Internet, Enter Not: How the Online Sales Tax Break is Depleting State Budgets

With the popularity of internet sales increasing every year, it is time that Congress acts to level the playing field and require state sales tax collection from online retailers.  Currently, online retailers that do not have a “physical presence” within a state are not required to collect sales tax for that state, even when they make sales to residents of the state.  A physical presence typically means a “bricks and mortar” store or office within the state. 

If an online retailer has a physical presence within the state, they are required to collect sales tax even on purchases made online.  For instance, Target.com collects sales taxes in Colorado because they have Target stores throughout the state, whereas Amazon.com does not collect sales tax on their online purchases made by Colorado consumers.  This creates a competitive disadvantage for retailers that have stores in the states. 

In a recent Wall Street Journal article, Lowe’s president, Scott Mason stated that they have a 5 percent to 10 percent price disadvantage compared to online retailers as a result of the sales tax collection inequity.  The result is a competitive disadvantage for retailers that are putting roots down in the states and are making an economic contribution to local communities. 

If a retailer does not have a presence in the state, consumers are still required to pay their sales, or “consumer use” tax on their online purchases.  Sales and use tax are ultimately paid by the consumer and businesses with a local presence are merely required to collect and remit the sales the tax on behalf of the consumer.  When sales tax is not collected by the retailer, it is still owed by the consumer and should be paid by them directly to the local taxing entity.  However, the payment of the consumer use tax is rarely enforced.

With online shopping totals topping $200 billion annually, this loophole for online retailers resulted in more than $23 billion in forgone state tax revenue nationally.   In a time when budget deficits are stripping services and jobs throughout the states, sacrificing state tax revenue has a more devastating result than ever before. 

The National Conference of State Legislatures estimates that Colorado lost more than $352 million last year to uncollected online sales taxes.  This amount is 16.9 percent of the budget deficit that Colorado faced in 2012.  Therefore, if sales tax had been collected, or paid by consumers, Colorado would have had $352 million more dollars to offset cuts in schools, health care, higher education and the public infrastructure. 

Many states have tried to repair this issue legislatively.  States such as North Carolina, Rhode Island and New York attempted to force online retailers to collect sales tax by claiming that their “affiliates” within the state gave the online retailer a physical presence.  Affiliates are typically small bloggers and online retailers that are paid for promoting products of large online corporations, such as Amazon.com and Ebay.com.  This effort was somewhat successful in New York, where Amazon.com has begun to collect sales tax. However, the result was different in Rhode Island and North Carolina, where instead of complying with the state laws, online retailers simply fired all of their in-state affiliates, thus removing their “physical presence” and leaving many state residents without a job. 

In 2009, Colorado took a different approach to enforcing online sales tax collections.  Colorado passed legislation that would require online retailers to provide an online sales tax invoice to shoppers residing in Colorado.  A copy of this invoice would be sent to the Colorado Department of Revenue and then Coloradans would have to pay their invoice on their own, similar to their state income taxes.  Yet Amazon.com was still unhappy.  After unnecessarily firing all of their local affiliates, the online sales giant challenged the law and won, allowing them to continue to refrain from collecting or providing an invoice for online sales taxes in Colorado.

Fortunately, these efforts by states have illuminated the problem, gaining national attention and traction with Congressional leaders.  Sen. Lamar Alexander (R-TN) and bipartisan co-sponsors are working on passing a bill that would give states the authority to compel online sales tax collection.  As a result, online retailers are beginning to collect sales tax in some states.  Amazon.com has planned collection in at least 13 states by 2016.   Thus far, Colorado is not one of these states.