State and local governments are facing fiscal challenges due to declining revenues without a corresponding change in expenditures. As a result, these entities are exploring alternative revenue sources, such as the $23.3 billion in lost sales tax revenue in 2012 (most recent year available) that they are prohibited from collecting on online and catalog purchases (Hamilton, 2015). Alternative revenue sources such as an increase in property and income taxes are not feasible since tax increases are unpopular with the public.
Sales taxes are an important revenue source for most jurisdictions, as it represents approximately 20% of annual revenue (Streamlined, 2016). In fact, the Tax Foundation reported that 45 states and the District of Columbia collect statewide sales taxes, and that 38 states collect local sales taxes (Drenkard & Kaeding 2016). The collection of sales taxes is complicated by the number of justifications (approximately 10,000) involved in the process (Harpaz, 2015), and the different tax rates across states (Drenkard et al, 2016). The sales tax rates are depicted in Tables A and B.
As noted in Table A, Tennessee and Arkansas have the highest combined state and average local tax rates for 2016 at 9.46% and 9.30% respectively. Table B shows California with the highest state tax rate at 7.5%, and three states (Delaware, Montana, Oregon) with no state or local sales taxes. Table B also shows the wide range of local sales tax rates across states with Louisiana having the highest potential rate at 7.75%. These rate differentials may induce consumers to shop across borders or buy products online.
The increase in online sales is creating an ongoing problem for states since sales taxes may not be collected by the merchant and remitted. The states in which consumers are making online purchases believe the e-retailers should collect and remit the sales taxes since the revenue is being removed from their jurisdiction, thus adding to revenue shortfalls.
Local "brick and mortar" retailers in such states are also losing sales with the relative ease that online shopping provides consumers, thus causing the individual states to lose revenue from such sales. Online retailers and selected members of Congress, believe online sales should not be taxed at all as a continuance of a legislation, the Internet Tax Freedom Act of 1998 (Harpaz, 2015). This Act is discussed later in the paper. They also believe that online retailers should only remit taxes to those states in which they have a physical presence.
Since interstate commerce is governed at the federal level, states have looked to the federal government for a solution. The issue facing Congress is determining whether existing legislation should stand or whether to adopt "pro state" legislation.
This paper discusses past legislation that attempted to assist municipalities in the collection of sales tax revenue, and offers possible solutions.
Prior legislation at the federal level has attempted to bring clarity to the sales tax collection challenges faced by states. Among these actions are (a) National Bellas Hess vs. Department of Revenue of Illinois 1967, (b) Quill Corp. vs. North Dakota 1992, (c) the Internet Tax Freedom Act of 1998, (d) the Streamlined Sales and Use Tax Agreement 1999, and (e) the Marketplace Fairness Act. These legislations, acts, and agreements are discussed in this section.
In 1967, the Supreme Court heard National Bellas Hess vs. Department of Revenue of Illinois. Illinois wanted Bellas Hess to collect sales tax on catalogue sales even though the company was based in another jurisdiction, Kansas City, Missouri. The Supreme Court ruled, in a 5-4 decision, that businesses had to have nexus in a state in order to collect sales tax for interstate transactions by consumers in that state. It also ruled that it would take an act of Congress to give states the ability to require businesses based in a different state to collect sales tax. With no action by Congress, the Supreme Court's decision was the law governing whether or not states could collect the sales taxes (Bellas, 2012). This decision formed the groundwork for online sales tax collection, and was further supported by another Supreme Court Case in 1992.
The Supreme Court issued the Quill Corp. vs. North Dakota opinion in 1992. North Dakota believed Quill Corp. owed the state use tax collections from North Dakota residents purchasing goods through the company's catalogue. Quill Corp. claimed that since the company did not have nexus, actual operations or employees in the state, they should not have to collect the use tax for purchases made by North Dakota residents. Atkins (2005) noted that the Supreme Court explained that a business had to be physically present in a state before that state could require the business to collect use tax on its behalf.
The Supreme Court again ruled in favor of businesses this time by a larger majority (9-1). It noted that with all of the different sales and use tax jurisdictions in the country, requiring companies to collect sales and use tax for each jurisdiction would create enormous complications for the businesses and threaten to deter them from providing interstate commerce. Unlike National Bellas Hess vs. Department of Revenue of Illinois, in the Quill case, the Supreme Court noted that Congress was better suited to resolve...