Taxing the Web

By: Jordan Cafritz

Since its founding, the internet marketplace has permitted consumers to avoid paying sales tax on most online purchases. While certainly a boon for consumers, businesses that reside within various states have claimed this to be an unfair advantage. This issue has been even more of a sticking point for most states as they search for a way to increase revenues. States are permitted to collect sales tax from retailers only if they have a physical presence, such as a store or a warehouse, within the state’s borders. As a consequence of the inability to collect from online and catalog sellers, it is estimated that states lost out on roughly $23 billion in uncollected sales tax revenue in 2012. Furthermore, recent studies have shown that sales tax on remote online retailers could result in 1.5 million new jobs and an additional $563 billion in gross domestic product over the next decade.  Despite these facts, Congress has seen little progress regarding proposals to establish a national standard for state governments to impose sales tax on online retail sales. Advocates of an internet sales tax have met stiff competition in the form of internet firms and members of congress. However, this may soon change. After failing in their efforts earlier in the decade, many states are doubling down on the pressure for Congress to pass legislation that will allow states to collect sales tax from online retailers.

Currently pending in the United States Congress is proposed legislation known as The Marketplace Fairness Act that would enable state governments to collect sales taxes and use taxes from remote retailers with no physical presence in their state. As all states are struggling financially and looking for other sources of revenue, the idea of collecting taxes from online retailers is very appealing. However, rather than promoting marketplace fairness, the Act puts an unfair burden on online retailers. In its current form, the legislation does not require the various states to use the same definition of what is taxable and what is not. Online retailers are therefore forced to comply with the laws of 9,600 jurisdictions, to file monthly tax returns with 46 states, and to be subject to audits by states and localities in which they have no physical presence or representation. Online retailers would therefore be subject to tax rules and regulations of states in which they have no physical presence, forcing them to comply with the rules of every sales tax jurisdiction in the country, while brick-and-mortar stores would continue to collect sales taxes only in states where they are physically present.

Although well intentioned, the Marketplace Fairness Act will be detrimental to online retailers. Complying with the tax laws in all 50 states would be costly and could only be endured by larger online retailers. Although the provisions in the bill are only triggered if the company’s revenue is over $1 million, the burden placed on online retailers is nevertheless unsustainable to small online corporations and start-ups. Start-ups will be subject to escalating costs. Once the start-up begins to gain notoriety and success, the company will instantly be subject to drastic financial difficulties associated with that success. Small companies will also be hit hard. The administration and software costs associated with complying with the tax laws of all 50 states is nearly impossible to implement in a cost efficient way.

In its current form, the Marketplace Fairness Act is incompatible with today’s current market realities. The burden the current proposed system puts on small and medium sized businesses is unsustainable and likely to force these companies out of businesses. An administrative burden that no small or even medium-size company can handle will clear the way for e-commerce to be dominated by the large online retailers, leaving little space for diversity and competition. The Act needs to be amended to incorporate standardized tax forms and tax rates, as well as standardized definitions of what is taxable. Without these measures in place, the Marketplace Fairness Act will likely have the effect of limiting e-commerce to the largest online retailers and eliminating the presence of competition through an administrative burden that no small or medium-size company can endure.

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