Politics & Policy

Marketplace Fairness: Closing the Online Sales Tax Loophole

Inconsistent payment of sales taxes amounts to cross-state subsidies.

You may be surprised to learn that, when you buy a TV online, you owe the same state sales tax that you would pay if you had purchased the TV at the appliance store on Main Street. Many online sellers don’t collect the state sales tax, and many purchasers don’t pay it, even though they owe it. This creates an online sales tax loophole.

Main Street retail stores are up in arms about the unfairness of this online sales tax loophole. As William F. Buckley Jr. wrote, “The mattress maker in Connecticut is willing to compete with the company in Massachusetts, but does not like it if out-of-state businesses are, in practical terms, subsidized; that’s what the non-tax amounts to. Local concerns are complaining about traffic in mattresses and books and records and computer equipment which, ordered through the Internet, come in, so to speak, duty free.”

Governors and legislators are up in arms, too. According to the National Conference of State Legislatures, next year this online sales tax loophole will cost states $23 billion in avoided taxes. For example, in Tennessee the maximum sales tax is 9.75 percent. Therefore, a $400 TV could be $39 cheaper purchased online than it would be on Main Street. Tennessee could use this lost sales-tax revenue to continue to avoid imposing a state income tax. Wyoming might use the revenue to lower its property-tax rates. Other states might use the lost revenue to reduce tuition at state colleges or to reward outstanding teaching.

If governors, legislators, and Main Street businesses are up in arms, then why haven’t states closed a loophole that subsidizes online sellers at the expense of Main Street retailers and subsidizes some taxpayers at the expense of other taxpayers?

The short answer is: Closing the loophole has in the past been too complicated. If you buy a TV on Main Street, by law the seller collects the tax and sends it to the state. If you buy the TV online, you are supposed to pay the sales tax yourself, either on your annual state return or on a separate form required by the state. Of course, keeping track of all of one’s online purchases is something even an accountant might have a hard time doing, so many Americans never pay their sales taxes on online purchases — even though they owe them.

Then why don’t state laws require online sellers to do what Main Street sellers do — collect the sales tax when the purchase is made and send it to the state? Because in 1992 — when technology for businesses to compute and collect taxes was not nearly as advanced as it is today — the U.S. Supreme Court said that without congressional approval, states could not require out-of-state businesses to collect sales taxes because this  created too much of a burden on interstate commerce. But, recognizing the unfairness such a loophole would create, the Court invited Congress to solve the states’ problem.

To do just that, ten U.S. Senators are introducing today the Marketplace Fairness Act, bipartisan legislation offering states two ways to make it simple for online sellers to collect state sales taxes. Our proposal exempts online sellers with annual sales of less than $500,000 from collecting any tax at all. Our bill is a rarity for Washington, D.C.: It is only ten pages long.

Some — mostly taxpayers and out-of-state businesses who enjoy being subsidized by the loophole — argue that we would create a new “Internet tax.” This is wrong. We are talking about an existing state tax that purchasers already owe. And it is a tax on all sales, not only Internet ones. Of course, our legislation would not affect the state tax bills of taxpayers in five states with no state sales tax.

Over the last 20 years, many states and online sellers have agreed voluntarily to close the online sales tax loophole and to stop subsidizing some businesses and some taxpayers at the expense of others. States and Main Street retailers are now reminding Congress that, under our nation’s Constitutional framework, states should have the right to decide for themselves whether to collect — or not to collect — their own state sales taxes. As Republicans who believe in states’ rights, we agree.

U.S. Sen. Mike Enzi was mayor of Gillette, Wyo., and U.S. Sen. Lamar Alexander was governor of Tennessee.


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