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Internet Sales Tax Fairness
In a 1992 decision, the United States Supreme Court exempted out-of-state retailers from collecting sales taxes in states where they have no physical presence, such as a store, office, or warehouse (the legal term for this physical presence is "nexus"). Although the case dealt with a mail order company, the ruling has subsequently been applied to all remote sellers, including online retailers. The Court cited the burden of requiring these companies to comply with the regulations of some 7,500 different local taxing jurisdictions and the resulting adverse impact on interstate commerce (see Quill v. North Dakota.) The Court specifically noted that Congress has the authority to change this policy by enacting legislation requiring all retailers to collect sales taxes. To date Congress has not done so. The result is a public policy with at least three pernicious impacts:
- It subsidizes the growth of distant companies, which contribute little to a community's civic and economic vitality, by giving them a 4 to 9 percent price advantage over local stores.
- It undermines state and local governments by reducing tax revenue for schools, police, and other services—a revenue loss that will only grow as internet sales continue to displace in-store sales. Currently, 45 states assess sales taxes, from which they receive at least 25 percent of their total revenue each year. (See this state-by-state estimate of sales tax revenue losses from e-commerce.)
- It makes a regressive tax more regressive, because only those with Internet access and a credit card are able to take advantage of the tax exemption.
(It is important to note that, while remote sellers are not required to collect sales taxes, the tax is still owed by the individual who made the purchase. Individuals are suppose to keep track of these purchases and pay an amount equivalent to the sales tax as a "use" tax on their state tax returns. Few people do, however, and the policy is almost impossible to enforce, which effectively exempts these purchases.)
Some states are working to change this policy and establish a level playing field where all retailers are under the same requirement to collect state and local sales taxes. They are pursuing two primary strategies.
One involves persuading Congress that collecting sales taxes for multiple jurisdictions is no longer a burden. Indeed, software now makes complying with local sales tax rules relatively simple. But to further simplify things, the National Governors Association (NGA) has developed the Streamlined Sales Tax Project (SSTP), a multi-state effort to simplify and align sales tax policies. As of 2008, 43 states have approved a model interstate agreement that establishes uniform sales tax rules and definitions. Twenty-two of these states have enacted implementing legislation. Under the new policies, states and cities will still have the authority to determine what goods are taxed at what rate, but must adhere to rules governing such things as how and when they can change tax rates, as well as uniform definitions (e.g., whether marshmallows are considered food or candy for tax purposes). It is hoped that by streamlining the sales tax system the states will eliminate one of the principal objections by Congress to extending sales taxes to the web (i.e., multiple taxing jurisdictions with different rates and coverage) and will lead Congress to enact the Taxation Fairness Bill, which would require e-commerce enterprises to collect sales taxes.
The second approach states are taking to extend sales taxes to internet and mail order retailers does not rely on Congressional action, but instead uses existing state authority.
State action in recent years has contributed to a significant decline in the number of so-called "clicks-and-mortar" retailers attempting to skirt collecting sales taxes on their online operations. Many national chains, despite having nexus in every state by virtue of their stores, have claimed their e-commerce sites were distinct legal entities, unrelated to their bricks-and-mortar stores and therefore were exempt from collecting sales taxes. This practice is known as "entity isolation."
States have challenged this practice in a number of ways. In 2001, the California Board of Equalization ruled that Borders.com was not a separate entity, but the online extension of the Borders Books & Music chain and therefore must collect sales taxes on sales to California residents. In the following years, several states, including Alabama, Arkansas, Kansas, Indiana, Louisiana and Minnesota, amended their sales tax laws to clarify that the e-commerce arms of national chains still have nexus and that entity isolation does not absolve them of their obligation to collect sales tax. On the other hand, courts in at least three states -- Ohio, Pennsylvania and Connecticut -- upheld entity isolation as a legitimate means of avoiding state sales taxes.
Increasingly concerned about the threat of court action by states and the potential liability, as well as the complexity and inefficiency of attempting to treat the e-commerce side of their operations as a separate company, in 2003 most national chains cut a deal with the states in which they were forgiven all of their back taxes in exchange for collecting sales taxes online from that point forward. Although most national chains now collect sales taxes on online orders, there remain a few that do not.
Then in 2008 New York became the first state to extend its definition of nexus to cover some web-only retailers, including Amazon.com. The legislature passed a bill, accompanying its budget, that said that web retailers have nexus in New York and must collect sales taxes if they have sales affiliates in the state who generate a combined total $10,000 a year or more in revenue for the retailer. (Sales affiliates are individuals or organizations that are paid commission for linking to the online retailer's web site. Amazon.com has thousands of sales affiliates nationwide.)
RULES:
STATE:
- Sales Tax e-Fairness - Arkansas
In 2001, Arkansas enacted legislation that clarifies existing tax law to indicate that entity isolation does not exempt retailers from collecting sales taxes.
- Sales Tax Ruling - California
In 2001, the California Board of Equalization ruled that Borders.com was not a separate entity, but the online extension of the Borders Books & Music chain and therefore must collect sales taxes on sales to California residents.
- Sales Tax e-Fairness - Indiana
Indiana's law, passed in 2003, is a strong example of an "expanded nexus" statute.
- Sales Tax e-Fairness - New York
In 2008, New York included with it’s budget a bill that requires many online retailers to begin collecting sales taxes on purchases shipped to the state, even if they have no operations or employees working there.
- Sales Tax Fairness - North Carolina and Sales Tax Fairness South Dakota
These two states have enacted laws that require the state to purchase goods and services only from companies that collect sales tax on all sales in the state.
FEDERAL:
- Federal Tax Fairness Bill
Under this bill introduced by Senator Michael Enzi (R-WY) in 2007, once 10 states representing at least 20 percent of the population have joined an Interstate Sales Tax Compact, they would be authorized to require companies with more than $5 million in annual gross sales to collect and remit sales taxes on remote sales (i.e., internet and mail order sales).
INTERNATIONAL:
- Internet Taxation in the European Union
Unlike the United States, the European Union never considered making the internet a tax-free zone. To exempt internet sales from taxation, in the European view, would be to violate the principle of neutrality, as described in an OECD report on the "framework conditions" for electronic commerce.
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