Online US Local Sales Taxes Unworkable

by Mike Godfrey, Tax-News.com, Washington

01 May 2009

Commentators and analysts across America have highlighted the impracticalities for e-tailers to collect local sales taxes. Legislators need to bring forward proposals that are workable.

The National Conference of State Legislators (NCSL) is sponsoring a bill in Congress to enable states participating in the Streamlined Sales Tax (SST) initiative to require all online retailers and mail order companies to collect and remit sales tax from consumers who live in those states. The SST initiative, instigated in 2002, standardizes sales tax regulations to reduce the administrative burden on retailers. Until now, retailers have only had to collect and remit sales taxes on web sales in states in which they have a physical presence. This usually meant only one or a handful of states even for the likes of Ebay and Amazon.

This type of legislation has been tried in every Congress since 2003, but has never passed either chamber. However the sponsors think this time will be different because of the many black holes in the finances of the states that Congress can not ignore easily. According to the Nelson A. Rockefeller Institute of Government, sales tax collections were at their lowest levels in 50 years at the end of 2008. Fourth-quarter 2008 sales tax revenue fell by 6.1%, and preliminary figures for the first three months of 2009 suggest even steeper declines. A recent study concluded that collecting the sales tax presently due legally but uncollected could add up to USD12bn in revenues by the end of 2012.

A 1992 ruling by the U.S. Supreme Court, in Quill v. North Dakota, determined that out of state retailers can not be required to collect sales tax on purchases where they did not have a physical presence. Compelling merchants to adhere to the complexities of the state and local tax codes would place an unreasonable burden on interstate commerce. New York took an aggressive stance on the Quill ruling, claiming that merchants like Amazon hold a physical presence in New York because it derives sales through affiliated sellers based there and introduced the requirement for such e-commerce entities and those who advertise through New York based websites to collect sale tax through its budget regulations. Amazon.com and Overstock.com have pulled advertising from all New York sites and are challenging the New York ruling through the courts.

Joe Henchman, tax counsel at the Tax Foundation, a tax-reform research group in Washington, D.C. advises that there are more than 7,400 state and local tax codes in the US and for retailers complying with the nuances of each will be extremely expensive and burdensome. Conventional retailers have to keep track of just one tax law at a time, while online retailers would have to keep up with 7,400 different systems. A neutral tax system would have all retailers collect tax on one standard. Critics of the SST initiative complain that it is mired in bureaucratic infighting among the member states, and if Congress followed its recommendations, the state and local tax codes would still be far too complex and not encompass the whole Union with important states like New York outside the scope of SST.

Jonathan Johnson III, president of online retailer Overstock, has opposed efforts to force retailers to become sales taxes collectors. "If we ship something out to Long Island right now, we don't know what sales tax to charge or collect. And there may be two or three different levels. There may be a state [tax] level, a county level and a city level," Johnson said. After New York's law was passed, Overstock.com terminated agreements with some 3,400 Web sites that once promoted the retailer in New York. Under the current rules, sales taxes often have no rhyme nor reason. Shoppers living in Vermont, for example, aren't required to pay sales tax at the time of purchase when buying on Amazon.com. New Yorkers, meanwhile, can avoid paying sales tax when they shop at Overstock.com.

Under the bill, which is still being drafted, the states would compensate e-tailers for the cost of collecting taxes, and would agree not to prosecute them for tax errors, removing much of the liability, says Neal Osten, federal affairs counsel at the National Conference of State Legislatures, which is helping to draft the bill. Minnesota's House of Representatives will soon consider a bill that would levy a sales tax on digital downloads of e-books, music, movies, and even ringtones. Priceline.com has about 50 lawsuits pending that involve various cities and counties trying to impose local hotel occupancy taxes on the site's customers, says Darrel Hieber, partner at law firm Skadden, Arps, Slate, Meagher & Flom, which has represented Priceline in such cases since 2004. Such taxes affect another range of on-line businesses, including Microsoft and Apple - the extra layer of complexity making the opposition even more widespread.

One possible solution would be to have a simplified sales tax across the country for Internet sales. An alternative would be to simplify sales tax across the country for both internet and ordinary retailers. However it seems the states are unlikely to countenance a certain loss of autonomy and local democracy in order to increase revenues across the board in an even-handed and uniform manner - judging from the slow and convoluted progress made by the SST initiative.

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