States, locals seek to tax online purchases

Local governments may not tax the use of Internet access services, such as American Online and Earthlink, but the bigger issue of how states and local governments will collect online purchase taxes remains unresolved and controversial. Congress may debate this year whether to pass legislation that would simplify and standardize sales tax on Internet purchases.

Ronald McEwen, budget officer and deputy county treasurer in Owego, N.Y., says he does not favor taxing Internet access. “The Internet has become a place where more and more citizens in this country share ideas and correspondence with each other,” he says. “We should not stifle the exchange.”

But McEwen thinks Internet sales should be subject to the same tax as an item purchased locally. It is a sentiment shared by many city and county employees as well as elected officials who have to provide services with less revenue. Some say they will have to raise property taxes to recoup losses in sales tax.

The federal ban on Internet service taxes was extended to 2007 for most states. Supporters say the ban spares Internet users from an additional tax and helps keep access affordable. Those who oppose the ban say local governments need the revenue to make up for shortfalls. The National League of Cities and the National Association of Counties declared the extension a victory, saying it could have been much worse. Lobbyists fought proposals to make the tax ban permanent and to force the nine states currently taxing Internet services to stop immediately.

The issue of Internet sales taxes, however, is a stickier subject. Consumers have long enjoyed buying goods through catalogs and over the Internet without paying sales taxes. Many say the lax collection of sales taxes is unfair to local merchants. Nationally, local and state governments lose an estimated $16 billion a year in uncollected sales taxes from online purchases. The shortfall hardest hits the states, such as Arizona, that rely heavily on sales tax revenue. Policymakers have had a hard time figuring out how to tax goods sold from stores located in states other than where the buyer lives. Unless the company has a bricks-and-mortar store in the buyer’s state, the business seldom collects a sales tax. Each state has its own complex tax law, making a unified collection system hard.

Some states are not waiting for Congress to act. Thirty-two states — including Texas, Tennessee and Minnesota — have banded together for the Streamlined Sales Tax Project. The project seeks to establish uniform definitions for taxable goods and a model for collecting sales taxes across state lines.

For consumers in states with a sales tax, avoiding it by purchasing online or through a catalog is appealing. The “discount” helps offset the cost of shipping items. If sales taxes were applied to online sales, however, shoppers might be motivated to buy from a local business.

But what many consumers do not know is that they often are supposed to pay taxes to the Department of Revenue on goods bought in other states, whether over the Internet, the telephone or while traveling. It is known as a use tax, and many states are working hard to collect it. Online companies do not have to collect the tax unless they have a bricks-and-mortar store in the state where the consumer lives.

“Any time you hear about Internet sales, it’s always mentioned that it’s tax free,” says Vince Perez, assistant director of the Arizona Department of Revenue’s audit division. “It’s not true. Most states have a use tax.”

Arizona sent out 100,000 letters to businesses last fiscal year, urging compliance and generating more than $4 million in revenue. Perez says, “We’re trying to raise awareness.”
— Patti Ghezzi is an Atlanta-based freelance writer.