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The fight over online sales tax and how it impacts you

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For over 20 years, the internet has made purchases easier than ever in human history. With one-click buying and free-shipping programs, people have flocked online to buy nearly a quarter of a trillion dollars of stuff per year. Many of those transactions happen without the burden of sales tax, making online shopping not just convenient, but also cost-efficient. That may all be about to change.

WHAT'S GOING ON?

No matter which side of the argument you listen to, there's a problem with "fairness" when it comes to taxes on internet sales.

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Here's the core of the issue: In 45 states (and the district of Columbia), you pay some kind of a tax when you walk down to your local bookstore and buy a copy of William Shakespeare's Star Wars. I live in Massachusetts, so I'll pay 6.25 percent, which goes into the general revenue of the state. If you're in California, you'll pay somewhere between 7.5 and 10 percent -- some of which gets split with local governments; some of which goes to the state. If you're in Alaska, Delaware, Montana, New Hampshire or Oregon, you don't pay anything.

But what happens when you buy that same copy of William Shakespeare's Star Wars online? That's where things get complicated. And like most complicated questions, the answer is: "It depends." If you buy it from Amazon.com, you'll pay your local sales tax if you're shipping to one of the 23 states where Amazon maintains some sort of physical presence. But if you live in a place where Amazon just hasn't bothered to build a warehouse yet -- like, say, Iowa -- you'll pay no tax at all, while your friendly local bookstore has to collect 6 percent to fund all of those rather flat roads.

That's not fair, right? Why should Bob's Books of Bettendorf, Iowa, have to compete with a tax-free Amazon.com? And shouldn't Iowa get its fair share too?

WHAT'S AT STAKE?

A politician counting money in front of the US Capitol Building

There's real money at stake, but how much is open for debate. In 2013, states collected a total of $327 billion in sales taxes. That's a huge amount of money, and a big chunk of the total $1.2 trillion they collected from all revenue sources, including property and income taxes. We also have estimates that retail internet sales are about $233 billion a year. If we assumed that all of that $233 billion was subject to the average state tax rate of 5 percent, the very most that could be on the line would be under $15 billion. The real number that's not being collected is likely far, far less -– after all, a decent chunk of that $233 billion is likely coming from the internet giants like Amazon.com, as well as from the online sales of brick-and-mortar vendors like Walmart or Home Depot who are dutifully collecting sales tax. The number "$20 billion" in underpaid taxes gets thrown around a lot, but that's mostly political guesswork and difficult to reconcile with the actual sales numbers. Still, whatever the number, it's probably in the billions, and cash-strapped states are seeing green.

THE MARKETPLACE FAIRNESS ACT – STRANGE BEDFELLOWS

In an effort to level the playing field, several pieces of legislation have been introduced since the Supreme Court made the ruling in 1992 (in Quill Corp. v. North Dakota) that established the physical presence requirement that has Amazon paying taxes in those 23 states. Most bills died before reaching the voting stage, but in May 2013 the version currently being debated -- the Marketplace Fairness Act (MFA) of 2013 -– was passed in the Senate.

The act, if it was ever reconciled with an un-passed House version and signed into law, would change the rules for internet retailers as follows:

  • States could require out-of-state retailers to collect sales tax for them, if those states agree to a set of rules for making their state sales tax simple and easy to manage for retailers.
  • Any seller with less than $1 million in revenue from internet sales would be exempt.
  • It would leave in place all of the existing rules for situations where taxes are already being collected.

THE POLITICAL SITUATION

While seemingly straightforward, the MFA has drawn breathless support and heated opposition from unlikely sources.

Supporters of the legislation purport to be championing small business, specifically the bricks-and-mortar kind, and have come from both sides of the aisle. Former Republican National Committee Chair Haley Barbour has called the MFA "good policy based on conservative ideas" and the Senate Bill that passed in 2013 was sponsored by Sen. Mike Enzi of Wyoming, a staunch anti-Obama conservative. They're joined, somewhat oddly, by most of the large and vocal internet retailers -– including Amazon.com –- who have gotten behind the bill likely because they're already dealing with the tax issue in so many states.

Opponents, like the chairman of internet retailer Overstock.com, think the law as it's currently worded is overly complex and puts too many burdens on retailers –- specifically small businesses. As you might expect, most congressional representatives from states without sales taxes (like New Hampshire) have been vocal opponents, generally behind the rallying cry that it will make life too hard for small businesses that rely on the internet for a portion of their sales. Conservatives have also generally opposed it: They suggest it's just another over-reach by the federal government into the realm of states' rights, and that it would discourage competition between states to keep tax rates low. That's been the position of prominent Republicans like House Speaker John Boehner, who's vowed to keep burying the legislation, putting him in the odd position of being besties with the left-of-liberal senator from (tax free) Oregon, Ron Wyden.

WHY SHOULD I CARE?

The reason the tax-vague internet is back in the headlines is a concerted effort by small-business lobbying groups and the bill's sponsors to get it attached to legislation almost sure to be passed in this lame-duck December –- an extension of the ban on state and local taxes on your actual internet service as billed to you by your ISP. That bill –- the Internet Tax Freedom Act –- has nearly universal support, as the 10-year moratorium is due to expire on December 11th, and nobody in DC wants to head home for the holidays with an honest-to-god internet tax to levy on their constituents for Christmas.

As an internet consumer, it's important to realize that if you live in a state that collects sales tax, you're already supposed to be paying taxes on your internet purchases. A particular retailer may not be collecting them, but technically, you're supposed to keep track of all of your out-of-state purchases and voluntarily write a check to the state to cover those uncollected taxes on April 15th. Compliance with that technicality is so low as to be laughable in most states, but just because there's no cop on the freeway doesn't mean there's no speed limit. The trend is very much in the direction of the tax being collected, whether there's federal legislation or not.

Close up of hands filling in tax form

Likewise, unless you're a truly tiny retailer selling a few hundred thousand dollars in goods over the internet each year, the writing is on the wall for you too. Even if the Marketplace Fairness Act never passes, states have taken it upon themselves to interpret the existing laws in ever narrower ways to ensure they can collect sales tax. In most states with sales tax, having any kind of referral program where you compensate people for sending you business is likely to trigger a collection requirement.

Sadly, the tax-free shopping boom of the last two decades is coming to an end, legislation or no. The passage of some version of the Marketplace Fairness Act might speed things along, and a concerted effort to delay could grant smaller internet retailers a few more years, but in the absence of some sort of federal policy, it's mostly a matter of time before individual states come knocking on your door to collect.

WANT TO KNOW MORE?

If you're eager to keep up on the issue of sales tax, there are dozens of (often conflicting) sources of information. The Tax Foundation is a good source of basic information and statistics on all things related to US taxation, and the US Census Bureau keeps track of where all the money really comes from. For the issues surrounding the Marketplace Fairness Act itself, there's a "pro" site maintained by TaxCloud.net that outlines the best-case-scenario, and a summary of the main talking points against it can be found at StopMFA.org.

[Image credit: AP Photo/Paul Sakuma (Amazon delivery), Getty Images/Brand X (politician counting money), ABC (MFA video), Getty Images/Blend Images (tax forms)]

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