Sales Taxes on the Internet: Is This the Year We’ll Pay?

In 1998, Congress enacted the Internet Tax Freedom Act, effectively banning sales taxes on sales on the Internet (the Ban), with some exceptions. Its purpose was to encourage and foster the growth of Internet business.

Internet sales totaled an estimated US$155 billion in 2010 and will reach about $250 billion in 2011, according to Forrester. Given these numbers, and the state and local budget crises, many states and the U.S. Congress are now considering reforming the Internet Tax Freedom Act to allow for Internet sales taxes.

While serving as mayor of Dallas, my former law partner Ron Kirk (currently U.S. Trade Representative) was on the Advisory Commission on Electronic Commerce. Ron advocated for eliminating the Ban on Internet sales taxes. Ron wasn’t successful, and each time the Ban on Internet sales taxes was considered by Congress over the years, it was renewed.

One exception to the Ban on Internet sales taxes applies to companies with operations in a particular state (and city). Such companies have to collect and pay Internet sales taxes for purchases by citizens located in those jurisdictions. Actually, the sales tax is the obligation of the buyer, not the seller, although sellers are generally required to collect the sales taxes from the buyers.

Where’s the Internet Sales Transaction?

From my computer in Dallas, Texas, I recently purchased a book from Amazon, which is located in Washington state. On the surface, this purchase does not seem to have created a sales event in Texas.

I don’t know where the particular Amazon server was that handled my transaction, but for discussion purposes, let’s say it was in California. So far, there should be no Texas Internet sales tax.

The book I ordered shipped from Kansas — still no connection to Texas. So, where exactly did the Internet sales event occur? Texas, Washington, California or Kansas? There’s no clear answer concerning this specific purchase from an Internet-only business. There was no sales tax charged by Amazon on the invoice.

Another Internet purchase I made was a sport coat from Jos. A. Bank, a company headquartered in Maryland. Let’s assume the server was also in Maryland. The coat actually shipped from California, but I was charged the Texas sales tax on this Internet purchase because Jos. A. Bank has retail outlets throughout Texas.

The law about Internet sales taxes has been treated like the law regarding mail order purchases — remember those days, before the Internet? No sales taxes were due for mail order purchases unless the seller had a presence in the state where the transaction occurred.

So, when I bought running shoes from a Wisconsin mail order company, there was no sales tax, because I was in Texas and the mail order company did not have any operations in Texas. If I bought a Dell computer by mail order, though, there was a sales tax, since Dell was located in Texas.

Amazon’s Tax Dispute With Texas

Remember my Amazon purchase? Well, it turns out that Amazon opened an office in Texas in 2005, but Amazon has not collected or paid Internet sales taxes in Texas. For some reason that defies explanation, the Texas comptroller of public accounts did not try to collect any Internet sales taxes from Amazon until September 2010, when the comptroller demanded that Amazon pay a whopping $269 million! Since the tax bill was presented, apparently Amazon and the Texas comptroller have been going back and forth over the Internet sales taxes.

Apparently, when Amazon asked the comptroller for the Internet tax audit, the comptroller refused, claiming that the Internet tax audit was protected by attorney- client privilege, since the Internet tax audit was prepared by an attorney for the comptroller.

So there was an appeal to the Texas attorney general as to whether the claim of attorney-client privilege was proper. In mid-December 2010, the Texas attorney general issued an opinion that affirmed the comptroller’s assertion of attorney-client privilege.

In January 2011, Amazon sued the comptroller to get the Internet tax audit. The case pends while I write this column, but we should all stay tuned to see the outcome.

Privacy Issues on Internet Sales Taxes

The U.S. Constitution protects against the disclosure to the government of what citizens read and view, in spite of the North Carolina Department of Revenue’s best efforts. U.S. District Judge Marsha Pechman granted Amazon’s summary judgment that precludes disclosure of Amazon’s “customers’ names, addresses or any other personal information.”

The order states that “Amazon has conducted nearly 50 million transactions with North Carolina residents from August 1, 2003, to February 28, 2010, apparently without collecting or remitting North Carolina sales and use taxes.” As result of these sales transactions, there was a sales tax dispute, and Amazon has already provided “order ID number, seller, ship-to city, county, postal code, the non-taxable amount of the purchase, and the tax audit record identification.”

Because Amazon’s records contained personal information, Amazon filed its lawsuit in Washington state to avoid disclosing the customer personal information, and the American Civil Liberties Union joined Amazon.

Where Are We Headed?

With the state and local revenue shortfalls, I suspect we will see more state governments demanding Internet sales taxes. Since the original Ban on Internet sales taxes was to foster the growth of the Internet, that mission seems to be completed.

That may mean that we, as consumers, will eventually find everything more costly on the Internet, as Internet sales taxes are permitted and sought on more and more transactions.

Peter S. Vogel

E-Commerce Times columnist Peter S. Vogel is a trial partner atGardere Wynne Sewell, where he is chair of the eDiscovery Team and Chair of the Technology Industry Team. Before practicing law, he was a systems programmer on mainframes, received a masters in computer science, and taught graduate courses in information systems and operations research. His blog covers contemporary technology topics.Vogel can be reached at [email protected].

1 Comment

  • Thanks for a great post on internet sales tax. It is a little scary to think about how this will affect online retailers and their customers. Will prices go up? Will customers just have to pay more? What will it look like for the store owner from an administrative perspective?

    We did a blog a while back to help our customers with these questions. Our CEO, Kevin Sproles, was featured in Venture Beat with his thoughts on internet sales tax: http://bit.ly/hMsHr2

    Take a look at our blog/video for a quick recap and thanks again for your post!

    Blog: http://bit.ly/gvqRMX



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