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E-Commerce: Recent Developments in State Taxation of Online Sales

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E-Commerce: Recent Developments in State Taxation of Online Sales ISSUE BRIEF 07.13.17 E-Commerce: Recent Developments in State Taxation of Online Sales Joyce Beebe, Ph.D., Fellow in Public Finance Online retail giant Amazon recently identified by OECD, e-commerce is defined announced that it would voluntarily start broadly as “the sale or purchase of goods collecting sales taxes in four additional or services, conducted over computer states—Hawaii, Idaho, Maine, and New networks by methods specifically designed Mexico—making the company a nationwide for the purpose of receiving or placing state sales tax collector.1 This marks the orders.”4 If further segregating it by sales culmination of an interesting evolution of channels, there are business-to-business company policy, because until recently, (B2B), business-to-consumer (B2C), and Amazon was one of the fiercest opponents consumer-to-consumer (C2C) models of of online sales tax.2 Some observers have e-commerce. Despite the public’s familiarity suggested that this signifies a change in with B2C or C2C models, B2B is the largest Amazon’s business model over the last among the three in terms of total sales. few years. Its early success was partly Widespread access to the internet attributable to keeping online purchases tax contributes significantly to the growth of free; however, in recent years, Amazon has e-commerce. Other factors, such as the distinguished itself by offering faster and development of technically sophisticated expedited deliveries through services such online platforms and the proliferation of as Amazon Prime and Amazon Prime Air. mobile devices, further enhance buyers’ A 2015 estimate shows that, on average, online purchasing experiences.5 According Amazon Prime shoppers spent about $700 to the U.S. Census Bureau, e-commerce more per year than non-Prime shoppers.3 sales have been growing at a rapid rate E-commerce sales over the last decade. The 2015 sales have been growing at were estimated to be $6.6 trillion in the WHAT EXACTLY IS E-COMMERCE AND manufacturing, wholesale, retail, and service a rapid rate over the HOW LARGE IS ITS SIZE TODAY? sectors, among which the retail sector last decade. The 2015 sales were $340 billion.6 E-commerce There are numerous online merchants sales were estimated has expanded rapidly both in terms of like Amazon in today’s rapidly developing to be $6.6 trillion in transaction volume and sales amount.7 digital economy. According to a recent the manufacturing, publication by the Organisation for Economic wholesale, retail, and Co-operation and Development (OECD), the THE STATES NEED REVENUE service sectors. digital economy is increasingly becoming fully integrated into the world economy; Sales Tax it would be difficult, if not impossible, to The sales tax is an important source of ring-fence the digital economy from the revenue at the state level.8 Although its rest of the economy for tax purposes. importance varies by state, in aggregate, Among several types of business models sales tax has been the second-largest source RICE UNIVERSITY’S BAKER INSTITUTE FOR PUBLIC POLICY // ISSUE BRIEF // 07.13.17 of state tax revenue, only after the personal a local retail store. The use tax complements income tax. In 2016, sales tax accounted for sales tax and serves as a backstop for the 31 percent of total state tax revenue, whereas potential loss of tax revenue. personal income tax accounted for 37 percent The issue is that this equivalence only of total revenue. In states where there is no happens in a perfect world—state and local personal income tax, the sales tax is more use tax compliance is very weak, especially prominent: in Texas and Florida, sales tax at the household or consumer level. Simply represented 62 percent and 57 percent of imagine that consumers have to report use state tax revenues in 2016, respectively.9 taxes on tax returns for all purchases made Over the last four decades, the from remote vendors, and it is probably aggregate sales tax base across all states not hard to understand why compliance is has contracted, creating financial issues low. In certain studies, revenue collected A raft of competing for states that rely heavily on sales taxes. from a use tax barely covers the costs of 10 remote sales tax Some research has attributed this base administering the tax. reduction to several potential reasons: first, proposals was sales tax generally applies to tangible goods Supreme Court: Physical Presence introduced in Congress but to only a limited set of services. Second, Any discussion of online sales tax would over the last few both state policies exempting certain items not be complete without mentioning the years: the Marketplace such as food and clothing and occasional Quill decision. In 1992, the U.S. Supreme statewide tax holidays have also contributed Fairness Act, the Court ruling in Quill Corp. vs. North Dakota13 to the base shrinkage. Finally, the growth precluded states from imposing a sales tax Remote Transactions 11 of remote sales and the limited extent to collection obligation on remote retailers that Parity Act, the No which they are taxed contributed to the do not have a physical presence in the state. 12 Regulation Without erosion of the tax base. In other words, nexus arises only when the Representation Act, vendor has a physical presence in a state. Use Tax and the Online Sales In addition to establishing the physical It is worth introducing sales tax’s close presence rule, the Supreme Court also noted Simplification Act. cousin, use tax, before discussing recent that Congress has the power under the legal developments. Every state that has Commerce Clause of the U.S. Constitution to enacted a sales tax simultaneously or overrule this decision legislatively. subsequently enacted a corresponding Many states view Quill as outdated and use tax. When a buyer purchases taxable assert that it prevents them from collecting goods from a remote seller without paying sales tax revenue from remote vendors, sales tax because the seller does not have which leads to substantial revenue loss. “nexus” within the state, the buyer is According to a joint publication by the required to remit a use tax on taxable goods National Conference of State Legislatures to the state of residence to put the purchase (NCSL) and the International Council of on equal footing with other in-state buyers Shopping Centers (ICSC), in collaboration who paid taxes. From a tax perspective, with the University of Tennessee, states lost nexus generally refers to a sufficient level an estimated $23.3 billion in uncollected of connection between the taxing state sales and use tax revenue from all remote and the taxpayer or third-party collection sales in 2012. For 2015, the potential agent such that the state has the power to revenue loss increased to $29.6 billion. impose tax on the taxpayer or the collection The study then considered Amazon’s agent. Use taxes shift the responsibilities for enhanced collection efforts in a larger tax remittance from the seller to the buyer number of states, and concluded that the in cases where the tax is not collected by uncollected sales and use tax would decline the seller. In other words, if use taxes are to approximately $25.9 billion,14 which perfectly enforced at the correct sales tax would account for about 9 percent of the rate, then use taxes paid by the consumer 2015 state sales tax revenue.15 The potential on remote sales will be equivalent to the amount of revenue injection, combined with sales taxes paid on the same purchase from Amazon’s recent decision to voluntarily 2 E-COMMERCE: RECENT DEVELOPMENTS IN STATE TAXATION OF ONLINE SALES collect sales tax nationwide, encouraged a single statewide rate to be applied by a states to take additional actions to pursue remote seller on purchases sent to that state. these revenues.16 STATES TAKE MATTERS IN THEIR OWN FEDERAL LEGAL DEVELOPMENTS HANDS What has Congress done to resolve the Quill States have been active while waiting issue? In short, not much, but not for lack for a congressional solution, and, not of trying. A raft of competing remote sales surprisingly, moving toward greater tax proposals was introduced in Congress taxation of e-commerce. Generally, these over the last few years; some were even approaches include redefining the nexus introduced multiple times. A short summary and imposing comprehensive notice and is presented below: reporting requirements. The Marketplace Fairness Act (MFA, most recently reintroduced in April 201717) and “Kill Quill”—Nexus Redefined the Remote Transactions Parity Act (RTPA, Over the last few years, states have reintroduced in April 201718) differ in the launched numerous administrative details but are similar in nature. Both bills procedures or enacted legislation in hopes would allow states to tax sales by remote of creating an appropriate case for the U.S. sellers if the states are members of the Supreme Court to review and overturn Streamlined Sales and Use Tax Agreement Quill. Because the Supreme Court did (SSUTA),19 or meet certain requirements not specifically define physical presence, that simplify the compliance process. Both most online merchants, including Amazon proposed bills provide exemptions to small in the company’s early years, interpret remote sellers and require destination- “physical presence” loosely as a fixed based sourcing, which means the tax rate is place of business, comparable to brick- States have been active calculated based on the location of the buyer. and-mortar stores. Therefore, Quill is the while waiting for a The No Regulation Without strongest legal defense cited by opponents Representation Act was introduced in congressional solution. of expanded online sales taxation. Several July 2016. As the name suggests, this These approaches states, maneuvering between pushing the legislation would prevent states from boundaries of the physical presence rule and include redefining the taxing sellers lacking a physical presence, trying to assert their taxation rights, have nexus and imposing essentially codifying Quill.
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