The Shrinking Road, Part 2: Fuel-Tax Tango

As cash-strapped states face crumbling infrastructure, fuel excise taxes get second look

HOUSTON -- How do you generate more revenue from a shrinking source? If you're talking about fuel excise taxes, you start getting really creative.

Motor fuel excise taxes are levied on a federal level on gasoline, diesel and other fuels, and deposited into the Federal Highway Trust Fund (HTF). These taxes supply more than 80% of the revenue dedicated to federal surface transportation funding, according to the AASHTO Center for Excellence in Project Finance.

These tax revenues have eroded in three main ways. First, the federal fuel excise tax has not changed in 20 years from 18.4 cents per gallon, and its value has fallen through inflation by 40% in that time. Second, a gradual decline in vehicle miles traveled, which began back in 2004, has further eroded revenues. Finally, more aggressive CAFE standards and more fuel-efficient vehicles are making the revenue base shrink even more, according to Phineas Baxandall, senior analyst for tax & budget policy at U.S. Public Interest Resource Group.

It's a dynamic that is also playing out on a smaller stage with state fuel excise taxes.

"States are scrambling for funds, especially as it comes to motor-fuels excise taxes," said David Zahn, vice president of marketing at FuelQuest, a Houston-based provider of fuel management and tax automation products. "Largely those taxes are tied to infrastructure, and from an infrastructure perspective, the maintenance costs alone … are exceeding what we are getting from those excise taxes. So there's a scramble for those additional funds."

The choices for policymakers are limited and each has its challenges. They include raising state and/or federal fuel excise taxes--not a politically palatable option--or tying fuel excise taxes to inflation.

"Each year as we have additional inflation, the real buying power of dollars they collect diminishes," said Zahn. "In some states it's been decades that they've actually adjusted their excise tax and so they're getting less and less from each of those dollars they collect." But this approach also has political consequences, and becomes complex within the tangle of federal, state, county and municipal fuel excise taxes.

Some states are attempting to bring in more revenue by introducing electronic filing. "You make it easier to file taxes, you actually broaden the base of revenue you bring in," said Zahn, who noted that one state customer of FuelQuest grew revenue collection more than 13% after automating tax collection. More than one-half of states today have some form of electronic filing, he noted.

Speaking of electronic, some state legislators have proposed an even more curious option: Level the tax playing field between fuel-powered and electric vehicles. But here, the devil is in the details. Consider that 80% of all electric vehicles on the road today are charged at home, "So if you want to start taxing that 'fuel,' how do you do that?" Zahn asked. Some states have pondered a registration fee that reflects what the total fuel excise tax burden would be over the lifetime of the electric vehicle. "The fallacy here is there just aren't enough electric vehicles on the road," said Zahn. "If you're going to build a new bridge off of what make off that tax, I wouldn't make plans right away."

Some states have considered a vehicle mileage tax, where a tax is levied for every mile a vehicle--traditional or electric--travels.

There are many issues with this approach. For one, it would be politically unpopular since it is a new tax. It would raise concerns around privacy, since the government would monitor how many miles a vehicle drives. Unless its structure is adjusted, rural drivers would be taxed more than urban, since they have greater distances to travel and less access to public transit. And finally, who would pick up the cost for implementing it?

Scott Clevenger, senior director of product strategy at FuelQuest, said he does not expect any near-term increases in the federal fuel excise tax. Meanwhile, the infrastructure hole continues to deepen, with some projecting the HTF to fall into a $1 trillion hole by 2020. He predicted that the government will eventually justify an increase in the excise tax with the offset from higher fuel-efficiency standards.

"But there are a lot of cars still on road not getting 36 to 45 miles per gallon, and so they're going to have to bear the burden of that increase at some point," he said.

FuelQuest has suggested small steps to address the issue, including tying fuel excise taxes to inflation, mandating electronic filing of taxes, simplifying taxation and reducing congestion of traffic and the wear and tear on roads with the construction of more high-occupancy vehicle (HOV) lanes and even offering more flex time options for workers.

The company, which monitors state-level activity on taxes, believes motor-fuel excise taxes will increase in 2013 in many states.

"Where it gets complicated is how they address tax law changes," said Clevenger. "It's not as simple as increasing a rate. They're looking at new and very idiosyncratic ways of changing the point of taxation, changing the interpretation of how the tax is applied so they don't necessarily get the negative political implications of 'increasing a tax,' but through playing with numbers a little bit, they are actually able to generate more tax revenue."

For example, Alabama has changed the point of taxation to be at the rack.

"That was intended to simplify things a little bit, but really, it was also intended to capture tax at higher up in the transaction data flow," he explained. The state of Virginia is moving away from an excise tax toward a value or percentage-based tax, which, on the surface, would appear to have a net/net outcome. "But in reality, at the end of the day, it is an actual increase in tax that consumers are having to pay," he said.