Impact of Lodging & Meals Local Option Taxes

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1 Impact of Lodging & Meals Local Option Taxes Prepared by Harwich Chamber of Commerce March 2010

2 Overview For the past several months the members and board of the Harwich Chamber of Commerce have been engaged in an in-depth study and conversation regarding the proposed Local Option Taxes. With the latest 1.25 percent increase in meals tax, effective August 1, 2009, the proposed additional local option tax of.75 percent would raise the meals tax to 7 percent. The room occupancy tax is now 9.7 percent, with 5.7 percent retained by the state and 4 percent returning to the Town of Harwich. The proposed 2 percent local option room tax would bring this rate to 11.7 percent. The Chamber is aware of the complexity of this issue and the heightened financial stress faced during this down economy by the Town of Harwich and the small business community. HCC is not inherently opposed to taxes and supports the services that make Harwich a good place in which to live, work and play. Our commitment to the Town is part of our mission. We are also aware that sustaining core community services in a down economy and with increasing expenses is a monumental challenge for Town leaders. However, proposing to close the gap in the Town s budget deficit by creating additional taxes for one small segment of the community in this case the lodging and dining businesses -- has significant impact, not only on that segment but also on the larger economic picture, both short term and long term, for the entire community. After careful study, it is our opinion that the proposed local option taxes would not solve the Town s budget issues and are not in the best interest of the small businesses that are the economic engine of the community, the Town s economic development, or the community itself. We oppose these local option taxes, and want to work with the Town of Harwich to find fair and equitable strategies and solutions that will not only mitigate the short term crisis but also help enhance the Town s financial strength for the long term. This report provides some of the data and information which was considered in the decision making process. 1

3 Harwich Room Tax Revenue In FY 09 the Town of Harwich received $456,342 in room tax revenue. In fact, despite the continued erosion of the number of lodging rooms in Harwich, the lodging tax revenue returned to the Town has increased. Why? The average rate for lodging rooms has increased, thereby generating additional tax revenues. By encouraging the retention of lodging businesses and the reinvestment and upgrading of lodging businesses, the room rate and, thus, the returned taxes will increase. Occupancy taxes are often used as a way of exporting the tax burden out of the state or local area. The idea is the others (primarily tourists) pay these taxes and that it has no bearing on anyone else. This stems from the lack of understanding of the link between overnight visitors and local sales, jobs, and taxes. The fact is that many lodging taxes cost government more in lost revenue from sales taxes, income taxes and other levies than they bring in themselves. Harwich s lodging businesses are small, owner-operated properties. It is through their efforts and businesses that Harwich is able to attract visitors, conferences and events that benefit the entire town. According to an independent study, Room Taxes and Economic Impact of the Lodging Industry, prepared by the American Economics Group in June 2008, one of the results of their research is a strong demonstration of how the linkage operates and how much other tax revenue is lost when hotel taxes are set too high. The exception is when tax revenue is used to promote or otherwise increase travel and meetings and thereby augment visitor spending and tax collection. However, it can also be argued that the additional marketing dollars may only get the businesses back to where they were and that additional investment in marketing dollars may not necessarily overcome a consumer s perception that the taxes or total cost are higher than elsewhere. High room taxes can be harmful not only to the lodging industry but to many other businesses in the town imposing them. Restaurant and retail sales, and the number of related jobs spring directly from the spending of overnight visitors staying in hotels and motels. If the consumer elects to go to another community, not only the lodging and dining establishments lose market share, but also the retail shops and galleries, attractions and other destination businesses lose market share. For lodging businesses, the only negotiating tools and flexibility that they have are rate setting and value-added services/perks. If a lodging must reduce or shrink its rates in order to remain competitive with other towns which do not have local option taxes, the businesses lose money out of pocket. In addition to this hardship on specific businesses, the ripple effect is that the town will losing tax revenue that would have been generated on the full rate generated dollars. Encouraging enhanced properties so that capacity can be high and rates can be optimal benefits economic development and revenue to the town. For example, through reinvestment in its property and enhancing its accommodations, Wequassett Resort has been able to increase its rates over the past years, and these increases have meant an increase in the amount of tax revenue being returned to the Town. Wequassett, which is also the town s largest business tax payer, relies heavily on multi-night stays and on events, such as weddings and conferences. Event planners pay close attention to all projected costs, including all taxes and fees, when deciding at which venue to host the activity. The bottom line is key, and the local option taxes on a wedding of 200 people or a three day conference for 100 people with lodging and meals is significant. 2

4 Meal Tax Revenue Harwich has approximately 31 eating establishments and is fast becoming known as the dining center of the region. The proposed.75 percent meal tax increase comes on the heels of a 1.25 percent increase which was voted by the State last year and became effective August 1, If the proposed LOT tax goes into effect, that would mean a 40% tax increase in less than one year. Margins in the restaurant business are very tight, and restaurants especially have felt the effects of the recession. Harwich is becoming known as a dining destination community, and the spill benefits to other businesses, such as shops and galleries, is real. One could argue that the tax is so little that it would have little or no impact on the business. However, nickels and dimes (and quarters and dollars) add up over time and are felt by not only people on fixed incomes, as many of Harwich s residents are, but also by businesses and individuals planning events. As with the lodging rate situation, if businesses need to shrink their prices in order to retain market share, it will result in both money out of pocket for the businesses and decreased taxes for the town. The Town of Harwich benefits when local restaurants grow, succeed and pay taxes. This is an important part of our economic development. Summary Instituting permanent local option taxes is not a solution for a temporary economic recession. This is a slippery slope, suggesting that core services and general budget deficits should be funded by taxes on selective businesses or other small segments of the community. Local option taxes do not promote or enhance economic development. They discourage it. If these taxes are passed, the primary burden of balancing the general budget, which provides the community core services, will be on the backs of approximately 50 small businesses who are already feeling the strain of the recession. This is not fair or equitable. Harwich s identity and brand as a destination community should be encouraged. Putting lodging and dining businesses at a market disadvantage with competitors from towns not adopting the taxes will not only hurt the businesses but also the town. Harwich s lodging tax revenue has increased in recent years, despite loss of rooms, because of the increase in room rates made possible by upgrading and enhancing accommodations. This should be encouraged so that additional revenues can be generated. It is from Harwich s attraction as a destination that people decide to buy homes (primary, retirement and second/other) and live, work and play here. The perception that Harwich is more expensive or that it imposes more taxes and fees than surrounding towns will damage the town s reputation. Research shows that lodging and meals taxes negatively impact other small businesses which also rely on visitors, as well as the businesses that provide services and products to the lodging and dining industry. 3

5 The number of rooms in Harwich has declined significantly over the past 15 years, and at least two lodgings are for sale at this time. The lodging tax will add one more burden to a struggling industry. The meals tax will be born by residents and visitors. However the year round residents who sustain the restaurants during the winter are often on modest income. They will notice any addition on a tax rate that already increased in August Decisions on where to hold conferences, events and weddings are sensitive to fees and taxes. Clients/customers have options in the region. Harwich is promoting itself as an event and wedding destination. These taxes will negatively impact the businesses that cater to this important market which generates significant revenue for the Town. While we recognize the need of the town to provide appropriate core services, the unemployment rate in the private sector is over 10 percent. Additional strain on small businesses may inhibit hiring. Recommendation The Harwich Chamber of Commerce believes that the proposed lodging and meals tax proposals unfairly singles out specific businesses to generate revenue for the Town of Harwich s general fund and would have a significant negative impact on these businesses and the local economy. The Harwich Chamber of Commerce opposes these taxes and would recommend not taking any further steps in this regard. The Chamber is anxious to work with the town to find solutions to the short term and long term financial needs of the Town of Harwich. 4

6 Background Data and Additional Information Local Town Government Revenue Policy As cited by Ian J. Allan in The Government Finance Officers Association s Research Bulletin, Evaluating Alternative Revenue Sources (January 1992): Local governments continue to operate in a difficult fiscal environment made worse by the effects of an economic recession. Of increasing concern to many finance officers is the drop in revenues from economically sensitive sources that has led to budget shortfalls and deficits. The financial difficulties encountered by state governments has led to cutbacks in state aid to localities and compounded the problems faced by local governments. While reductions in spending can be a part of the solution to the fiscal problems of local governments, many have found that expenditure demands have increased during the current recession. As a result of this situation, many local governments are considering the adoption of alternative sources of revenue to bolster sagging collections. This task has been made more difficult by tax revolts in some areas that have made it increasingly problematical for local governments to raise needed revenues through the use of the real property tax. (It could be argued that the current recession and down economy is significantly deeper and has had more impact that the 1992 downturn. Thus, the strain on local governments and on local businesses is even greater.) Revenue policy, in its simplest form, represents the set of decisions made regarding the raising of revenues to fund the operations of town government, and is reflected in the taxes, fees and user charges imposed within the town. Ideally, revenue policy will reflect the town s fundamental values, such as the desire to ensure that the living standards of the elderly and/or low-income homeowners are not adversely affected by rising residential property values and property tax bills. In reality, state restrictions on local revenue-raising authority can sometimes prevent revenue policy from fully reflecting these fundamental values. Options are often proposed as a means of defusing fiscal needs. For example, at the present time a national economic crisis is forcing many local governments to review and revise their existing revenue structures in order to generate sufficient funds to meet growing expenditure demands. It is important to consider the state of the local economy when evaluating revenue policy. Of particular importance is an examination of relevant economic and demographic trends. Such trend analysis will help to provide the framework for any redesign of revenue policy, can lead to a greater understanding of the environment in which budgetary policy operates, and enable a more practical evaluation of revenue alternatives, including a better understanding of the revenue potential of different options. As Harwich considers these local option taxes, the need for and pursuit of additional revenue may create inequities in the tax burden that must be addressed. 5

7 Economic Neutrality As noted in Revenue Diversification: State and Local Travel Taxes, issued by the Advisory Commission on Intergovernmental Relations (April 1994): The US Travel Data Center in its Economic Review of Travel in America, noted that state and local governments are trying to balance their budgets in part by raising taxes on travel-related businesses and tourism activities. The center argued that the rush to tax travel and tourism more heavily violates an important principle of sound taxation, namely to avoid interfering with the market and distorting economic excess burdens on certain individuals. Again quoting Ian Allan s report: The tax and revenue system should maintain economic neutrality, promoting growth and the efficient allocation of the economy s resources. The goal here is to minimize unintentional interference with private economic decisions in the process of raising needed revenues. Harwich s revenue policy affects the business climate and economic development efforts. Policy makers need to take into consideration how the current revenue structure affects the economy and how the proposed local option taxes may hinder future economic activity, as well as taking into account the interaction between taxation and economic activity when considering instituting the local option tax. Harwich is in competition with other Cape towns, especially for tourism/visitors, and works to create a healthy business climate in order to both attract business to Harwich and discourage business from going to other towns. Local option taxes can create the perception of less value, thus negatively impacting potential customers responses. In a visitor survey conducted within the past three years, more than 95 percent of responding visitors indicated that they would like to return to Harwich. If the perception is that Harwich does not provide the value of neighboring communities, visitors may chose to vacation in another town. A more balanced tax and revenue system and may ultimately be of greater benefit to local residents and enhance economic development efforts. Equity This criterion is concerned with the effect that a local option tax will have on equity among individual taxpayers. The question to answer is: Who bears the burden of the tax? The distribution of the tax burden and the benefits of public services should be equitable. A local hotel/motel local option tax and a local meals tax option places the burden of revenue generation on two specific industries in Harwich. The misconception that this is a pass through tax that is paid by tourists and has no impact on the business is not supported by research. A total of 17 Harwich lodging businesses offering at least 4 rooms with a total of 367 guest rooms and approximately 35 restaurants would be expected to carry the burden of this additional tax that would in turn be used for the benefit of the entire town population. Just because the state has given local municipalities this option does not mean it is an equitable and fair option, and Harwich needs to examine the fairness of targeting two industries to generate revenue for general budget shortcomings. 6

8 Economic Impact The full economic impact of hotel guests begins with their direct spending on rooms and related hotel goods and services. Other items include food and beverages, transportation, shopping, amusements. In an earlier section of this paper, it was suggested that room taxes are often imposed as a way of exporting the tax burden to guests from distant places, outside of the local voting arena. This thinking is misguided as can be demonstrated by examining the local economic impact of overnight visitors. By knowing the sales, jobs and income guests create, it is possible to estimate the loss should guests come less frequently, stay fewer nights and spend less money locally---not only in hotels, but also in restaurants, stores, and entertainment. Since guests pay higher hotel taxes, they spend less in hotels (staying fewer nights), restaurants, stores, and entertainment. These establishments then purchase fewer supplies and services from their suppliers who in turn demand less from their suppliers and pay less to their employees. A ripple effect follows through the town, and the negative impact reaches all sectors of the economy. A 1-2% increase in the room tax would cost jobs, wages, benefits, and sales. Meanwhile, the resulting gain in net revenue from the higher tax would be less than one-half the tax increase. Econometric analysis reveals that on average, a 2% increase in the combined tax on hotel and motel rooms (increasing the rate from 9.7% to 11.7%) will cause a reduction in room sales and associated visitor spending per year. The effect will spill over to every sector of the economy. The negative impact of room taxes can be mitigated, even turned positive, if they are used for travel promotion. A number of markets designate a portion of room tax to support visitor bureaus, travel advertising and other activities aimed at increasing travel and tourism. (Source: Room Taxes and Economic Impact of the Lodging Industry. Prepared by American Economics Group. June 2008) Can the effect be mitigated? Possibly for the town. However, the individual businesses that need to lower their rates to remain competitive will still generate less gross income in other words, less money into their pocket. Money that they use to support their families, invest in their properties and spend throughout the community. Can they make it up in volume? Only if their rates are viewed as a value by patrons or if their occupancy rate allows for volume increase. The Impact of Price on Lodging Guest Satisfaction Research within the hospitality industry suggests that price plays a significant role in the perception guests have towards the value and quality of the hospitality product they are buying. Studies report that price perception directly influences guests purchasing behavior. One study found that more than half of the guests switched due to poor price perception. This essentially means that guests could choose not to purchase from Harwich businesses if their value perception is negative. Results of the study indicate that price perception directly influences guest satisfaction, repurchase intentions and the probability of recommending to others. Studies show that perception influences guest s purchasing decisions, and more than 50 percent of guests switch to other companies if they experience a poor price perception. Poor price perception also has an adverse effect on overall satisfaction and loyalty. In a U.S. national study, price was found to be the second most important factor in making a booking decision. Price has even been found to be more important than perceived quality. (Source: Price Impact on Guest Satisfaction by Patrick Hellstrand, 6 January 2010, 7