Not So Fast on the Internet Sales Tax

Members of both parties who respect that Constitution should voice concerns about the Marketplace Fairness Act.

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In this March 6, 2012 photo, a UPS worker loads packages in Los Angeles. U.S. employers added 227,000 jobs in February to complete three of the best months of hiring since the recession began. The unemployment rate was unchanged, largely because more people streamed into the work force. The Labor Department said Friday, March 9, 2012, that the unemployment rate stayed at 8.3 percent last month, the lowest in three years.

Pete Sepp is Executive Vice President for the 362,000-member National Taxpayers Union (ntu.org), a nonpartisan citizen group founded in 1969 to work for lower taxes and limited government at all levels.

So the Marketplace Fairness Act – a topic of frequent discussion in this space – has been rammed through the Senate without the benefit of hearings or a robust amendment process. To those cheering it, the bill to expand state tax collection powers for Internet and catalog sales has nearly-unstoppable momentum for passage in the House of Representatives. Not so fast.

The bill's passage in the Senate has mobilized several large coalitions of free-market citizen groups and think tanks who regard its official moniker, "Marketplace Fairness," as a cruel joke. An April 19 letter to Congress signed by 18 organizations, including my own, warned that imposing the bill's "unworkable collection standard on remote retail sales but not on brick-and-mortar retail sales would not only be unfair, it would result in enormous complexity while damaging interstate commerce."

A May 6 "Memo for the Movement" signed by more than 50 conservative leaders stated that under the Marketplace Fairness Act, "retailers would be subject to laws imposed by states with which they have no direct connection, and in whose political system they have no voice. It is regulation without representation, allowing politicians to raise revenue, without fear of a public backlash." And the list of opponents is growing.

[See a collection of political cartoons on the economy.]

House Members now charged with considering the proposal will need to ponder questions raised by these communications more thoughtfully than their colleagues in the Senate did.  Such as:

  1. If the "destination-based" sales tax collection system the bill envisions (one which allows state tax enforcers to reach across their borders in sweeping fashion) is such a fine idea for "e-tail" transactions, why not subject brick-and-mortar stores to the same level of compliance?
  2. But wait, wouldn't it be absurd for clerks at physical stores to quiz customers about which of the 9,600 taxing jurisdictions they reside in, at the cash register, and require remittance of sales taxes back to the purchasers' home states?
  3. If that does seem silly, is there a standard that has more promise than the Marketplace Fairness Act to create an actual "level playing field" for both online and store-front sellers? The answer is yes, and it's called "origin-based sourcing."
  4. Although current laws on collection of sales taxes vary in the technical definitions they use, origin sourcing is similar to the effective principle that now governs most brick-and-mortar transactions.  Instead of adopting the Marketplace Fairness Act, Congress could limit state taxation of e-tailing and other "remote sales" to an origin standard; whether your business is a store on a sidewalk or on a website, you collect and remit tax to the one jurisdiction where you are based, regardless of where your customers may live.

    [Read the U.S. News Debate: Should the Senate Have Passed an Online Sales Tax?]

    This system would ease cumbersome aspects of the bill such as how to ensure compliance with those 9,600 taxing entities, or safeguarding the privacy of customers' information. Online retailers, which already charge sales taxes to customers from their home state, would just charge that same rate to everyone who shops on their site, wherever they hail from. 

    The naysayers might point out that origin sourcing would lead to some mass exodus of online-selling "deadbeats" to states without sales taxes. High tax burdens have indeed contributed to business flight from states with shortsighted policies; still, the components of these burdens could matter a great deal. Would a given entrepreneur leave Washington State, which has no broad-based income tax but an above-average sales tax, for Oregon, which has no sales tax but an above-average income tax? Such quandaries don't have uniform answers.

    In any case, there would likely be some movement toward no- or low-sales-tax states for online retailers, in order to earn better market share from their customers. But since when does this activity deserve the epithet of "deadbeat"? New Yorkers have long flocked to Florida not only for its sunny climate but also its lack of a personal income tax. California has lost wealth to Nevada, Arizona and other states due to its meddlesome and confiscatory government. Everyday consumers who live near a border might buy gas or cigarettes at a place over the state line where the tax is less. Tax competition distinguishes our federal system rather than degrades it.

    [See a collection of political cartoons on the budget and deficit.]

    To be certain, origin sourcing is no "silver bullet," as my former colleague Andrew Moylan, now with R Street Institute, explained in a 2012 essay:

    It would still require additional action to keep taxpayers from bearing heavier loads. Switching to origin sourcing would effectively expand the tax base, so state legislators must act to reduce rates commensurately at the same time to ensure that net burdens do not increase. It would also require careful contemplation on the proper role of Congress, as federal guidance might prove necessary to encourage a smooth transition without impeding interstate commerce.

    Nonetheless, the proposal deserves serious scrutiny, while the Internet sales tax lobby's arguments need a more skeptical look. Among them is the notion that "showrooming" – where customers look at products in stores but then purchase them for less online – is rapidly destroying traditional retail. In an intriguing article for National Journal, Niraj Chokshi concluded that, "There's no doubt that the sales tax bill will achieve one of its goals: raising billions in revenue for states [my comment: states' projections may be far too rosy]. But whether it will help retailers regain customers lost to the web is another question altogether."

    [Read the U.S. News Debate: Is Obama Turning the Economy Around?]

    Chokshi cited recent a recent survey from PricewaterhouseCoopers of 11,067 online shoppers which showed that in nine out of 11 retail categories, "the majority of customers use physical stores for both researching and purchasing the products they want to buy." For the category of consumer electronics, 23 percent did their research on the Internet and then made the purchase at a physical store, compared to just 2 percent who "showroomed."

    The bills supporters are all sweetness and light about the bipartisan backing they got in the Senate, but they can't wish away one fact: A majority of the Republican caucus voted "no," including its leader Mitch McConnell and conservative standard-bearers like Marco Rubio and Ted Cruz. The Marketplace Fairness Act deserves an even tougher reception from conservative House members.

    The U.S. Constitution was designed to provide each state a high degree of sovereignty within its own border, while affording citizens of other states a high degree of protection against predatory policies from outside their borders. Members of both parties in the House who respect that Constitution should voice the concerns about a bill that all too many Senators decided to squelch. Trying to shut taxpayers out of this debate won't shut them up, as lawmakers are now discovering.

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