It’s been about a month since the state began collecting sales tax on labor for many installation, maintenance and repair services.

Adding the 6.75 percent sales tax to labor was approved by the General Assembly in September as part of the 2015-16 budget. Republican legislative leaders said the expansion was designed to help offset $400 million in lost revenue from personal income tax cuts, some of which won’t go into effect until 2017.

Even though there was a six-month lag time between passage and introduction, the labor sales tax has left some consumers with sticker shock and companies still confused on what services are taxable.

Some local businesses told the Journal they have added sales tax to their labor even if they aren’t sure if it is required, while others haven’t added it for the same reasons.

“We’re erring on the side of caution in adding the sales tax on our installation labor,” said Donna Hayden of interior designer Hayden Designs Associates Inc. of Winston-Salem.

“What we’ve been told is that any labor for installation and other services that ‘stay in the building,’ it is taxable.” She said she has applied the labor sales tax to installation of furniture, carpet, accessories and painting.

Trevor Johnson, a spokesman with the N.C. Revenue Department, said “it is important to note that not all flooring and carpet installations are treated as retail sales.”

“Some transactions continue to be treated as real property contracts, dependent on the classification of the person performing the work.”

The biggest projected consumer impact is on auto repair and maintenance services, in part because labor often is the most expensive part of the bill. Also affected are labor for computer installation and repairs, along with installing modular homes.

Economists say low- to middle-income households are more likely to feel the pinch of the labor sales tax since they are more willing, or have no good alternative, to nursing an aging vehicle through rounds of repairs.

By comparison, economists say upper-middle to high-end households may opt to buy or lease a new car when maintenance and repair costs become a nuisance.

The U.S. Bureau of Labor Statistics found that the average annual maintenance and repair cost was $437 for a vehicle one to five years old, $588 for a vehicle six to 10 years old, and $576 for a vehicle 11 to 15 years old.

CarMD.com conducts an annual survey on repair costs, particularly measuring the cost of handling a check engine light situation. In 2014, the average cost in N.C. for that service was $431.28, of which $162.14 was labor. Since March 1, that service includes an additional $10.95 in labor sales tax.

Of course, the percentage of labor cost for maintenance or repair depends primarily on what work is being done, since the cost is significantly higher on replacing an engine or transmission than replacing an oil pan or brake pads.

“The decision to add the sales tax to labor gives the state a guaranteed revenue stream because most people eventually will have to get their vehicle worked on,” said Bobby Henneburg, who operates Rattle + Hum Automotive in Winston-Salem.

Henneburg said his average customer spends about $1,000 on car maintenance annually. With Henneburg estimating that 60 percent of that amount is labor, customers are now paying an extra $40.50 a year in labor sales tax.

“For someone who gets a new engine, that could be a $3,000 bill with $1,800 in labor” with an another $121.50 attached in sales tax, he said.

Michael Walden, an economics professor at N.C. State University, said federal data show someone earning $15,000 annually already pays — as a percent of their income — almost 50 percent more for vehicle repairs than a person earning $60,000.

“With the same sales tax rate applied to both, the person with lower income also pays as a percent of their income — 50 percent more in sales taxes than the higher-income individual.”

Level of awareness

Henneburg said his customers have been split on how many were aware of the labor sales tax cost before bringing in their vehicle.

“There’s not been a ton of blowback yet even as people see the labor sales tax on their bill,” Henneburg said. “Some see it as just another part of the bill.

“Some are disappointed and frustrated by the extra cost, but at the end of the day, they really don’t have a choice but to pay it.”

Dale Mathis, co-owner of Ray’s Body Shop and Wrecker Service, said the company makes customers aware of the new labor sales tax when they come in. Many customers aren’t prepared for it, he said.

“For most people, repairing their car is not a planned expenses that they put money aside for,” Mathis said.

Mathis said the labor sales tax may prompt some customers to attempt more do-it-yourself repairs or go to a backyard mechanic who doesn’t charge the labor sales tax.

“If you think about it, some of my competitors now have a 6.75 percent price advantage over me,” Mathis said.

“I’m not against the labor sales tax, but it does open the door for good businesses to be put at a disadvantage.”

Carve-outs create confusion

The carve-outs to the labor sales tax appear to be creating the most confusion among retailers and consumers.

One example involving towing. If a vehicle breaks down and is towed to the owner’s home, there is no labor sales tax.

However, if it is towed to a repair shop, the labor is taxable.

When it comes to HVAC repairs, local companies say they’ve been told that labor on a routine service-maintenance call is taxable, but if your furnace or heating-cooling unit breaks down, that labor is not taxed.

Mathis said he remains unclear of the tax implications as it relates to repairs done involving motor clubs with services in multiple states.

It’s also unclear which group is responsible for labor installation sales tax in the case of an individual buying an appliance or household fixture at a retail outlet and having it installed by another company or an installer subcontractor working for the retailer.

State budget impact

The labor sales tax came on top of legislators approving in 2013 adding sales tax to admission tickets for most live entertainment events, motion pictures or films, a museum, cultural site, garden, exhibit, show or similar attraction or a guided tour at any of these attractions.

Supporters of the labor sales tax and personal income-tax trade-off said many households will see a net benefit overall.

However, the personal income tax rate won’t drop to 5.499 percent until 2017.

“People are going to have more money in their pocket after getting their paycheck,” Gov. Pat McCrory said before signing the budget bill, although he stressed he was opposed to the labor sales tax.

Sen. Bob Rucho, R-Mecklenburg, and a chief supporter of the labor sales tax, has said the addition is part of his effort to get rid of the state’s personal income tax and move to a consumption-based tax that he said provides a more reliable revenue stream. Rucho is not seeking re-election in 2016.

However, according to The News & Observer of Raleigh, the state will get less revenue as part of the budget’s tax changes. The personal income-tax cut will mean the state collects at least $700 million less per year after the cut becomes effective in 2017, according to legislative estimates.

Estimates show the expanded sales tax will bring in an additional $160 million in fiscal year 2016-2017, and go up in future years.

“Many customers see the labor sales tax as another way for government to get into their pocket,” said Mike Poole, owner of Old Town Auto Works.

However, Poole said he doesn’t know if customers will connect the labor sales tax to the legislators who approved its use.

“Today, spending on services exceeds spending on tangible products,” Walden said. “Indeed, some have argued it has been unfair in the modern economy for purchases of services to not be taxed, but purchases of products to be taxed.”

Effect on growth?

According to the legislature’s nonpartisan research staff, the more a household makes, the bigger the impact of the personal income tax cut.

The research staff cited two examples: A household with less than $30,000 in annual income would get about a $50 tax cut, while households making more than $95,000 would get a $476 tax cut.

For the $30,000 revenue household, the additional labor sales tax on the typical auto repair bill would approach or exceed the tax cut. For the $95,000 revenue household, they would need to spend more than $7,000 on taxable labor services to have a negative impact.

Walden said there’s no definitive answer to date on whether broadening the sales tax base contributes to economic growth, as proponents of a consumption and services-based sales tax tout.

“The state’s economic performance has certainly improved in the last six years, so it’s easy to automatically make a link between this result and the change in state taxes,” Walden said.

“But many researchers have concluded that bigger factors — like trends in the national economy and the industrial make-up of the state — have larger impacts than state taxes.”

Walden said policy makers “have long argued over the pluses and minuses associated with sales taxes.”

“While incomes may plunge in recessions, people still need to spend to exist, so sales won’t fall as much as income.

“However, new research shows this advantage of sales taxes may have disappeared during the Great Recession.”

Difficult transition

Johnson, the Revenue spokesman, said the agency won’t get its first monthly revenue stream from the labor sales tax until April 20.

“Once the agency receives these figures, it typically takes about two weeks to compile the monthly aggregate totals,” Johnson said.

“Sales and use tax collections for items subject to the general rate are not itemized by sale type, so we will have information related to total collections, but data concerning specific sectors or areas will likely be limited.”

Mitch Kokai, a policy analyst with libertarian think-tank John Locke Foundation, said that “while all taxes tend to have a negative impact on the activity that’s taxed, a system that focuses more on taxing consumption, and less on taxing saving and investment, is likely to produce stronger economic growth.”

“That said, lawmakers are finding that the process of moving from an income-based tax to a consumption-based tax can be messy and confusing. No one wants to pay more tax on a given transaction, and no vendor wants to have to collect more tax on that same transaction.”

Kokai said the foundation’s plan “would have tackled the same goal of moving toward a consumption-based tax without creating issues linked to broadening the existing sales tax to more items, including labor.”

“As for the politics, if Republicans remind people how much money they’re saving because of income tax cuts, they should see minimal impact at the polls.”

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rcraver@wsjournal.com (336) 727-7376 @rcraverWSJ

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