Should the federal government block the states from formulating their own Internet tax policies, or should it be left to the each state to decide?
REVIEW & OUTLOOK: The Internet Tax Grab
Just as Congress is poised to make the temporary ban on taxing Internet access permanent, some politicians are using the occasion to stage a revenue gold rush by pushing for an Internet sales tax. We can't think of a better way to handicap a technology with uses the world is just beginning to understand.
By any measure, limiting the tax man's presence in cyberspace has been a Net good. The number of Web users continues to rise: Online sales were up 26% in 2002 and widespread adoption of broadband technology is expected to add $500 billion to GDP over each of the next 10 years.
Much of this growth has been aided by the 1998 Internet Tax Freedom Act, which prohibits "multiple or discriminatory" taxes that would discourage Internet use, not to mention electronic commerce. The ban is due to expire on October 31, but its co-authors -- Representative Chris Cox (R., Calif.) and Senator Ron Wyden (D., Ore.) -- have introduced legislation to make the antitax provisions permanent. Their Internet Tax Nondiscrimination Act has already passed the House and President Bush has indicated his support. As usual, the Senate is the tax ambush site.
While early adapters to the Web tended to be male and affluent, the fastest-growing segments of the Internet population today comprise women and middle- and low-income earners. Among people who began shopping online in 2002, 57% were women and the average household income was $52,000. In other words, letting the moratorium lapse would set the stage for a slew of new regressive taxes on Web access.
But the real Internet tax debate has always concerned sales taxes, which aren't covered under the current moratorium. Decades before terms like e-mail and broadband entered the lexicon, states were trying to collect sales taxes through catalog companies and other "remote" vendors that have a substantial physical presence ("nexus") in only a few states but customers nationwide.
What's been keeping the tax man's hand out of this cookie jar thus far is a long history of Supreme Court jurisprudence. Most recently in its 1992 Quill decision, the Court held that the nation's 7,600 tax jurisdictions could impose tax-collection burdens only on companies with a nexus in the taxing jurisdiction.
The National Governors Association, the National Conference of State Legislatures and others with tax dollar signs in their eyes are now petitioning Congress to overturn Quill. In exchange for simplifying their tax systems, state and local officials want federal authorization to tax interstate commerce.
Congressman Ernest Istook of Oklahoma and Senator Mike Enzi are two Republicans who are eager to oblige. Both recently introduced legislation that paves the way for this huge expansion of the states' tax base.
States are quick to cite budget deficits as a reason to let them tax online sales. But the fact remains that Americans sent a record $872 billion to state and local governments in 2002, according to the Commerce Department. In real terms, that's 10% more than was sent five years ago and a 27% increase in state and local revenue over the past decade. Before a Congress under GOP control extends any more taxing authority to the states, it might consider that the underlying problem is overspending, not lack of revenue.
Nor are brick-and-mortar complaints about fairness a sound reason to dilute the Constitution's Commerce Clause. Stores like Wal-Mart and Target have retail outlets in most states and hence enjoy certain benefits -- police and fire protection, garbage collection, road construction -- from the sales taxes they collect and remit to local authorities. Online vendors like Dell, which has no retail outlets, do not enjoy those benefits. Forcing Dell to pay the same taxes in jurisdictions where it has no nexus does not "level the playing field." Tax simplification would certainly be welcome, but granting local officials open-ended tax authority over interstate commerce looks like the first step toward a national sales tax. Having witnessed the economic damage caused by value-added taxes in Europe, we're not eager to see it duplicated here. States won't solve their fiscal problems by taxing the Internet, but they could do a lot of harm to this new medium while trying.