Spotlight on the States: Internet Sales Tax

Breaking from traditional posts in our Spotlight on the States series, this blog focuses not on one state's budget, but on an issue that directly affects nearly every state's budget: the collection of sales tax from internet sources. For the past ten years, internet sales have skyrocketed as more and more shoppers take their shopping to the web. In a widely acknowledged tax loophole, online vendors are not required to charge sales tax on internet purchases since their stores are often located in a different than the customer.

Brick-and-mortar retailers like Wal-Mart claim that the availability of tax-free purchases over the internet unfairly incentivizes consumers to choose internet retailers for otherwise substitutable goods. However, major internet retailers, such as eBay and Amazon, rely on this positive incentive to overcome the bias many consumers have in favor of long-established brick-and-mortar retailers. Major online retailers, which have no specific state affiliation, also argue that a regulation forcing them to comply with every state tax code in which they receive orders will create a huge burden on their business.

At issue is the fact that an internet retailer with a location in one state can sell an item to a person located in another state, yet neither state receives the sales tax revenue. A 1992 Supreme Court decision, Quill Corp. v. North Dakota, ruled that retailers are exempt from having to collect sales taxes in states where they don't have a physical presence. However, since the issue falls under the definition of interstate commerce, the Supreme Court also said that Congress has the ability to allow states to collect these taxes. 

The increased budgetary pressures on states in the past few years has pushed the sales tax issue into the spotlight as a means of reducing budget deficits. Three different versions of an internet sales tax bill have now made their way into Congress: The Main Street Fairness Act, The Bipartisan Marketplace Equity Act, and The Marketplace Fairness Act. These proposals would give states the ability to force online retailers to collect taxes or the ability to alter their tax systems with respect to online retailers.

  • The Main Street Fairness Act, introduced this summer by Sen. Dick Durbin (D-IL) and Rep. John Conyers (D-MI), would give states the authority to mandate that online retailers collect taxes. It would also require that states first agree to simplify their sales tax codes by signing on to the Streamlined Sales and Use Tax Agreement, which would standardize product definitions and filing requirements (except for small businesses), among other things.
  • The Bipartisan Marketplace Equity Act (MEA), introduced in mid-October by Reps. Steve Womack (R-AR) and Jackie Speier (D-CA), would also enforce tax collection from internet retailers and require states to simplify their codes. It includes a similar exemption for small businesses that make $1 million or less in online sales or a $100,000 or less in a particular state. 
  • The Marketplace Fairness Act, introduced by Sens. Lamar Alexander (R-TN), Dick Durbin (D-IL) and Mike Enzi (R-WY), would not require states to alter their tax codes; it would instead allow states to choose how to re-work their tax systems to make it easier for online retailers. They also include an exemption for small businesses with annual sales of less than $500,000. This bill has been endorsed by Amazon. 

The scope of the issue is in fact much wider than many may expect; a report by the National Conference of State Legislatures estimated that states would serve to gain $23.3 billion in 2012 alone with the collection of internet sales taxes. Given the size of some states' budget deficits, this revenue could go a long way towards closing fiscal gaps.