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Internet Tax Issue Unresolved

Later this year, Congress will decide whether to extend or make permanent the current moratorium on Internet sales taxes.

By Ron Chepesiuk

The 107th Congress will deal with many important business issues — the high cost of health insurance, the future of the estate tax, consumer information privacy. However, none will have such significance as the question of an Internet tax.

In 1998, Congress enacted The Internet Tax Freedom Act, which provides for a three-year federal ban on the state taxation of Internet transactions. The moratorium expires next October, and legislators are expected to vote on whether to extend the ban or make it permanent. Their decision will affect Asian American brick-and-mortar and e-commerce businesses.

“This issue impacts on any business selling goods and services over the Internet, and we at Nano are keeping an eye on the issue to see where it’s headed,” said Wellie Chao, vice president of business and technology strategy at Nano, a New York-based software company founded in 1999.

Sidney T. Yee, President of the New York-based Cyberasia, a technology communications company that focuses on marketing Asian multiculturalism, said that the Internet taxation issue doesn’t directly affect his company.

“As an Internet professional, I would like to see the issue carefully considered and resolved,” Yee added.

Internet Resources on the Taxation Issue Vertex Library (www.vertexinc.com) Provides information on Internet taxation across the U.S. Cal-Tax Digest (www.caltax.org/ ecommerce.htm) Offers links to resources dealing with the Internet taxation debate IBM Corporation (www.ibm.com/ibm/ publicaffairs/etax.html) The company provides a brief rundown of the Internet taxation issue, including the global effect. U.S. Government E-Commerce Policy (www.ecommerce.gov) Provides current information on national and international Internet taxation policy. Center on Budget and Policy Priorities (www.cbpp.org) Articles examining the effect of a moratorium on Internet taxation. Look through the list of articles located at www.cbpp.org/ pubs/fedtax.htm The Internet Tax Freedom Act (cox.house.gov) From U.S. representative Christopher Cox, a summary of the Act, related articles and news. Type “Internet taxation” into a search engine.

The to-tax or not-to-tax question has been hotly debated during the past three years as e-commerce has grown and struggled to establish itself. On one side are those who argue that the Internet needs to be nurtured if it is to reach its full potential. “I believe in the free spirit of the Internet and I don’t want to see it compromised,” said Shahab Ahmed, the Indian American owner of Cy-Info.com, an Internet development company .

Tax proponents, on the other hand, contend that not paying a sales tax on goods sold over the Internet is unfair to brick-and-mortar businesses, which must collect that tax. As Judith Lee, a partner in the Washington D.C.-based law firm of Gibson, Dunn & Crutcher LLP, pointed out, “Governments don’t think it’s fair to have their tax base eroded by the business being conducted in cyberspace.”

According to recent studies, the money that government could be losing by not taxing the Internet is substantial. In a February 2000 report, Forrester Research, a Cambridge, Mass.-based marketing research firm, estimated that, of the nearly $13 billion in taxable retail goods sold online in the United States in 1999, only 20 percent was taxed by states.

States losing the greatest amount of online sales tax revenue were California with $73.8 million in missed revenue; Texas with $51.9 million; Illinois with $32.6 million; Florida with $30.3 million; and New York with $26.6 million.

By not taxing e-commerce, Colorado could lose more than $700 million in sales tax by 2005, the Pikes Peak Area Council of Governments, a government advisory group, warned in January. Nancy McCalllin, director of the Colorado Office of Placement and Budget, said the money the Council estimates Colorado would lose represents about 67 percent of the projected sales tax revenues for the period.

GETTING THEIR SHARE

The fact that government is not getting a cut from cyberspace transactions has prompted some states to introduce legislation that would make businesses operating within their jurisdictions charge sales tax on online transactions. In California, Internet sales tax supporters have tried to push a bill known as AB412 through the legislature, but Governor Gray Davis vetoed it in September. The bill would have required businesses with both a physical and online presence to levy the same taxes on all their sales.

“For the Internet to reach its full potential as a marketing medium and job creator, it must be given time to mature,” Davis said in a statement he made to the State Assembly. “At present, it is less than 10 years old. Imposing a sales tax on Internet transactions at this point in time in its young life would send the wrong signal about California’s international role as an incubator of the dot-com community.”

Supporters of AB412, however, say they haven’t given up, and vowed to introduce the bill in the State Assembly. “The veto message is inaccurate,” Carol Migden, D-San Francisco, told E-Commerce Times. “The bill doesn’t expand taxation for electronic sales. It just reaffirms existing law today. I believe big business and small business should abide by the same laws.”

Actually, it’s not accurate to say that the current U.S. moratorium on Internet taxation bans taxing goods sold on the Internet. “States can tax [Internet transactions] if they want, because the Internet Tax Freedom Act doesn’t really prohibit them collecting sales tax from online purchases,” said Catherine Mann, a Research Fellow with the Washington, D.C.-based Institute for International Economics and the author of Global Electronic Commerce: A Policy Primer.

Mann pointed out that the Act prohibits taxes on Internet access, taxes on specific products sold online that are not taxed offline, and duplicate taxes on transactions that two or more states could tax.

E-merchants are only required to collect a sales tax if they are physically located in a purchaser’s state. If no sales tax is collected on a purchase, consumers are required to report their purchases to their state revenue department and pay a tax equal to the amount of the sales tax that would have been collected if the purchase had occurred in their home state.

Some states have made little effort to collect the Internet tax, while others ask out-of-state businesses to report sales made to residents in their states. When states reserve that right, they notify residents that they are liable for the tax.

NO NEW TAXES

Many Asian American e-merchants and e-company executives contend this isn’t the time for states to collect Internet tax. They point to the current downturn in e-commerce and to the many dot-coms that have gone bankrupt or out of business. Mie-Yun Lee, owner of Buyerzone.com, a premier Internet purchasing hub for small and medium size businesses, would like to see the Internet made a tax-free zone.

“It will give a boost to e-commerce,” she said. “Besides, anything that can be done at this point to further the well-being of the medium can only help the overall economy.”

David Carroll, CEO and CFO of the New York-based BestEdeal, a price comparison-shopping Web site founded by Kenneth Chen, agreed. “From our perspective, we think taxation would be very damaging to Internet development because it’s growing slower than expected,” Carroll said. “People are still easing into e-commerce. Even today, you don’t see many consumers making online purchases. They are making smaller purchases at well-known sites.”

Alex Chang, vice president of strategy at Nano, believes that brick-and-mortar stores benefit from e-commerce. “The Web is convenient for shopping, so many people go to it for information and then to the local brick-and-mortar store to buy the goods or services,” Chang explained, “so in that way, e-commerce benefits brick-and-mortar companies.”

Chang, like many others in e-commerce, would support the idea of paying an Internet tax if money were put back into Internet development, to help the medium strengthen its infrastructure.

But according to independent analysts, a tax would have little effect on the Internet’s growth. As Mann explained, “The problems facing e-companies has nothing to do with taxes. It has more to do with the fact that many dot-coms haven’t come up with viable business models, and with sound strategies that ensure consumer trust.”

CRUNCHING NUMBERS

In November the 300,000-member National Taxpayers Union (NTU), a nonprofit, non-partisan organization working for lower taxes, released a study that found actual losses due to uncollected Internet taxes are minuscule. The shortfall amounted to only .06 percent of all 1999 state and local tax receipts. Moreover, e-business contributes billions in corporate income, property, personal income and other tax revenues to the state treasuries. Revenue has pushed state and local sales receipts up thirty percent over the past five years, the NTU report revealed.

“Many politicians feel the urge to ‘do something’ about Internet taxes, but that should be no excuse for a massive expansion of sales tax collection that also undermines free trade federalism,” said Paul Gessing, NTU policy associate and the study’s author. “Leaving e-commerce alone may be the best option for the future of our economy.”

Internet tax opponents also contend that it would be excessively burdensome to collect and remit taxes to thousands of different taxing bodies that presently exist in the U.S. Once again, there is sharp disagreement.

“My gut feeling is that the issue is so complicated that nothing is going to change for a while,” explained William A. Tanebaum, Chair of Technology and E-commerce Group at the New York Kaye, Scholer law firm, which specializes in Internet law. “Congress has struggled with the issue’s complexity, and that’s why legislators have felt that it’s probably best to postpone any decision.”

This past December, however, a coalition of states voted to approve a plan to simplify their sales tax codes, which could pave the way for states to collect revenue from Internet sales and catalogs. The member states of the so-called Streamlined Sales Tax Project (California wasn’t one of them) voted 27 to 0 to approve the plan, which calls for third-party companies to determine and administer the sales tax on e-commerce and catalog transactions, in hopes that some states will pass it into law in the 2001 legislative session.

At a congressional hearing of the Streamlined Sales Tax Project held last October, witnesses testified that developing a database to calculate the correct sales tax based on the purchaser’s zip code is doable. Robert Molloy, vice president and assistant general counsel of Staples, the office supply company, testified that his company was already doing it.

But a simplified sales tax for the U.S. doesn’t help the Internet taxation issue at the international level. How does the global community go about taxing transactions between countries, when cyberspace knows no physical boundaries? “It will be almost impossible to harmonize the tax codes of countries,” Mann said. “The principal form of taxation in the U.S. is the income tax, while in the rest of the world it’s the value added tax. In the past, the differences in the tax regimes have made it difficult for countries to deal with cross border taxation issues.”

So don’t expect any big changes on the Internet tax issue any time soon. The bet is that Congress will most likely extend the moratorium on an Internet tax when it votes on the issue this fall. “I don’t think Congress wants to do anything right now, given the volatility of e-commerce and the stock market,” said David Weiss, director of marketing for E-Touch, a San Jose-based application service provider.

Chang agreed. “There are so many disparate views in Congress on the subject, and that’s going to make it tough to push a tax through,” he explained.

Sources, however, believe that some form of tax will eventually be imposed on the Internet. Two major reasons make it inevitable, according to Tanebaum. “Every brick-and- mortar company is going have an e-commerce component, and it’s going to be difficult for those companies to accept being taxed when the pure online ones aren’t,” he explained. “Further, as more companies go online, the individual states are going to want to recapture some of the revenue they are losing from their tax base. I have no doubt that there is going to be a concerted effort to level the taxation playing field.”