How Two State Tax Systems Have (and Haven’t) Shaped Metro Portland

By: - April 18, 2012 12:00 am

Portland, Oregon

VANCOUVER, Washington – To understand how tough Tom Craig’s job is, you only have to take a look at the sign in the window of the store he manages: “NO SALES TAX-We Pay It For You.” Craig is the president of Sparks Home Furnishings in downtown Vancouver, a city that’s often overshadowed by its counterpart in Canada with the same name and by Portland, Oregon, which is directly across the Columbia River. 

In Vancouver, the combined state and local sales tax rate is 8.4 percent. Oregon has no sales tax at all. To compete with Oregon stores, Sparks doesn’t charge its customers sales tax either. Craig says the store doesn’t raise prices to compensate for the cost, so the money comes straight out of the store’s bottom line.  “Eventually, I think all higher-end retailers will be gone from Vancouver and Clark County,” he says. “I think it’s inevitable. We’ll go to Portland to set up our store.”

Separate systems

What Craig is coping with is two states and one metropolitan area with an economic structure unlike that of any other place in the country. Oregon makes up for not having a sales tax by having one of the highest personal income taxes in the country. The state’s top rate on income, 9.9 percent, trails only Hawaii and California. Meanwhile, Washington’s average state and local sales tax rate is 8.8 percent, behind only Tennessee, Arizona and Louisiana. The end result is that there’s almost no way that Oregon and Washington – two states with similar geography, similar politics and similar weather – could possibly have more different tax structures.

Those differences make the Portland metro area a unique place to consider one of the most salient questions in state politics today: How much do state taxes matter? Republican governors in states such as Florida, Kansas, Maine, Nebraska, Oklahoma and South Carolina have pursued deep tax cuts over the last two years, arguing, with the support of conservative economists, that low taxes are the key to attracting people, businesses and jobs. Critics on the left have responded that the idea of residents fleeing high state taxes is mostly a myth. They argue that comparatively high taxes allow states to pay for essential public services, without compromising economic vitality.

In the Portland area, both the power and limits of state taxes are on display. The disparate tax systems have influenced the region’s development in some ways that are predictable – people like to shop where sales taxes are lower – and in some ways that are not. Yet lots of business owners say that taxes are not their overriding concern and lots of citizens act in ways that wouldn’t make any sense if taxes were their primary motivator.

Many locals insist that the most important thing to understand about their tax systems isn’t how they interact with one another. Instead, it’s that neither system is meeting the needs of its state.

Controversial exemption

Washington’s sales tax comes with an exemption for Oregonians. It only takes a flash of a driver’s license for someone from Portland to pay no sales tax at all in Washington. The logic behind the exemption is that no one from Oregon would come to shop in Washington if they could pay no sales tax at home, but had to pay across the river.

It’s a logic, though, that Vancouverites hate, as they pay their 8.4 percent, while out-of-staters get off free. “Sixty thousand of my constituents pay Oregon income tax and help support their parks and their roads and their health care,” says State Representative Jim Moeller, a Vancouver Democrat. “When Oregonians find themselves over here and they need to pick up a shirt or a pair of shoes or whatever, they should help pay for our parks and our roads and our health care just as much as we pay for theirs.” Moeller sponsored a bill to overturn the exemption this year, but it didn’t pass.

Meanwhile, it’s frowned upon for Washington residents to venture to the Oregon side of the river to shop-even though they do it en masse. Vancouver Mayor Tim Leavitt encourages his constituents to buy local. “Every time they shop across the river,” he says, “it’s costing us the ability to meet their needs and their demands for municipal public services.”

Oregonians make the equivalent argument. Randy Miller is Oregon’s leading voice for tax solidarity, condemning his fellow business leaders who have moved to Washington to avoid paying income tax. “I respect everyone who has a real reason to be there,” he says. “The people who I don’t respect are those that flip over for their own personal gain and ignore the community that gave them the opportunity to develop the amount of resources they have.”

He adds: “I almost got in a fistfight with this guy when he said he was moving over there.”

The tax disparity also reflects-and magnifies-the differences between the two sides of the Columbia River. Portland is young, green, hip, urban and progressive, a place that prides itself on being different. Vancouver and Clark County are much more conventional and conservative.

“There is some self-selection within the Metro area,” economist Joe Cortright says. “The beer, bikes and Birkenstocks people gravitate to the Oregon side of the river and the City of Portland and the conservative, Tea Party, anti-government folks say screw it-and, particularly, anti-tax folks. If you’re an anti-tax person, you definitely want to be in Clark County.”

–Josh Goodman

Historical quirk

That neighboring Oregon and Washington ended up with such different tax systems is, to a significant extent, an accident of history. Oregon adopted its personal income tax in 1930, beginning a decade in which 17 states, driven by Depression-era budget pressures, did the same thing.

Washington was nearly the 18th. The state’s voters overwhelmingly approved an income tax in 1932, only to have it thrown out by the state Supreme Court in a 5-4 ruling. The next year, the Washington Legislature adopted a sales tax instead.

Accident or not, though, it has become something close to political blasphemy to propose a sales tax in Oregon or an income tax in Washington. In 1993, the last time Oregon voters considered a sales tax, it received just 25 percent of the vote. When Washington voted on an income tax in 2010, it received 36 percent of the vote, even though it would have applied only to incomes over $200,000 a year.

Nationally, the sales tax and the personal income tax are the two leading state revenue sources. So, it’s no surprise that Washington and Oregon both have become heavily dependent on the one that each assesses. The latest chapter in this story came in Oregon, when the legislature raised personal income taxes and corporate taxes in 2009 and voters upheld the increases a year later. The tax increases reanimated the debate over whether rich people in the region move to Washington to avoid the levy on Oregon income.

If you live in Washington but work in Oregon, you still have to pay Oregon income taxes on your salary. Moving to Washington makes the most sense for people whose income tilts toward capital gains, which are generally taxed where a person lives. Those people tend to be very wealthy.

Bryce Ward, a senior economist with ECONorthwest, an Oregon-based consulting firm, says when capital gains are high one can see movement both in incomes and migration patterns.  In 2007, for example, just as the stock market was peaking, Ward says the average capital gains income for people with incomes of at least $200,000 was vastly higher in Clark County, Washington, than in the three Oregon counties in the metro area.

The people who have left even include notable business executives who held positions of civic authority. Randy Miller, an active business leader, says six former chairmen of Portland’s regional chamber of commerce moved to Washington after their tenures in that office were over.

Economic effects

Meanwhile, Washingtonians are shopping in Oregon to avoid paying sales tax. Two major shopping complexes stand directly on the Oregon side of the region’s two interstate bridges. Washingtonians don’t even have to go to the Oregon mainland to enjoy tax-free shopping. One of the shopping centers is on a narrow stretch of land known as Hayden Island that sits in the middle of the Columbia River and belongs to Oregon.

Joe Cortright, a Portland-based economist who specializes in studying metropolitan regions, estimates that state and local sales tax revenue from Clark County is $100 million a year less than you’d expect based on the county’s population and income. The implication, he says, is that on average, Clark County residents spend $3,000 a year on purchases in Oregon.

Despite all that, Cortright counts himself among the camp that thinks the tax disparity has relatively limited effects. It’s a big camp.

One reason why that is that Washingtonians don’t only cross the bridges to shop. About 60,000 come every weekday to work in Oregon. For every dollar they earn in Oregon, they pay Oregon’s high income tax. Whenever they shop in their home state, they pay Washington’s high sales taxes. “Tax-wise, it’s the worst of all possible worlds and yet they still choose to do it,” says Tom Hughes, president of the Metro Council, Portland’s regional government. They do it, in part, because homes are cheaper in Washington. “My experience, quite frankly, is that the tax structures of both states have not been a big issue.”

Sparks Home Furnishings in Vancouver, Washington, advertises that it will pay its customers’ sales tax as a way to match competition in Oregon, where there is no sales tax. The tax disparity puts retailers at a disadvantage on the Washington side of the Columbia River.

One person who, perhaps surprisingly, agrees with that analysis is Michael Powell. He is the genius behind Powell’s Books, one of Portland’s best-known and best-loved retailers. When the obituaries of independent bookstores are written, sales taxes often are at least part of the story. People buys books online rather than shopping in person and paying sales tax.

Powell’s doesn’t face that disadvantage because all six of its stores are in Oregon, including its flagship City of Books, a 68,000 square-foot labyrinth that occupies a full city block. Yet Powell says he rarely hears customers say they shop there to avoid the sales tax.

Instead, Powell attributes his store’s survival to its unique approach: It mingles used books and new books, letting customers choose the one at the price they want. Plus, the City of Books has about a million books: Many customers simply want to shop in what’s often described as the largest bookstore in the world. “It might even be true,” Powell says.

Like Powell, most locals say the tax disparity is only one item on a list of factors that determines where people live, shop and work. Where taxes rank on the list remains a matter of debate – just as it is in many other states.

Common complaint

What the disparity hasn’t done, at least for the most part, is divide each side’s political and economic leaders from one another. In fact, many of those leaders say collaboration has never been better. One manifestation of that collaboration is Greater Portland Inc., a business recruitment group that was formed last year, bringing together top elected officials and top private sector representatives from both sides of the river.

Most of these leaders have another reason to see eye to eye: They believe that they are being ill-served by their state tax systems. Each system has its defenders. Each system, though, also has broadly acknowledged flaws.

Washington, one of the nation’s most progressive states, has one of its most regressive tax codes. Since the poor and the middle class spend a larger share of their income than the wealthy, sales taxes fall more heavily on them.

In Oregon, the problem is boom-and-bust revenue cycles. This is partly because the state is heavily dependent on capital gains income, which rises and falls with the cycles of the stock market. It’s also because Oregon’s “kicker” law requires revenue surpluses to be returned to taxpayers in good times, making it harder for the state to build reserves to get through bad times.

Much more than any interaction between the two tax systems, it’s these drawbacks that lead some Oregonians and Washingtonians to say their state tax code should include the other’s major revenue source. Decades of history, however, have shown that those voices are in the minority. Perhaps that will change, but no one’s willing to predict with confidence that it will change soon. “Enlightened people here all feel the same: We need a sales tax,” Oregon’s Randy Miller says. “Enlightened people in Washington feel the same: They need an income tax. The general public? Forget it.”

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Josh Goodman

Josh Goodman helps lead research on fiscal management and place-based economic development programs as part of Pew’s state fiscal health project. Goodman has served as a primary author for Pew studies that examine how states should evaluate tax incentives and maintain budget discipline when implementing those incentives.