Jack Evans, a Democrat, represented Ward 2 on the D.C. Council from 1991 to 2020.
I have long believed that any new tax proposed for the District should be judged by more than how much money it would raise. Revenue matters, of course, but so do fairness, legality, predictability and, especially, the effect on the city’s ability to attract and retain jobs.
The D.C. Council held a hearing this month on ways to bring in new revenue in the face of a looming budget shortfall. One of the most consequential proposals was a business activity tax, or BAT, an idea that has circulated for years. Mayor-elect Janeese Lewis George has floated the tax as a way to pay for universal affordable child care, a top priority of hers.
So what’s a BAT, and what would its impact on the city be?
As the name suggests, a business activity tax would target an enterprise’s overall economic activity, rather than just the profits it earns. Under the draft discussed by the council, businesses with at least $200,000 in gross receipts would be subject to a 1.4 percent BAT. The amount of the tax would be calculated on a base of gross revenue, minus intermediate business purchases, capital purchases, and rent or royalties — but not, notably, employee compensation.
So consider a Washington law firm with $10 million in receipts and $3 million in qualifying deductions (including the gross-receipts $200,000 exemption). Its taxable business activity would be $7 million. At 1.4 percent, that would mean $98,000 in BAT liability. Importantly, the firm could owe this tax even if its profits were modest or, in fact, if it had none at all.
The inclusion of employee pay and benefits in the taxable base is a crucial consideration. That’s because, through the D.C. Home Rule Act, Congress has prohibited the city from taxing the personal income of nonresidents who work in the city. Thus, a lawyer living in Virginia but working in a downtown office pays income tax to Virginia but not to the District. The restriction is patently unfair to the District, which provides services and infrastructure to hundreds of thousands of commuters who then pay all of their income taxes to the states where they live.
A BAT imposed on the firm, rather than the lawyer, would reach business value that’s generated in the District — including activity involving nonresident workers. But that raises a tricky legal question: Would a BAT be a legitimate tax on businesses or a disguised attempt to tax commuter earnings?
Congress and the courts have been clear: no commuter-tax workarounds. In 1979’s Bishop v. District of Columbia, the D.C. Court of Appeals rejected an application of the unincorporated business tax that effectively reached nonresident professionals’ personal incomes. Still, the courts have not prohibited every tax on business activity. In 2006’s District of Columbia v. Bender, an application of the unincorporated business tax to certain partnerships with nonresident owners was upheld.
Any new BAT would have to be evaluated carefully against this history. But let’s say it turns out that the District can legally impose a BAT. Should it?
The danger is that a BAT sold as a restructuring of business taxation would become simply another layer of taxation. The District already imposes corporate and unincorporated business franchise taxes, substantial commercial property taxes and other costs of operating here. Supporters suggest that BAT revenue could eventually permit the council to reduce existing business taxes. That is an attractive theory. The more realistic scenario, however, is that the council would adopt the new tax to close a budget gap and endlessly defer any offsetting reductions.
There is a tendency to discuss the possible consequences of higher taxes only in terms of businesses leaving Washington. Some might do that. But established firms with long-term leases, clients and employees don’t simply pack up and leave overnight.
The bigger result may be invisible: a growing law firm choosing Arlington rather than downtown Washington; a consulting company expanding in Bethesda instead of the District; an employer deciding that Washington’s combined taxes and costs are simply too high to set up shop here.
Those individual decisions rarely make headlines. Yet each one can mean fewer jobs, less demand for office space, less spending at local restaurants and shops, and ultimately a smaller tax base. A BAT could be expected to produce revenue in its first years while reducing the growth of other revenue over time.
Still, there are serious arguments on the other side. Advocates believe a BAT could reach economic activity that escapes some existing business taxes and thus distribute the burden more broadly. Their arguments deserve a hearing. But so do warnings from businesses that have to decide where to hire, lease space and invest.
The D.C. chief financial officer’s office is preparing a BAT feasibility analysis that’s due in January. Before adopting the tax, the council should demand a credible revenue estimate, an analysis of who would ultimately bear the burden and a rigorous legal opinion addressing the Home Rule Act question. It should also determine whether the tax would encourage firms to move jobs out of the District or discourage firms from moving in.
Equally important, the council should state plainly whether a BAT would replace existing business taxes or be added to them.
Washington cannot tax its way to prosperity if each new revenue measure makes the city less attractive to the employers and workers on whom its future depends. The question is not just what a BAT collects next year. It is what kind of business climate — and tax base — it leaves the city five or 10 years from now.
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