THE UNIVERSITY OF VIRGINI}\.

VIRGINIA'S SALES TAX: Its Origins and Administration

By MICHAEL S. DEEB and STUART W. CONNOCK

VOL. 46, NO.8

Mr. Deeb is Executive Assistant in the Insti­tute of Government, University of Virginia, andMr. Connock is Director of the Sales and UseTax Division, Virginia Department of Taxation.

Dne of the most significant new pol­icies adopted by Virginia's State Govern­ment occurred in 1966 with the enact­ment of a general sales and use tax.Spurred by contemporary concern forpu b Ii c education and for preservingpotential sources of revenue, the State'sentry into the general sales tax field was anotable event that produced immediaterevenues for needed programs and poten­tial revenues for future needs. Resortingat last to the only remaining major taxavailable to it, Virgi.nia was able tofinance a vast expansion of its State serv­ices and the assumption of State respon­sibilities that many argued were longoverdue.

The sign ificance of the enactment ofthe sales tax in Virginia can be appre­ciated by a review of (1) the conditionsthat made the time propitious for itsenactment, and (2) the efforts devoted toorganizing for the administration of thetax, and the revenues accru ing to boththe State and local governments. Theinnovations, in terms of policy, adminis­tration, and revenue, that the sales taxbrought to Virginia government have be­come an inseparable part of the govern­mental environment. Future State pro­grams and revenue pol icies will certainlybe influenced by the experience andresources provided by the sales tax.

THE POLITICAL CLIMATE

The year 1966 may be termed the year

of educational awareness in Virginia, forof the many measures enacted in thatyear by the Virginia General Assemblyperhaps no other function benefittedmore than public education. It was in1966 that Virginians adopted a two per­cent Statewide general retail sales and usetax, and a one percent local option salestax for the primary purpose of upgradingpublic education. The State tax, whichwent into effect on September 1, 1966,was a major departure for Virginia from along-standing policy to avoid the salestax. This policy, however, came increas­ingly under closer examination as it be­came apparent that increased revenueswere needed if Virginia's public serviceswere to expand in response to publicdemands. Nowhere was this more evidentthan in the field of public education.

Among the factors which influencedthe change in policy from opposition toapproval, the following may be cited:

• The disparity in educational offer-ings and opportunities had widened andhad reached what many consideredcritical proportions. Per pupil school ex­penditures in Virginia localities variedwidely, with the weight of too manylocalities on the lower end of the spec­trum. It was clear that Virginia had toimprove its situation in this category tocatch up with national figures.

• The mood among Virginians gener­all y seemed to have changed from accept­ance of the status quo to a desire forsignificant progress in public services,especially in the field of education. Thus,the pol itical cl imate for change was right.In large measure, th is change was the

result of the increasing urban character ofVirginia's population which produceddemands for more and better services.

• In addition to the change in thepolitical climate, developments at thelocal government level threatened to altersignificantly the State's fiscal structure.In 1965, starting with the City ofNorfolk, Virginia cities began adoptinglocal general sales taxes and, by April1966, 16 other cities had followedl\Iorfolk's lead. 1 The possibility of thepreemption of the sales tax solely forlocal government use to the exclusion ofthe State was apparent.

., The political complexion of theVirginia General Assembly had changedfro m p red 0 m i natel y co nservative,dam inated by rural interests, to morepolitically moderate-progressive, in whichurban interests had made significantgains. Ralph Eisenberg has stated thatliThe 1966 session of the VirginiaAssembly was the first following the1960 census that was apportioned on anapproved population basis."2 ThatAssembly was almost evenly splitbetween urban and rural representatives.The House of Delegates was in factequally divided. The Senate contained 18urban members out of a membership of40. A total of 28 new urban members had

1. The City of Bristol adopted a general salestax in 1950 because of special circumstancesunrelated to the 1966 tax situation.

2. Ralph Eisenberg, "Reapportionment anda Legislature: Some Observations on the Vir­ginia Experience," in Duke University As­sembly on State Legislatures, State Legislaturesin American Politics, (Durham, North Carolina:The Authors, 1968) p. 9.

INSTITUTE OF GOVERNMENT / UNIVERSITY OF VIRGINIA / CHARLOTTESVILLE /APRIL 15,1970

joined the 1966 Virginia GeneralAssembly.3 The urban members of theAssembly reflected the progressive desiresof their constituents. They were joined,moreover, by many less progressivelegislators who also perceived the changedmood among many Virginians.

• A number of important interestgroups in Virginia favored a Statewidesales tax. In addition to the VirginiaMunicipal League and the Virginia Asso­ciation of Counties, which had advocatedsuch a tax for many years, other influen­tial organizations, such as the VirginiaRetail Merchants' Association, endorsedthe levy on the basis that a uniformStatewide levy was preferable to a hodge­podge of local sales taxes. It should benoted that most of the support by the

--------\I-\.t:g~ ia l\LlJ...u:\·G\pa( a~ue~for a tatewidtax came prior to the 1965 and 1966 citysales tax adoptions.

• The costs of providing for Vir­ginia's publ ic education system had risensharply over the years and continued torise by the mid and late 1960's. InVirginia counties, for example, operationand maintenance costs between 1956 and1965 rose from $87.2 million to $202.6million, or 132 percent. This increase wasthe result primarily of the growth inteachers' salaries. Locally, the long-termdebt for the 96 counties and 31 of itscities amounted on Ju ne 30, 1967 to$778 million. Of this total, $389.3 mil­lion, or approximately one-half, had beenincurred primarily for school buildingconstruction. State support for publiceducation, notably the institutions ofhigher education, did not escape theseescalating cost trends. In short, Virginianeeded quickly and in large amounts aninfusion of revenue to support education,its most costly single function.

• A major factor in theadoption-ofthe sales tax was the effective and ableleadership provided by Governor Mills E.Godwin, Jr. Governor Godwin, who hadcampaigned in 1965 on a platform em­phasizing improvement in publ ic educa­tion in Virginia, was able to unify thediverse factions in the dom inant Demo­cratic Party on this point. The unificationprocess, stressed in his 1965 campaign,was carried over to the 1966 VirginiaGeneral Assembly and helped him to winadoption of his legislative program. Theadoption of the tax itself was largely ananticl imax, since the legislative debates

3. Thomas L. Wells, "The Legislative Con­sequences of Urban Growth: The Case ofVirginia, 1966" (Unpublished Ph.D. disserta­tion, Department of Government and ForeignAffairs, University of Virginia, June 1968), pp.86,201.

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were limited largely to the amount of thelevy and the formula for distribution ofsome of the proceeds to the counties andcities.

SALES TAX PROPOSALS

Serious consideration of the sales taxby State officials can be traced to late1964, although the idea itself had previ­ously emerged in legislative sessions dat­ing back to the late 1940's. In December1964, Lieutenant Governor Mills E. God­win, Jr., then an unannounced candidatefor Governor, hinted strongly that Vir­ginia was on the road to enacting a salestax. He cited the urgency for the State tomeet present and future educationalneeds which, he said, could be met onlyby a sales tax. He stopped short, however,of sa . he a e s ch-a levY'. InMarch 1965, Governor Albertis S. Har­rison, Jr. declared that the continuedspread of local taxes wou Id hasten theday when the State adopted a sales tax.Later in 1965, while addressing the Vir­ginia Municipal League, Mr. Godwin as­serted that a general Statewide sales taxwas preferable to a prol iferation of locallevies. He noted also that the local taxeshad been lucrative and had been imposedwith Iittle serious opposition.

The official move for a sales tax camein January 1966. In h is budget message,outgoing Governor Albertis S. Harrison,Jr. recommended to the 1966 Assembly atwo percent State genera Ireta iI sal es tax.Governor Harrison recognized the specialinterests of cities, although in limitedform. H is tax program called for a twopercent levy of which one percent wouldbe retained by the State, and one percentreturned to the counties and cities. One­fourth of the one percent local tax wouldbe returned to the cities and counties onthe basis of the place of collection, andthe remaining three-fourths on school agepopulation. All local general sales taxespreviously enacted would be repealed.

On assum ing office a few days later,Governor Godwin presented his generalconcept for a Statewide general sales anduse tax, but was silent about perm ittingany additional local levy, as advocated bythe cities.

State officials agreed that any State­wide sales tax had to include provisionswhich would financially benefit Virginialocal governments and their school sys­tems. The problem was to allocate taxfunds in a manner that would satisfy bothurban and rural interests. The primarypurpose of the tax as enunciated byGovernor Godwin was to upgrade publ iceducation in Virginia by guaranteeing a

proper education to each pupil in theState. Each locality, he said, should re­ceive a fair share from the State sales taxto meet basic needs. This policy causedmuch debate between urban and ruralinterests because it implied that the dis­tribution of new sales tax funds wouldnot be based on local tax effort orrevenue raising capabil ities, but on need.Municipal officials maintained that anydistribution formula for the new taxshould recognize their previous taxefforts and revenue raising capabilities.They argued that they would collect largerevenues from their own levies, but wouldnot receive a proportionate share backfrom the State. Moreover, they argued,this situation would be worse for citytreasuries if the State repealed localge e a aJes-tax - e ie, - t:G-posed -

initially.Governor Godwin's tax bill called for a

two percent State general sales and usetax to take effect on September 1, 1966of which one percent would be dis­tributed among Virginia's cities and coun­ties in direct proportion to an area'sschool age population. An automatic in­crease in the State tax to three percentwould take place on July 1, 1968, theadd itional revenue to be retained by,theState. In add ition, perm ission was grantedto both cities and counties to enact, ifthey wished, an additional one percentlevy for their own use. Consequently, ifthe local taxes were adopted, Virginia'staxpayers would be paying a total salestax of four percent on Ju Iy 1, 1968.

4

Counties in Virginia generally were infavor of the proposal since the fundswou Id not be distributed to local govern­ments on the basis of the point ofcollection or sale. The counties main­tai ned that if such a provision wereinclude , they w(Juld receive- less fundssince the counties, for the most part, hadfewer retail outlets than cities. Virginiacities, on the other hand, especially thosecities which had previously enacted theirown local taxes on sales, were still op­posed to the Governor's tax bill. Some ofthe cities which had enacted a twopercent general sales tax levy prior toJanuary 1966 contended that they wouldlose relatively large amounts of revenueunder the distribution formula containedin Godwin's proposal. City officialsargued that the formula did not com­pensate the cities for the loss of revenueresulting from the one percent decrease intheir local sales tax rate.

4. By May 1969 all cities and counties inVirginia had adopted the local option onepercent general sales tax.

THE SALES TAX AS ENACTED

Despite attempts by urban interests tochange the sales tax bill to their liking,Governor Godwin's measure finally waspassed by the Virginia General Assemblyin the form he proposed. The bill asapproved specified that the revenue fromthe one percent of the State levy to bedistributed to cities and counties wouldbe earmarked for IIfree publ ic schools."The revenue from the remaining onepercent State levy would be deposited inthe State's General Fund. Similarly, citiesand counties could disburse revenuesreceived from their local one percent salestax levy for educational and other pur­poses as they determined.

The tax bill also provided that coun­ties would share both State and local salestax revenues with their towns. If a townlocated in a county constituted a separateschool district, State sales tax revenues tothe county would be distributed to thetown in the same proportion that thetown's school age population bore to thetotal county school age population. Inaddition, all towns could share one-halfof county revenues received from the onepercent local levy based on school agepopulation.

Provisions of the tax law relating totaxable items caused serious repercussionsin later years. The bill provided that foodand non-prescription drugs would betaxable. Amendments to alleviate thefood tax burden of low income peoplewere introduced unsuccessfully in the1970 Virginia General Assembly. TheAssembly was unable to resolve the prob­lem of finding substitute revenues if suchchanges were to be made in the sales taxstatute.

ADMlNlSTRATIVE ORGANIZATION

Early in 1966 members of the StateDepartment of Taxation visited severalSouthern states imposing sales and usetaxes to gather data that wou Id be benefi­cial in developing a general sales and usetax system in Virginia. Information thusgathered enabled Virginia to adopt amodern collection system free of majorprocedural errors.

Before the effective date of the SalesTax Act, the Department of Taxationembarked on a Statewide publ ic informa­tion and education program. More than150 speeches were delivered at meetingsof various organizations in early 1966.Numerous meetings also were held withtrade associations prior to preparing ad­ministrative rules and regulations. Tradeassociations informed their members of

31

the new tax law through newsletters,monthly publications, and special letters.The Virginia Retail Merchants' Associa­tion was most helpful in the Depart­ment's educational program. The Depart­ment of Taxation and the VRMA co­operated in conducting 28 seminars, pre­paring question and answer materials, andrecording one-minute radio spot informa­tion tapes. Many problems were avoidedby these activities.

By mid-1966 a start was made inassembling the machinery to collect anddisburse Virginia's new tax. Hundreds ofemployees were hired in the new Salesand Use Tax Division of the Departmentof Taxation. About one half of theemployees were assigned to field districtoffices to audit records of registeredtax-collecting dealers, audit the records ofnon-registered consumers for use taxes,collect delinquent taxes, and in generalenforce the Act. The other half of theem ployees were assigned to several spe­cial ized sections in the Richmond officeto process sales and use tax returns.

The Sales and Use Tax Division wasorganized to take advantage of electronicdata processing equipment. The EDPsystem has been an important part of theDivision's Richmond operation. Returnsare received each month for initial screen­ing in a processing section prior to beingkey punched for automatic processing.Between 72,000 and 75,000 returns areprocessed each mo nth.

The computer is very important indetermining errors on returns filed bydealers. After discovery, notices of errorsare sent to the audit and assessmentsection where appropriate corrective ac­tion is taken. The computer is mostimportant also in determining if a dealerhas filed a return and establishing delin­quency. After the elapse of a 20-daygrace period, the computer creates a fieldand office copy indicating the delinquentdealer. The field card is referred to theappropriate field office for collection.When the delinquent return is collected,it is forwarded to the del inquent sectionand the office copy is destroyed. Therecords section maintains individual deal­er folders containing information on - adealer's tax activities. A registration sec­tion enrolls all new dealers for tax pur­poses, notes dealers no longer in business,and records name and address changes.An accounting section is responsible forall accounting entries relating to thedistribution of local sales and use taxrevenues, the daily deposit of revenues,the control of a dealer's account, trans­fers of accounts from dealer to dealer or

local ity to local ity, and all cash transac­tions.

Eight district offices were establishedin the State, each having a district super­visor, auditors, investigators, and clericalpersonnel. The staff of a district officepresentl y ranges from 23 to 39 em­ployees. Taxpayers have access to theoffices and can discuss any phase of salesand use taxes. In addition, dealers canattend pre-audit and post-audit confer­ences held by the district offices toresolve any tax differences. A field sec­tion perform ing audit activities is mostimportant to effective sales and use taxadministration. Field reviewers control allfield assignments to district offices andreview the work of these offices.

ADMINISTRATIVE PROBLEMS

Several problems are involved in ad­ministering a general sales and use tax inVirginia. Because the State collects localsales and use taxes for later distributionto cities and counties, it must be certainof the jurisdiction in which a dealer'splace of business is located. This problemis made more difficult by city-countyseparation in Virginia which makes itimperative that proper coding distinguishthe two taxing jurisdictions. Any altera­tion of city-county boundaries, such asby annexation, can compound this prob­lem.

Collecting delinquent taxes is always aproblem in tax administration, but Vir­ginia has fared very well in administeringits sales and use tax. Presently, delinquentratios range from six to eight percent ofanticipated returns, and are reduced from3.5 to 4.5 percent when field cards forcollection are created. These delinquentpercentages are small when compared tosu rro u nd ing states.

Other administrative problems haveoccurred. For example, prior to the en­actment of local use taxes, out-of-Statedealers were not required to collect theone percent local tax on purchases byVirginians. Out-of-State dealers thus hada tax advantage over Virginia dealers. Thisproblem was resolved by enactment of alocal use tax law that went into effect onJuly 1, 1968.

THE SCALE OF REVENUES

Sales and use tax revenues are aleading and important source of revenuesin Virginia as in other sales tax states.Sales tax deposits have increased steadilyover the past three fiscal years, dueprimarily to the State's economic growth.However, some of the growth is a resultof tax enforcement and audits. Field

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VIRGINIA STATE AND LOCAL SALES AND USE TAX REVENUE(in thousands)

$ 74,050* $ 35,594 $109,644116,034 55,932 171,966185,334 65,008 250,342

211,300 72,612 283,912234,600 80,619 315,219260,400 89,485 349,885

FISCAL YEARS 1967 - 1972

on-I ine direct access system. This in effectmeans that the Division would be able toconnect district offices to the computerfor certain information needed in theenforcement program. Other benefits,such as access to information from avideo tube, would accrue from the addi­tional system.

Sales tax administration in Virginia, inthe tradition of Virginia administrativepractice, has been conducted efficientlyin order that State taxpayers receive themaximum benefits. The U. S. AdvisoryCommission on Intergovernmental Rela­tions was so impressed with the VirginiaSales and Use Tax Law that it modeled itsproposed law after the Virginia statute.This is indeed a compliment to Virginia,and to the author of its sales tax law, Mr.-:-H. GfftsSett,--rormer Vir-gin;

Commissioner.Sales tax revenues have not been able

to solve all of Virginia's revenue needs,which have increased substantially in thepast few years. Such funds have, however,allowed Virginia to meet many of itspresent and immediate public commit­ments. It has been particularly significantin enabl ing Virginia to move ahead toimprove publ ic education. Increased edu­cational funds will be needed to meetgrowing needs, and future sales tax rev­enues will be helpful. The unavoidablequestion one must ask is where will newfunds be found to finance future pro­grams. After adoption of a general salestax, Virginia joined many other states inutilizing all existing major sources ofState revenue. The immediate answerappears to be that states must makeefficient use of their taxing powers, andFederal assistance.

TotalLocal Tax

In terms of sales tax adm inistration,the Sales and Use Tax Division is in needof more eTsonnel, speci-al~y audit per- ­sonne!. The Division when fully staffedwill have approximately 465 employees.In addition, the Division's data processingsystem must be expanded to include an

FUTURE NEEDS

increased correspondently. Local sharesof the State sales and use tax amountedto $37.0 million in the fiscal year 1967,and increased to $61.7 million in thefiscal year 1969. For the following fiscalyears of 1970, 1971, and 1972, the localgovernment shares of State sales taxrevenues for educational purposes havebeen estimated at $70.4 million, $78.2million, and $86.8 million, respectively.These revenues, together with revenuesfrom local sales tax levies, will be veryimportant to local government educa­tional programs.

State Tax

*Nine Months of Deposit

Fiscal YearEnding June 30

Estimated

197019711972

Actual

196719681969

investigators collect delinquent returnswhich normally are not collectable. Also,additional funds are made collectable bythe Division's audit program which in­SLlres proper filing in the future. A major­ity of assessments in the audit programhave resulted simply from dealers misin­terpreting the sales tax law.

From the fisca I year 1967 to the fisca Iyear 1969, total (State and local) salesand use tax collections rose from $109.6million to $250.3 million, an increase of128 percent. (Because the sales tax lawbecame effective on September 1, 1966,the 1967 fiscal year revenue representsonly nine months of collection. Also, theState tax was increased to three percentin the fiscal year 1969.) The accompany­ing table shows actual and estimatedamoonts of-State and locai sales and usetax revenues from the fiscal year 1967 tothe fiscal year 1972.

The local government share of theState's revenue for publ ic education has

EV\lSE R

Entered as second-class matter

Charlottesville, Virginia