November 30, 2001

The Myth of the Level Playing Field

An essay on Internet sales taxes by Aaron Lukas, trade analyst at the Cato Institute's Center for Trade Policy Studies, is must reading. The essay exposes the rampant hypocrisy in the arguments of those who favor allowing states to collude on a multi-state online sales tax system.

Also, Bond Buyer, a daily newspaper covering public finance, reported Thursday that ecommerce is having negligble impact on state tax revenue collections, with comments from a director at bond rating service Standard & Poors an a vice chairman at Fitch both rejecting the notion that e-commerce is having reducing state tax collections in a significant way.

Lukas's essay says that even though ecommerce is a tiny component of consumer spending, "its mere existence serves to inhibit excessive taxation" because politicians "fear that if they raise tax rates too much, consumers can take advantage of low tax rates elsewhere," so online shopping free of new sales taxes will encourage state and local governments to keep overall tax rates at a more reasonable level.

As Lukas points out, the states want sellers to collect online sales taxes based on the location of the buyer, which is the reverse of the way things are in the offline world, where sales taxes are collected for the jurisdiction in which the seller is located - in other words, where the sale originates. "To truly level the playing field, states should instruct Internet-based businesses to collect the local sales tax regardless of where their customers reside," Lukas says, adding that under that type of system, retailers would have only one tax to collect and one revenue agency to deal with, lowering administrative costs. "More importantly, the de facto tax advantage for online sellers would vanish, while healthy tax competition among the states would be strengthened," he adds, commenting, "the latter, of course, is why states immediately dismiss any origin-based proposal as unworkable."

The Bond Buyer article, "Analysts Downplay E-Commerce's Threat to State, Local Taxes," notes that some analysts have predicted ecommerce would wreak havoc on state and local budgets. Last month, economists at the University of Tennessee issued yet another report predicting state and local governments across the nation will forego billions of dollars in revenues if online transactions continue to be mostly untaxed. But so far, those large revenue losses predicted by UT and other organizations "have not come to pass."

"I haven't heard one state treasurer say that Internet sales are a basis for a downturn," said David Hitchcock, a director at Standard & Poor's, saying states with slumping sales tax revenues have no reason to believe online sales are the reason why. And Claire G. Cohen, vice chairman of Fitch, says, "It would appear that ecommerce is not as widely threatening at this point as some people thought it would be."

That after the U.S. Commerce Department reported that ecommerce constituted a miniscule 0.95 percent of total retail sales nationwide in the third quarter - just $7.472 billion out of $786.581 billion in total retail sales.