I’ve
criticized the city of Los Angeles for the way it treats businesses. It
says it wants companies to call the city home, then it all but cudgels,
kicks and chases businesses out of town.
But I must admit that I’m pleased
to see a proposal from Councilmen Richard Alarcon and Greig Smith that,
if passed, may be a modest help to lure businesses to the city or allow
them to get started.
The proposal would temporarily
expand the waiver on the gross receipts tax on businesses. Basically,
new businesses or ones that relocated to Los Angeles would not have to
pay the tax for three years.
The measure is accompanied by a
study from Charles Swenson, a professor at USC’s Marshall School of
Business. The report says the exemption would modestly spur job growth,
creating perhaps 55,000 jobs eventually, and result in a small increase
in city tax revenue.
The reason for the job growth is easy enough to understand – that would result from businesses that moved or got started here.
The reason for the increase in city
tax revenue may be a little trickier to understand, at least for those
who don’t grasp the dynamic effect that tax policy has on the real
world. That is, if the new exemption results in a net increase in
companies that get rooted here, then the multiplier effect would kick
in. Those new companies and their employees would buy at least some of
their goods and services from other local companies. And that increased
economic activity will generate tax income for the city.
In other words, if the city would cut the tax, the city would get more tax revenue.
This is an old principle, of
course, and it’s been proved accurate a number of times. What’s amazing
is that at least some members of the City Council seem willing to
understand and accept that premise. The usual response from elected
types around here is "We need money. Let’s raise taxes." So it’s good
to see at least a couple of councilmen say, "We need money. Let’s cut
taxes to help business locate here and grow."
The issue may come before the council in a month or so. Now let’s see if the entire City Council gets that.
Actually, the idea of giving the
break to incoming and startup businesses is particularly good. That’s
because the gross receipts tax is onerous for young businesses as the
tax is on revenue, not profits – and profit margins are usually slim
for new businesses.
Swenson’s report provides a good
hypothetical. The tax rate varies, depending on the type of business,
but let’s say a business pays a gross receipts tax of $4 per $1,000 in
revenue. A well-established business with a nice 10 percent profit
margin will pay a tax equal to only 4 percent of its profits, or $4 for
every $100 in profits. No big whoop.
But if that same business is young
and makes only a 1 percent profit margin, suddenly the tax is 40
percent of its profits, or $4 for every $10 in profits. That’s huge,
and it’s enough to make many young-and-struggling business operators
look outside of Los Angeles to start or relocate a business.
And that business would have many
options where to plant its flag. As Swenson noted, gross receipts taxes
are not assessed by many cities; San Francisco and Santa Monica are
about the only other California cities with substantial ones.
Actually, the city’s gross receipts
tax does more than impede startups. It can hurt established businesses.
You may recall within the past year how some companies that sell over
the Internet were upset with their gross receipts tax classification
and threatened to move out of Los Angeles until the city lightened up
on them.
Cities fight to lure businesses,
and L.A.’s gross receipts tax puts the city at a decided disadvantage
in that competition. This may be a good opportunity for the city to
show some courage and do another study – one that looks at the effect
of rolling back or even killing the gross receipts tax and maybe some
other taxes. A proposal that’s not so modest but bold.
Such a study may show what some
elected people here seemed so unwilling in the past to accept: If done
right, a big cut in tax rates can lead to a much more attractive and
far healthier business climate. And that, in turn, could lead to an
increase in tax revenue.