Legislative

I was at a networking breakfast last week and was asked this question.  I’m sure this was intended as some form of icebreaker or as a way for questioner to show me that he was in tune with some of the sales tax current events.  About once a month, I get asked this question in one form or another so I thought it would be appropriate to post some sort of public response.

Even though it was not specifically stated, his underlying question was really “when will states be able to tax purchases of property made from Internet retailers?”  The answer to that question is quite easy.  Most states have had the ability to tax the purchases of property made from Internet retailers since the early 1960s when “use” tax was adopted by the states as a complement to the sales tax.   The taxation or taxability of the product purchase is not the issue.  The issue is how to collect that tax.

After explaining that all of the property they have purchased from Amazon and the myriad other e-retailers is taxable, I then ask when was the last time they filed a Georgia use tax return to pay the tax due?   This usually results in a blank stare.  And that’s the point.  Individual consumers don’t file use tax returns even though it is required.  Further, many, but not all, businesses file use tax returns but the accuracy of these reports is often suspect.

The “status of taxation of Internet purchases” is not much different than the “status of taxation of mail order catalog purchases”.  The product is taxable but until the retailer is required to collect the tax, only a small percent of the tax will ever be collected.  Some have estimated the lost revenue from this gap to be in excess of $10 Billion per year.

The next question is usually, “what is keeping the states from forcing the retailers to collect the tax?”  My response is simple: the U.S. Constitution!!  That’s all.  This is no place for a detailed analysis, but the U. S. Supreme Court has ruled that the Commerce Clause of the U.S. Constitution requires that the e-commerce retailer have some physical contact with the state before they are legally required to collect the tax.  This physical connection can take many forms.  Without some connection, the states can’t “force” the e-retailers to collect the tax and it cannot require the catalog companies to collect the tax.  Does that mean the property purchased is not taxable?  NO!!  It just means that the purchaser must file use tax returns with the state to pay the tax directly.

The state of Alabama recently reviewed is use tax filings and determined that less than 1% of Alabama taxpayers were filing use tax returns.  That seems about right!!  To raise this percent, the state is sending letters to taxpayers informing them of their use tax obligation.  Some states, like California, actually have a place on the individual income tax return for taxpayers to report their untaxed purchases.  I’d expect to see that in more states.

As states look for revenue, this is an easy target.  This is an enforcement issue not a tax policy issue. The question is not “whether” to tax purchases made from the Internet, but “how” to collect the tax that is due.

Ned Lenhart

President

Taxation of Internet Purchases

A common theme during this year’s legislative session was to take a critical look at the list of sales tax exemptions that state have on their books.  There is no doubt that the number of exemptions has grown slowly over the past 30 years.  There is also little doubt that some exemptions may have outlived their intended purposes.  I recently looked at the Georgia sales tax exemptions and notices some very odd categories of products as being exempt from sales tax. I”m sure there was a reason for them at some point, but once on the books these are mostly considered to be sacred cows.  In Georgia and in other states, even these sacred cows are being examined.  As I’ve looked at the Georgia exemptions, I can put them into 4 basic categories.  Below is a brief overview of why certain exemptions may be needed and why some may be ready to be removed from the books.

1. Avoid duplicate taxation: Sales tax is due on each sales transaction unless the transaction is statutorily exempt.  One exemption that makes this system work well is the “sale for resale” exemption.  Without this exemption goods could and would be taxed at each stage throughout the sales process.  This would have a tax cascading affect and would greatly increase the cost of products.  To avoid this issue, every state allows products that are intended to be resold to be purchased without sales tax.

In a similar vein, the exemption for goods shipped outside of the state for use also avoids double taxation (as well as some serious US Constitutional challenges).  If goods were taxed in the state of origin and then again in the destination state, there would be double taxation and in impediment on the Commerce Clause.

2. Stimulate and promote desired economic activities: Most states have exemptions form sales tax for machinery, equipment, and pollution control equipment.  Many states are also exempting various types of technology purchases.  The reason for having these exemptions is to promote the purchases of this equipment and to stimulate the growth of jobs in industries that use this equipment.  The issue with many of these types of exemptions is that they often times outlive their essential and intended purposes.  While it is certainly noble to save companies money who purchase repair parts for their manufacturing machinery, most companies are not going to uproot their manufacturing plant if a state removes this incentive.  Likewise, companies that have large technology facilities are likely going to spend the same amount of money each year to upgrade and maintain these facilities with or without the existence of a sales tax exemption.

3. Avoid regressive nature of sales tax: Sales tax is an equal opportunity tax. Regardless of income level, everyone pays the same tax rate.  For families with low incomes, the payment of sales tax on essentials can be very burdensome.  Exemptions for sales of food, medicine, health care products, and other special items are often supported to avoid folks with lower incomes from paying tax on what could be essential items.

4. Special interests: By far the category that may have the largest number of exemptions relates to the special interest category.  This includes sales to farmers, sales of church bells, sales by Girl Scouts, sales to historical associations, and the like.  I’m sure each of these was provided for a special purpose but my guess is that purpose was primarily to win votes in the next election.  I don’t like to pay sales tax anymore than the next guy, but at some point you can’t exempt everything.

Conclusion

Georgia and many other states have commissions that are focused on evaluating tax exemptions and proposing changes.  Many states put sunset provisions on exemptions that force legislatures to evaluate the necessity and effectiveness of these so called “tax expenditures”.   For many industry groups, their main claim to fame is the ability to keep certain sales tax exemptions on the books despite their real need.

Ned Lenhart
President
Sales Tax Exemptions

The Kansas state level sales tax rate is increasing from 5.3%  to 6.3% effective July 1, 2010.  This is almost a 19% increase in the sales tax rate over the previous 5.3%.

The Department has issued some instructions for companies that may be cash basis taxpayers or have service contracts that cover periods under the 5.3% tax rate.  To avoid companies remitting more sales tax than they collect from customers the Kansas DOR has issued instructions on how companies can adjust their sales tax returns to ensure that only the amount of tax collected is remitted.  State law does not allow for more than one return to be filed for any taxpayer, so if a company properly collected tax at 5.3% and at 6.3% the company will need to use a factor to reduce the taxable sales so that the tax calculated at 6.3% is equal to the tax collected at 5.3%.  This downward adjustment is shown on Part II Line N “other allowable deductions”.

Ned Lenhart
President
Kansas Tax Rate