’t get much “bang for the buck” from relying more on sales taxes in order to rely less on real property taxes, especially since property taxes are arguably less economically harmful than sales taxes.

While I can understand why lawmakers would like to remove the state property tax from the books, eliminating the state portion would not do much to reduce administrative burdens since local property taxes would still be levied. Eliminating income taxes, on the other hand, would reduce administrative burdens substantially both for the state and for Kansas taxpayers, since income taxes take a lot of time, effort, and money both to comply with and to enforce—all of which is in addition to the income tax’s more harmful effects on economic growth. Therefore, it would make sense for policymakers to prioritize reducing or even eliminating the state’s income and privilege taxes before turning to other, less economically harmful taxes.

It is important to acknowledge that a draft amendment to this resolution proposes eliminating the tangible personal property tax on motor vehicles before eliminating other taxes, which could make sense because doing so would take a much shorter time to achieve, generating some momentum early in the process. Additionally, working toward the repeal of the motor vehicle tax would be worthwhile because there is far less justification for levying property taxes on tangible personal property like motor vehicles than on real property like land and buildings. While car taxes are more of a nuisance tax than anything, tangible personal property taxes in general are antiquated, distortionary, and discourage in-state investment, so ultimately, Kansas policymakers should consider moving away from tangible personal property taxes altogether.

So, when prioritizing various property taxes to eliminate, policymakers should keep in mind that income taxes are more economically harmful than taxes on real property, but tangible personal property taxes, including the motor vehicle tax, are also worth eliminating. If Kansas does eventually succeed in eliminating the state income tax, I agree it would be worthwhile to enshrine that policy in the state constitution, as this resolution proposes, so future legislatures would have to make a very strong case for restoring the tax if they eventually wish to do so.

Returning to the topic of expanding the sales tax base, it is important to keep in mind that, under the resolution as currently drafted, this would be a type of revenue increase that would come without other short-term benefits until there is enough interest in the fund to eliminate a tax entirely. While the various property taxes would presumably not take long to eliminate, especially if the initial investment is large, the state’s income and privilege taxes would take decades to eliminate, and all the while, Kansans would be paying more in sales taxes year after year than they do now.

Unlike most other types of tax increases, under this plan, the additional revenue from broadening the state sales tax base could not be used for any purpose other than to sit in a fund permanently untouched, generating interest. This reality is probably one of the main reasons this type of idea hasn’t been tested very extensively elsewhere. There is a strong argument that achieving sustainable, long-term reform for generations to come is worth the drawback of paying higher taxes in the short run, but this is only true if the desired outcome is successfully achieved, which means it is critical to get the details right at every step of this process.

One final thing I’d like to mention is that, while this is an interesting idea that could be workable, taking this endowment fund-style approach could be a lot more complex than accomplishing many of these same goals through more traditional methods. Earlier this year, Kansas policymakers demonstrated commendable leadership by finding a responsible way to use excess income tax revenue above an inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spendin-adjusted FY 2024 baseline to phase in a lower, flat individual income tax rate over time, and then to subsequently reduce the state’s corporate income tax and privilege tax rates. That law is well-designed and offers a model for other states to follow. Moving forward, if Kansas policymakers are serious about modernizing the sales tax base, it could be worthwhile to consider adjusting Kansas’s existing tax trigger law slightly so that any inflation-adjusted general fund revenue growth above a specified amount could be used to reduce various taxes over time, starting with the income tax. If all state general fund revenue, rather than income tax revenue only, were the baseline, then any additional revenue that comes in from sales tax base broadening would automatically be used to reduce income and privilege tax rates over time. 

While some of the underlying ideas in HCR5014 certainly have merit, I have serious concerns about some components of this resolution as currently drafted. However, I believe these issues are solvable with the proposed adjustments I have mentioned, if policymakers decide to pursue this option.

In summary, I would encourage policymakers to authorize the legislature, not an unelected board, to make any sales tax base broadening decisions; to take business inputs off the table when it comes to options for sales tax base broadening; and to consider what, if anything, should be done about the fact that the local sales tax base would expand along with the state sales tax base. If this body decides to modify the proposed Kansas citizens freedom review board into more of an advisory board, policymakers should consider creating some parameters for the composition of that board in the underlying resolution to give peace of mind to taxpayers. Additionally, I would strongly encourage policymakers to consider phasing down various tax rates over time, starting with income taxes, instead of waiting until the fund has enough interest to eliminate a tax entirely. Under this type of phasedown design, it could be prudent to create a bit of buffer to ensure tax cuts can be preserved, not reversed, during market downturns. Finally, I would also encourage policymakers to keep in mind that many of the underlying goals of this resolution could be accomplished within the framework of Kansas’s existing triggered tax reduction law if a few modifications are made to that law.

Thank you again for the opportunity to testify, and I would be happy to answer any questions.

[1] See, e.g., Jens Arnold, Bert Brys, Christopher Heady, Åsa Johannsson, Cyrille Schwellnus, and Laura Vartia, “Tax Policy for Economic Recovery and Growth,” The Economic Journal 121:550 (February 2011): F59-F80; Santiago Acosta-Ormaechea and Jiae Yoo, “Tax Composition and Growth: A Broad Cross-Country Perspective,” IMF Working Paper, October 2012; Dagney Faulk, Nalitra Thaiprasert, and Michael Hicks, “The Economic Effects of Replacing the Property Tax with a Sales or Income Tax: A Computable General Equilibrium Approach,” Ball State University, Department of Economics, Working Papers, June 2010; Stephen T. Mark, Therese J. McGuire, and Leslie E. Papke, “The Influence of Taxes on Employment and Population Growth: Evidence From the Washington, D.C. Metropolitan Area,” National Tax Journal 53:1 (2000): 119; and Joseph Bankman and David A. Weisbach, “The Superiority of an Ideal Consumption TaxA consumption tax is typically levied on the purchase of goods or services and is paid directly or indirectly by the consumer in the form of retail sales taxes, excise taxes, tariffs, value-added taxes (VAT), or income taxes where all savings are tax-deductible. over an Ideal Income Tax,” Stanford Law Review 58:5 (April 2010).

[2] William McBride, “What Is the Evidence on Taxes and Growth?,” Tax Foundation Special Report No. 207, Dec. 18, 2012, https://taxfoundation.org/what-evidence-taxes-and-growth/, 4.

[3] See Katherine Loughead, “Americans Moved to Low-Tax States in 2024,” Tax Foundation, Jan. 7, 2025,” https://taxfoundation.org/data/all/state/americans-moving-to-states/, and Andrey Yushkov, “Taxes and Interstate Migration: 2024 Update,” Tax Foundation, Sep. 3, 2024, https://taxfoundation.org/data/all/state/taxes-affect-state-migration-trends-2024/. 

[4] Michael Lucci, Katherine Loughead, Janelle Fritts, and Jared Walczak, Kansas Tax Modernization: A Framework for Stable, Fair, Pro-Growth Reform, Tax Foundation, Dec. 10, 2019, https://taxfoundation.org/research/all/state/kansas-tax-reform/.

[5] Jared Walczak, Modernizing State Sales Taxes: A Policymaker’s Guide, Tax Foundation, Sep. 5, 2024, https://taxfoundation.org/research/all/state/state-sales-tax-reform-guide/.

[6] Jens Matthias Arnold et al., “Tax Policy for Economic Recovery and Growth,” The Economic Journal.