By Dan Rothschild.

Across the nation, so-called “peer production businesses” have become a common feature of the urban landscape, and cities are scrambling to figure out how to tax and regulate them. From the short-term housing provided through services such as Airbnb and Breather to Lyft and Sidecar’s “ridesharing” services, new companies founded on elegant new business models are disrupting some of the most highly regulated and highly taxed companies in American cities.

Some firms, most notably Airbnb, have gone to great lengths to work with authorities to help their sellers (“hosts” is Airbnb’s preferred term of art) comply with local tax law. Lyft provides drivers with some advice on complying with their income tax requirements, but because their regulatory status remains ambiguous in most places, so do their tax obligations.

Taxing businesses from the peer production or sharing economy is not a question of if but when and how. Yes, cities are always looking for new sources of revenue, but legitimate fairness questions are at stake that must be addressed squarely, and as soon as possible.

To begin with, regulation and taxation should be considered separately; in principle, the two have nothing to do with one another. The purpose of government regulation is (ostensibly) to protect consumers from unscrupulous hoteliers, livery and taxi drivers, shopkeepers, manufacturers, and the like. Taxation, however, is about collecting revenue.

As a general principle of taxation, it’s best to aim for neutrality. Consumer decisions should not be made based on tax advantages given to one firm or industry over another. Phrased differently, all participants in a marketplace should be taxed according to the same set of rules.

But that’s easier said than done. Many cities and states have made a dog’s breakfast of their tax policies, particularly as they concern lodging and transportation. Hotel taxes are typically exorbitant across the country, as cities have found it relatively easy to shift taxes to non-residents (non-voters). The Global Business Travel Association finds that hotel taxes in major US cities range from 10.5 percent in beautiful downtown Burbank to over 18 percent in New York City.

These tax burdens are typically not reflected in a single high rate. Hotel stays in New Orleans’ Central Business District, for instance, are subject to a city tax, a per-person occupancy tax, and three different state taxes.

Car rental charges are even more Byzantine, despite federal limits on whether and how on-airport concessions (including rental cars) can be taxed. A recent one-day car rental at Boston’s Logan airport cost me about $40 — but governments and the airport authority tacked on a convention center surcharge, a parking surcharge, a customer facility surcharge, a concession recovery fee, a vehicle license recovery fee, and a state rental tax, raising the bill by over 60 percent.

Non-resident tax regimes are based on two assumptions: consumers are relatively inelastic in the choice of cities they visit (which may be true for business travelers, but is less so for leisure travelers), and consumers have no practical alternatives to staying in hotels and renting cars or relying on taxi services.

The peer production economy has challenged that second assumption, with enormous implications for local revenues that have already become apparent. Last year, a New Orleans bed and breakfast owners association estimated that the city was losing out on $1.4 million annually as visitors shifted their lodging from traditional establishments to short-term rentals, predominantly through Airbnb. One estimate in 2013 put the foregone revenue tab for San Francisco at $1.8 million.

Which brings us back to tax neutrality. While there are many reasons for choosing to stay in an Airbnb establishment over a hotel or B&B, price is certainly one of those reasons. And at present, prices are, to some extent, being driven by discriminatory tax policies. The game is currently rigged against traditional lodging establishments (and rental car companies, and anything else subject to discriminatory taxes). Bad tax policy has consequences.

The best way to fix this problem is simply to scrap hotel and rental car taxes, and reduce them to the same level as the taxes applied to other goods and services. After all, these surtaxes do undoubtedly reduce the number of rental days and bed nights visitors spend in a city, at least on the margin.

Of course, cities and states are unlikely to want to reduce taxes that can be easily exported — no matter how strong the case for their elimination. So a second-best option (albeit far inferior to lowering rates) would be for governments to eliminate the tax discrepancy between different service providers offering similar services, and also make compliance simple and affordable. This means, at a minimum, reducing the number of taxes that have to be computed for each transaction, and treating hotels, motels, Holiday Inns, B&Bs, and Airbnb-type rentals identically. Additionally, the legal incidence for such taxes must be made crystal clear (it currently is not).

With respect to regulation, though it serves a different purpose than taxation, the two functions must be coordinated. It’s not enough to remedy the tax problem if the underlying business activity — ridesharing, short-term rentals — remains illegal, either de jure or de facto. (Oddly, some states continue to sell marijuana tax stamps despite pot being illegal.)

Despite the fawning coverage many peer production companies have received, the tech they’re using is better understood as elegant, not revolutionary. The innovations in the peer production economy are not tech innovations per se; they’re expansions of marketplaces previously dominated by a small number of large firms or regulated industries where competition was non-existent. The magic comes from using technology to bring new buyers and sellers together.

As cities begin to tax the sharing economy, they should be guided by the understanding that this is simply a growing market with more participants transacting in different ways. Most of what we are seeing is not new in any meaningful sense; what’s changed is that production has become much more democratized. Cities and states should adjust their tax systems accordingly, and use this as an opportunity for broader reform by cutting some of their most egregiously discriminatory taxes.

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Originally posted at Public Sector Inc.

Daniel M. Rothschild is director of state projects and a senior fellow with the R Street Institute. He joined R Street in October 2013 having previously worked at the American Enterprise Institute and the Mercatus Center at George Mason University. His popular writing and articles and reviews have appeared in the Wall Street Journal, Reason, the Weekly Standard, the Chicago Policy Review, Economic Affairs and many other popular and policy publications. He was a 2012-13 National Review Institute Washington fellow. Dan has testified before the U.S. Congress and several state legislatures on tax and fiscal policy, government reform and disaster recovery policy.