Thursday, February 11, 2010

Resorting to Taxing Resorts

Arizona's Espresso Pundit has a short post on the irony of two stories in the Arizona Republic. One laments the low rates that local hotels and resorts are receiving while the other talks about a proposed increase in hotel taxes (bed tax) in Scottsdale.

From an educational standpoint the timing of these articles couldn't be better. In Microeconomics we're just starting into elasticity, and we'll follow it up with tax incidence - both of which are apparent in the articles.

First the basics. The demand for hotel rooms, especially at resorts is price elastic. It's perceived as a luxury with lots of available substitutes. Meanwhile, the supply is perfectly inelastic. Hotels and resorts have a fixed number of rooms to rent per night, and they really want to keep them full. Some revenue is almost always better than no revenue for a room.

What happens is hotels and resorts tend to adjust room rates to try to keep the place full. When demand decreases, as it has with the recession, they lower rates one way or another.

The all-suite resort is dangling some enticing peak-season rates to grab guests, however. One offer: $279 a night with $100 in resort spending money thrown in each night.


Jesse Thompson, director of sales and marketing for the Hotel Valley Ho, will remember last year as "the least profitable one to date." The 194-room boutique hotel reopened in late 2005, in time for the boom years of 2006 and 2007.

Thompson said the Valley Ho's occupancy wasn't horrible last year, but room rates were.

"That's what killed everybody," he said. "The rates were so impacted that the revenues just aren't there."

The average daily rate in metro Phoenix fell 15.4 percent, to $105.72 from $124.93. Scottsdale saw a steeper decline, at 18.2 percent.

The second piece you need to know is that the tax incidence (who really pays the tax) depends on the elasticities. Whoever is more inelastic bears most of the tax. In the case of resorts, where the supply is perfectly inelastic, the resort bears the entire cost of the tax. Look at it this way. If a hotel wants to fill up, it has to lower it's price. If a tax increases the price, the hotel just has to lower it's price even further. The consumer doesn't care if they are paying the hotel or the city. It's still a cost for the room for the night. If it is lower somewhere else, that's where they will go.

There is an assertion in the article that people only look at the room rate, not the total cost with taxes.

Michael Hughes, vice president of research for "Tradeshow Week" magazine, said that "most event organizers do not look at hotel tax rates when comparing cities. And most attendees do not factor in taxes when making a decision to attend an event."

Voters are less likely to oppose a bed tax increase because it's paid by visitors, he said.

Web developers tell us that this is not true. They note that people booking online go very deep, right up to the point of paying for the room, and then bounce out. What these consumers are doing is looking at the total cost, including taxes, and then looking elsewhere. (We've learned this from booking airline tickets online. Just think about the extra fees compared to the air fare.)

Might I also note that if I'm a corporate manager that employs an event planner that doesn't take room taxes into account, I'm going to fire that event planner.

In simple terms, what Scottsdale is proposing to do with its increased bed tax, is tax the resorts. When the resorts are hurting for business, and going out of business, this doesn't make a lot of sense.



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