With the war in Iran driving gasoline prices above $5 per gallon in many states and diesel prices above $7 per gallon, politicians have been called on to act. Since the Trump administration launched military action against Iran on Feb. 28, several states, including Georgia, Illinois, Indiana, North Carolina, and Ohio, have either suspended state gas taxes or paused planned increases to their fuel taxes.
In most cases, states are backfilling the lost revenue by shifting general funds or rainy-day funds, which is less disruptive than cutting spending on planned and ongoing transportation projects, but this plan creates its own problems.
In most states, the fuel tax is the primary way highways are funded. It funds new construction, maintenance of existing highways, and roadway operations. While the fuel tax’s share of overall highway funding varies by state, it accounts for 50% to 100% of highway spending.
But the fuel tax is more than just a funding source. It embodies the users-pay/users-benefit principle that has guided states’ highway funding for the last 100 years. The users-pay system has five advantages over general-revenue funding:
- Fairness: Those who pay gas taxes or fees benefit from using the roads;
- Proportionality: Those who drive more pay more and those who don’t drive don’t pay gas taxes;
- Self-limiting: User tax revenue dedicated to a specific purpose faces a de facto limit established by agreed-upon investment needs;
- Predictability: A user tax or fee is consistent and independent of the politics of the general budget; and
- Investment signal: A user tax or fee answers the question of how much investment to make.
While each of these principles is important, predictability is especially vital for long-term infrastructure such as highways and bridges.
Most states, 45 of 50, issue bonds for some of their projects. Like a house, a major road project is a long-term investment. Like most homeowners, most state departments of transportation (DOTs) borrow to build needed projects immediately rather than waiting to accumulate enough cash to pay for them up front. Financing highway projects can prevent crippling traffic congestion and replace structurally obsolete bridges. As a result, state transportation departments use bonds to fund many of these projects. These bonds are secured by a dedicated revenue source, often a portion of the fuel tax.
Many states are turning to the general fund to cover reduced gas tax revenues. However, with general fund money, transportation must compete with other policy areas, such as education, health care, and law enforcement, as well as pet projects some state legislators prioritize over transportation.
Another potential revenue source for transportation is a portion of sales tax revenue. Sales taxes play a role in transportation and can be a good funding source for transit. Some states, such as California and Georgia, use sales taxes as local voter-supported options to fund county and city projects. However, while a sales tax can be dedicated to a specific purpose, it is not a users-pay approach because there is no link between how much somebody uses the facility and what they pay for it. Sales tax revenue varies with the economy, nosediving in recessions (even more than fuel taxes), making it an unreliable funding source.
To issue bonds, sales taxes require specific legal authority granted to a DOT, something many states are unwilling to do. Sales taxes can be politically problematic. Because they are regressive, Democrats typically want to keep them low, while Republicans in many states have been replacing state income taxes with sales taxes. But if your sales tax is 8% or higher, do voters want to add another percent or two to most purchases for transportation?
Most state fuel taxes are relatively low, making up less than 10% of the price of gasoline and diesel. Compare this to Europe, where the fuel tax often makes up 50% of the price of gasoline.
In states suspending their gas taxes, only 60%-87% of a fuel tax suspension goes to drivers. The rest is pocketed by the distributor. If we assume an 80% pass-through, suspending the state average fuel tax of $0.33 paid per gallon off a $5.00 gallon of gas is only likely to lead to a savings of $0.26 per gallon, because much of the difference is pocketed by the fuel distributor.
Let’s examine how this type of suspension would affect America’s best-selling car, the Toyota Camry. A Camry has a 13-gallon fuel tank and gets a combined (highway/city) 46 miles per gallon. The vehicle can travel 598 miles between fill-ups. Suspending the fuel tax would save a driver $3.38 per fill-up, or 0.006 cents per mile driven.
But not every vehicle is a hybrid Toyota Camry. Even a Ford F-150 with a 23-gallon fuel tank that gets a combined 25 miles per gallon would net a driver closer to $6 per fill-up, or 0.01 cents per mile. While the savings certainly help some low-income drivers, they undermine that state’s infrastructure.
Reason Foundation has always promoted streamlining transportation agencies, prioritizing needs over wants, using public-private partnerships to improve effectiveness and reduce costs, and examining new users-pay concepts such as mileage-based user fees.
Fuel tax holidays are political gimmicks, not solutions. Gas taxes are paid by the users of roads and bridges to maintain them, which is critical to the nation’s economy and our mobility. No one likes paying more at the pump, but gas tax holidays defer maintenance and make future repairs more expensive. Lawmakers should focus on the war in Iran that is driving up gas prices, not on political theater that will leave drivers paying more down the road.