A tax issue aimed at catalogers and other at-distance marketers will soon become a central topic in Washington: use taxes. As has become habit, use taxes have been tied to Internet-access taxes and now business-activity taxes, complicating discussions. Let’s look at the reasons for these bundled taxes more closely. ▪ In simplistic terms, use taxes are taxes on goods that will be used within the purchaser’s home state but that came from an out-of-state purchase or were bought from an out-of-state marketer. So if I bought a suit from a catalog or Web marketer not located in Virginia (my home state), I would owe Virginia a 4.5% use tax.
Most states have not enforced their use-tax laws on individual residents, but they would like to require remote sellers (read: nonvoters) to collect sales taxes on their behalf. Remote sellers have resisted, since they don’t necessarily have a physical presence in the state making the demand, are not represented in the state, and if they are nationwide sellers, would have to collect taxes for more than 7,600 jurisdictions with differing rates, differing definitions of goods, and differing applicability of sales taxes on goods.
The Supreme Court of the United States in its 1992 Quill v. North Dakota decision found that state laws requiring remote sellers that have no substantial nexus (physical presence) in the state to collect and remit taxes violate the Commerce Clause of the Constitution. Therefore, a state may not require out-of-state sellers to collect sales taxes on goods sold to the state’s residents. But — and this is a big but — Congress may give the states authority to require remote sellers to collect sales taxes from their citizens.
Another type of tax that has been the subject of arguments between the states and out-of-state businesses is business-activity taxes. These taxes are income taxes, gross receipts taxes, and other nontransaction taxes such as franchise fees and licenses.
Now let’s consider Internet-access taxes. As more households became connected to the Web, a few states saw taxes on the access fees charged by Internet service providers (such as AOL, Microsoft, and Earthlink) as a potential source of revenue. They passed laws taxing the Internet-access charges. Congress became concerned that a proliferation of these taxes would stifle the growth of the Internet and e-commerce. So Congress passed two Internet Access Tax Moratorium laws — the latest of which will expire Nov. 1 — that prevent states and localities from taxing Internet-access fees.
The mixing bowl
How did use taxes, business-activity taxes, and Web-access taxes become melded together in a Washington tax debate? It began with the Internet-access taxes. If Congress were to prevent states from collecting those taxes, states wanted something in return; in other words, let’s make a deal. The deal they sought was the ability to force out-of-state sellers to become their sales-tax collectors.
States are not the only group seeking mandatory collection of sales taxes for remote sales. Retailers and catalogers that collect in most if not all states believe that remote sellers have a competitive advantage if they do not collect sales taxes. Even though the consumer owes a use tax, states have not channeled resources into collection of taxes from their residents. Therefore, states argue that consumers do not pay the tax and can purchase “tax free” from remote sellers — even though the average cost of shipping and handling for most orders is higher than the average tax rate.
But those retailers have a stake in each state. Their employees can vote. They can take their case on taxes and enforcement to their representatives. Remote sellers can’t take their case to their representatives. They do not have representation in those states.
In addition, the burden on a marketer to collect more than 7,600 separate taxes, be subject to numerous audits, be subject to numerous definitions (are potato chips food or snack), and be subject to 7,600 tax returns is astronomical and expensive.
Think about a marketer receiving a check for an order. The check is for $109.56, but the consumer miscalculated the tax due by $2.00. Does the marketer refuse the sale for insufficient funds, bill the consumer for $2.00 and hold shipment, bill the consumer for $2.00 and ship immediately, or assume the $2.00 tax due and ship?
Finally, since the use-tax underpayment is caused by the failure of states to enforce their laws, marketers, if they are the solution, should be compensated for the expense of enforcing state laws — especially in states where they have no presence.
The states have tried to counter the burden arguments by establishing a Streamlined Sales and Use Tax Agreement (SSUTA). The goal here is to simplify the rules so that remote sellers could not complain about complexity.
But beware of a wolf in sheep’s clothing. Here is what the SSUTA has — or hasn’t — done:
- Makes no reduction in the more than 7,600 state and local tax rates (in fact, states can increase the number of jurisdictions)
- Provides no uniform definitions — only a requirement for “substantially the same language”
- Offers no reduction in potential audits
- Suggests that marketers should be compensated for tax collection but does not require adequate compensation
- Relies on a computer model to determine the proper tax due. Sadly, there is no such model. Will states wait to collect until the model is ready?
- Leaves it to the taxman to determine whether states are complying — talk about the fox in the hen house.
The business-activity taxes have been added to the equation as well. Will the states waive business-activity taxes for remote sellers? If not, once a state has a record of a marketer doing business in the state, will it begin to access income taxes, franchise fees, licensing fees, etc? The state just might.
In another twist, I understand that the European Union is eagerly awaiting congressional action to allow states to force remote sellers to collect their taxes. Why? Because the EU wants to have U.S. companies selling to Europeans to collect taxes for them too. When I have raised these issues with state tax collectors, ironically their response is that the Congress would never allow U.S. companies to become tax collectors for foreign powers when the company does not have a physical presence in those countries.
Where things stand
The House of Representatives has held a mark-up on a bill to make the moratorium on Internet-access charges permanent. The House may pass this bill. On the Senate side, however, I do not foresee the passage of any bill making the moratorium permanent. The Senate would want to “give” the states some remote sales tax authority.
Some bill must become law by Nov. 1. Maybe another two-year extension will become law. In the meantime, do not be fooled by claims of simplification. Read the fine print. Once states have authority to tax, there will be no way out for remote sellers that have no constituents in the state.
Jerry Cerasale is senior vice president for government affairs for the Direct Marketing Association.
What’s It Worth?
A University of Tennessee study estimated that by not collecting sales taxes on remote sales, states would miss out on $26.3 billion in tax revenue this year. That study, however, assumed an eye-popping 38% growth in Internet sales. Nor did it account for collections already occurring in b-to-b commerce or the added collections from multichannel marketers that have nexus in multiple states.
The Direct Marketing Association commissioned a study that found the true uncollected amount was one-tenth (or $2.5 billion) in sales taxes in 2003 — significantly less than states expected. This smaller sum wouldn’t enable any state to balance its budget on remote sales tax collection. This then raises a question of potential anger and mistrust of remote sellers by the tax collectors if mandated collections do not meet expectations.
— JC