As Web Tax Moratorium Runs Out, Confusion Grows

With friends like these on Capitol Hill, catalogers and Internet marketers don’t need enemies.

The Internet Tax Freedom Act, approved as H.R. 4328 and signed into law as Public Law 105-277, was written largely to encourage the growth of Internet access and e-commerce. Approved in October 1998, it enacted a three-year moratorium on Internet access taxes and on discriminatory taxes on Web commerce, which is scheduled to expire Oct. 21.

But in trying to protect online marketers, the legislation actually opened up the possibility that states and municipalities may be able to charge taxes on remote purchases in the near future.

“Without some kind of tax simplification, I don’t think remote sales tax can be imposed on marketers,” says Jerry Cerasale, senior vice president of government affairs for the Direct Marketing Association.

But with the deadline on the three-year moratorium nearing, Sen. Ron Wyden (R-CA) and Rep. Christopher Cox (R-CA) on Feb. 8 introduced the Internet Tax Nondiscrimination Act (S. 288). The bill seeks to extend the moratorium for another five years and to require states to simplify their tax laws. Yet Cox, Wyden, and legislators such as Sen. Patrick Leahy (D-VT), who cosponsored a Senate version of the Wyden-Cox bill, say they don’t want states to charge additional taxes on e-commerce.

Since 1992, a Supreme Court decision has protected catalogers and other direct marketers from collecting remote sales taxes. The Court’s decision in Quill Corp. v. North Dakota determined that marketers without nexus, or physical presence (such as an office or a store), in a state cannot be forced to collect and remit sales tax on purchases made by customers in that state.

Public Law 105-277 makes a point of supporting Quill. Section 1101(b), “Preservation of State and Local Taxing Authority,” declares “Except as provided in this section, nothing in this title shall be construed to modify, impair, or supersede, or authorize the modification, impairment, or superseding of, any State or law pertaining to taxation that is otherwise permissible by or under the Constitution of the United States or other Federal law and in effect on the date of enactment of this act.”

In plain English, Sec. 1101(b) seeks only to maintain the status quo. But by raising the issue, the law opened the door for legislators to debate the issue of Internet taxation. At the heart of the debate is whether merchants with an e-commerce site have a global nexus. If a consumer in Texas can call up the online store of a marketer based in Ohio, does the marketer in effect have a physical presence in Texas?

Benefiting from confusion

If the moratorium is not extended, states and local jurisdictions would be allowed to impose discriminatory taxes on Internet sales. In layman’s terms, these are taxes of inequal value to taxes imposed on offline shopping.

But the DMA’s Cerasale, for one, doesn’t think states would race to do so. “The state of the dot-com industry has removed some of the pressure [for remote and discriminatory taxes] because it’s not doing so well,” he says. “States won’t want to burden it with extra costs. But on the flip side, the current economy might shrink state coffers, which could push states to want to collect.”

The sheer depth, breadth, and contradictory requirements of local tax laws could also prevent states and municipalities from taxing e-commerce immediately, should the moratorium not be extended. “There are more than 7,000 jurisdictions in this country that could, if it were allowed, impose their own tax laws on Internet marketers,” Cerasale says. Without some kind of simplification, marketers would have to register, collect, and remit discriminatory taxes where required for each one of those jurisdictions. The jurisdictions recognize this as an impossible task. Which is why simplification of the tax codes is being touted as a prerequisite to the eventual imposition of discriminatory taxes — and to states’ attempts to reverse the Quill decision.

Since tax simplification is viewed as a key step toward possible taxation of e-commerce, why would Cox and Wyden, who profess to be against the imposition of discriminatory taxes, include it as part of their proposal for extending the moratorium? One word: compromise.

Apparently a number of jurisdictions are eager to simplify their tax codes. But assorted interest groups that could face a tougher tax burden often oppose simplification. In a Feb. 8 press conference, Wyden said, “I want to make it clear that there is nothing in the current Internet tax freedom law that prevents a state from going out right now and simplifying its sales-tax collection procedures. The reason they don’t do it — and we’ve heard testimony before the Senate last session — is that they don’t want the political heat. But we are prepared to extend an olive branch to the states.”

That olive branch is the clause mandating that the states must try to simplify their taxes. Interest groups don’t want their tax exemptions taken away? If the bill is passed, the states could say, Sorry, guys, Congress says we gotta.

Where does this leave us?

As of now, it’s too early to tell whether the Cox-Wyden bill will be approved before the Internet Tax Freedom Act expires in October. In the meantime, some states are going ahead with their own tax simplification plans.

On Dec. 22, 29 states approved a blueprint for simplifying their sales tax codes, one that they hope Congress will enact this year. The member states of the Streamlined Sales Tax Project voted 26-0 (with three abstentions) to submit to the National Governors’ Association and the National Association for State Legislatures a plan calling for one or more third parties to determine and administer a uniform model of the types of products sold by e-commerce and catalog that could be taxed. Under the proposal, however, the states would have flexibility in determining what rate to charge.

The DMA’s Cerasale believes that if the current moratorium is not extended, some of the pressure to simplify taxes, impose discriminatory taxes, and ultimately redefine nexus will ease. “But it will build back up again, and it will continue to be an issue,” he warns. And if the moratorium is extended, it is likely that tax simplification will be mandated as well.

At the Feb. 8 press conference, Wyden said, “When I asked Alan Greenspan at last week’s budget hearing about the consequences of a significant number of these [7,500] jurisdictions going out and imposing taxes, he said he didn’t even want to contemplate it.”

Simplifying States

The 29 states that are members of the Streamlined Sales Tax Project: Alabama, Arkansas, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maryland, Michigan, Minnesota, Mississippi, Missouri, Nebraska, New Jersey, Nevada, North Carolina, North Dakota, Ohio, Oklahoma, Rhode Island, South Carolina, South Dakota, Tennessee, Texas, Utah, West Virginia, Wisconsin, and Wyoming.

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