SALES TAX

SALES TAX

Introduction
Sales taxes are imposed in the United States by state and local administrations, of which there are more than 40,000. Merchants (shops and other sellers) charge the customer a combined rate which bundles together the state tax with the tax of the locality in which they sell. Depending on the locality, the merchant then either pays on the tax to the state administration, which unbundles it and remits the locality's share, or pays the state and the local administration their shares separately. A seller has to charge sales tax if it has 'nexus' where it is located. Nexus, or substantial physical presence, is established if a business maintains a temporary or permanent presence of people (employees, service people or independent sales/service agents) or property (inventory, offices, warehouses) in a given locality. There is no over-arching definition of nexus, so each taxing locality may define it differently - and many do, leading to endless problems for businesses which have operations in multiple states. Not all products are subject to sales tax, and states differ in the exemptions they offer. Food and clothing is commonly excluded, as are many pharmaceutical products; purchases for agricultural and sometimes manufacturing use are also frequently excluded. The rates of sales tax may also vary within a state for different types of business. All but five states impose a general sales tax at the state level (Alaska, Delaware, Montana, New Hampshire, and Oregon are the exceptions), but even in these five states some localities impose their own sales taxes, and some of the five impose sales taxes on particular products or services. Although from the buyer's perspective, a sales tax is a sales tax, in actuality there are varying legal bases for the tax: in some cases the tax amounts to a 'privilege' tax charged on the retailer's turnover, in other cases the tax is nominally imposed on the buyer, and there are hybrid situations as well. The legal basis of the tax can affect how it is described on invoices, bills or receipts, and can affect the calculation of the amount due, for instance in regard to discounts, although, needless to say, states differ in their treatment of discounts. A sales tax is a tax on the end-purchase of a good, or in other words a retail sale, so it normally does not apply if a sale is for re-sale or for subsequent processing. Most states define a retail sale very broadly, including for instance credit and instalment sales, trade-ins and exchanges. Normally sales tax is levied on 'tangible personal property'; it has to be movable, so that real estate is not included. Intangible property (eg stocks and bonds) are also excluded. In October 2007 Senators Lamar Alexander (R-TN) and Bob Corker (R-TN) joined Sen. Kay Bailey Hutchison (R-TX) in reintroducing a bill to make the state sales tax deduction permanent. “This is a simple matter of tax fairness and common sense,” explained Corker. “Tennessee is fortunate not to have a state income tax, but Tennesseans should not be penalized for this on their federal tax returns. Making the state sales tax deduction permanent keeps more money in the pockets of hard-working families and it’s the right thing to do.” Alexander and Corker said that losing this deduction – which was set to expire at the end of that year if Congress does not act – would cost Tennesseans more than $200 million.

Tennesseans don’t pay a state income tax on wages. In order to be treated fairly with other states whose residents are allowed to deduct their state income taxes from their federal income taxes, Alexander and Corker said Tennesseans should be able to deduct their sales tax payments. Nationwide, state, and local sales tax collections account for about a quarter of total state tax revenue, which is about the same as property taxes and income taxes. But the current provision allowing Americans to deduct state and local sales taxes from their federal income tax return is not permanent. Under the leadership of Senator Alexander and Senator Bill Frist (R-TN), Congress passed a tax relief bill in 2004 permitting the sales tax deduction for two years. Congress extended the deduction for another two years in 2005. Tennessee is not the only state that would be unfairly impacted by the expiration of the sales tax deduction. Seven states – Alaska, Texas, Florida, Wyoming, Washington, South Dakota, and Nevada – do not have a state income tax. Two states – Tennessee and New Hampshire – only impose an income tax on interest and dividends, but not wages. Historically, services have normally escaped sales taxation, but recently many states have begun to broaden the scope of their taxes to include some services, particularly if they are ancillary to or linked with tangible sales. Since a state does not have authority to tax outside its borders (other than when an out-of-state business has nexus in the state) it is tempting for buyers to make their purchases from sellers in other states; and this is especially true when a state's sales tax applies to purchasers rather than to sellers. States have attempted to extend the reach of their sales taxes to cover out-of-state vendors, but the Supreme Court has consistently refused to allow this. For this reason, most states have 'use' taxes alongside their sales taxes, which typically apply to 'use, storage, or other consumption' within the state where the tangible personal property is located. Use taxes can be easily ignored by individuals, of course, and often are, with impunity, but businesses have more difficulty in ignoring them. Goods bought for out of state for re-sale would not be caught by a use tax, but a shop that bought fittings out of state would be liable. As regards international transactions, the existing rules are clear about sales of physical products delivered in the United States: if the seller is in a country with which the United States has a double tax treaty (almost all high-tax countries) then there is no sales tax unless the company has a "permanent establishment" in the United States; for other countries (including almost all offshore jurisdictions) products are taxed on arrival if the sale is "effectively connected with the conduct of a US trade or business". The advent of the Internet has made something of a nonsense of the structure of sales and use taxes, since a seller in one state may distribute products to buyers in many other states, without tax being collected at any point. This subject is dealt with in the section on sales over the Internet, and the states attempted answer to the problem is described in theStreamlined Sales Tax Program section. From time to time, there is discussion over the introduction of a Value Added Tax (VAT). In October, 2009, t he Center for Freedom and Prosperity Foundation (CF&PF) warned that imposing a federal value-added tax (VAT) in the United States would lead to more spending, bigger government and a higher tax burden, following comments from senior Democrats and Obama administration advisors that such a tax would be desirable.

Given the rising federal deficit, set to hit USD1.8 trillion this year, the hefty price tag of the imminent health care reforms and the fact that President Obama's tax reform panel is due to report its recommendations by the end of this year, it is perhaps not surprising that this debate is happening again; a similar debate about consumption taxes was had around the time President Bush created his own tax panel in 2004. However, this time, it seems that opinion is crystallizing in favor of the tax in the places of power rather than in lecture halls and committee rooms. Talking on the subject of tax reform on PBS's Charlie Rose show recently, House Speaker Nancy Pelosi, a California Democrat, said that "somewhere along the way, a value-added tax plays into this," before going on to add: "Of course, we want to take down the health-care cost, that's one part of it. But in the scheme of things, I think it's fair to look at a value-added tax as well." John Podesta, an Obama advisor, has also suggested that VAT is worth looking at, in a "small and progressive" way. However, according to the CF&PF, the evidence from Europe, where most countries impose VAT at rates averaging about 20%, the evidence that such taxes achieve their goals is far from convincing. Idaho Illinois Indiana Iowa Kansas Kentucky Louisiana Maine Maryland Massachusetts Michigan Minnesota Mississippi Missouri Montana Nebraska Nevada New Hampshire New Jersey 6.0 6.25 7.0 6.0 5.3 6.0 4.0 5.0 6.0 6.25 6.0 6.875 7.0 4.225 nil 5.5 6.85 nil 7.0

New Mexico New York North Carolina North Dakota Ohio Oklahoma Oregon Pennsylvania Rhode Island South Carolina South Dakota Tennessee Texas Utah Vermont Virginia West Virginia Wisconsin Washington Washington DC Wyoming

5.375 4.0 4.5 5.0 5.5 4.5 nil 6.0 7.0 6.0 4.0 7.0 6.25 5.95 6.0 5.0 6.0 5.0 6.5 5.75 4.0

The Multi-State Tax Commission
The Multistate Tax Commission is a joint agency of state governments established to improve the fairness, efficiency and effectiveness of state tax systems as they apply to interstate and international commerce, and preserve state tax sovereignty. The Commission was created in 1967 through the Multistate Tax Compact, an interstate compact statute enacted by each Compact Member State. The Commission is comprised of the principal tax administrator of each Compact Member State acting as the representative of the state in its entirety. The Commission studies state tax issues and recommends to states uniform tax laws and regulations that apply to multistate and multinational enterprises. Greater uniformity in multistate

taxation helps ensure that interstate commerce is neither undertaxed nor overtaxed and helps reduce the potential for Congress to preempt or unduly limit state taxing authority. The Commission further encourages uniformity and helps avoid double taxation through a Multistate Alternative Dispute Resolution Program that enables a taxpayer to resolve a common tax issue with several states at once. The Commission also protects state taxing authority through active participation in significant court cases and through educating Congress about state tax authority and interests. The Commission encourages proper compliance by businesses with state tax laws. It maintains a Joint Audit Program that audits businesses for several states at the same time. This program also contributes to more uniform taxpayer treatment and helps states learn about emerging industry trends. The Commission administers the National Nexus Program that encourages businesses that are not registered with states, but should be, to comply with state tax requirements. The program helps states and taxpayers understand nexus standards and works with states to improve the clarity of those standards. The Commission's headquarters office is located at 444 N. Capitol St. NW, Suite 425, Washington, DC 20001. [Phone: (202) 624-8699, Fax: (202) 624-8819. E-mail: [email protected]. Website: www.mtc.gov ] The Commission also maintains audit offices in Chicago, New York and Houston.

Business Activity Taxes
In September, 2005, a lobby group representing several major corporations, including Citigroup and Nike, urged Congress to pass a bill aimed at clarifying when companies face corporate taxes for remote sales from other states. Although the resulting bill, known as BATSA, was introduced several times into the Congress, by 2009 it had yet to reach the statute book. The measure, known as the 'The Business Activity Tax Simplification Act,' which was discussed at a House Judiciary administrative law subcommittee hearing, sought to resolve the issue of states seeking to collect business activity taxes from businesses headquartered in other states by setting out specific guidelines for when an out-of-state business may be charged a tax for doing business in a state. Over the past several years, a growing number of states have sought to collect business activity taxes from businesses in other states. The problem is that different states use different standards for determining what constitutes sufficient contacts with a state to justify taxation. According to the bill's sponsor Rep. Bob Goodlatte (R.-Va), this resulted in businesses being deterred from expanding their presence in other states for fear of exposure to further taxation, and it is becoming a growing concern for internet-based companies in particular. "Just because a website can be accessed by consumers in a certain state, doesn’t mean that state should be able to collect taxes from the website owner. This legislation focuses on allowing the Internet and the commerce that it facilitates to expand, by eliminating excessive taxes that harm on-line growth," Mr. Goodlatte stated when the legislation was introduced to the House earlier that year. The proposals were attacked by the National Governors Association and other state and local government officials, who fear the bill would put a "major strain" on state treasuries, depriving them of some $8 billion in revenues.

However, Mr Goodlatte cited numerous other examples of "aggressive state actions" and positions against out-of-state companies. For example some states take the position that a business whose trucks pass through the state just a handful of times per year without picking up or delivering goods has sufficient connections with the state to justify imposing business activity taxes on that company. Other states believe that merely listing a phone number in a local phone book in that state is a sufficient connection to justify taxation. Mr. Goodlatte says that his legislation would benefit both states and business by eliminating grey areas and by establishing "bright lines" regarding what constitutes a physical presence. "This legislation will ensure that businesses are not subject to double taxation at the state level, which will ultimately facilitate the continued growth of e-commerce, job creation and the overall strength of the American economy," he declared. In July 2007, Senators Mike Crapo (R-Idaho) and Charles E. Schumer (D-New York) tried again, introducing a new BATSA bill following the Supreme Court’s refusal the week prior to hear two cases relating to multiple layers of tax on multi-state businesses. At issue was whether companies, in addition to being taxed in the state where they are physically located, should also be subject to business activity taxes where they solicit business or have customers, even if they do not have employees or a physical location in the state. The Schumer-Crapo legislation would have codified the physical presence standard, which is common practice for the imposition of sales and use taxes but not for income taxes. “Businesses should not be punished with double taxation simply because their products reach beyond state borders,” stated Schumer. “At a minimum, this is a huge administrative burden. In the worst case scenario, these differing state tax treatments will drive businesses to states with more favorable laws. Either way, the effect on commerce is debilitating.” Crapo added: “This effort by a large number of states to impose business activity taxes based on economic presence has the potential to open a Pandora’s Box of negative implications for businesses. Without clarification by Congress, states will be free to enact revenue-raising nexus legislation and policies that, by definition, will not and cannot take into account the national impact of such activities.” The Senators said that in recent years, states which impose taxes based on economic presence have caused widespread litigation and stifled commerce. With a dizzying maze of state and local tax rules – some enacted by legislatures and others imposed by state revenue authorities and upheld by state courts – simplification is desperately needed, they added. According to Crapo and Schumer, the legislation will have positive benefits for companies big and small. For smaller businesses facing different taxing standards in different states, BATSA would eliminate costly litigation and administrative issues. For larger companies that have customers throughout the country, the legislation creates clarity and reduces the likelihood of double taxation. For the states, the bill creates a uniform taxing standard that permits them to compete on a level playing field for business activity and jobs, while establishing a predictable and relatively easily discernable tax base. On June 18, 2007, the Supreme Court had denied certiorari in two cases which challenged the constitutionality of taxing companies with no physical presence in a state. In addition to ignoring the tax imbalance, Crapo and Schumer argued that the court’s inaction has emboldened at least one state to introduce new legislation that would allow it to levy taxes based on economic presence – and other states could follow suit if Congress doesn’t act.

“In short, this is no longer a theoretical discussion,” Schumer stated. “I believe that Congress has a duty to prevent some states from impeding the free flow and development of interstate commerce and to prevent double taxation.” The Schumer-Crapo legislation would update current law by codifying the physical presence standard, requiring a business to have a physical presence, such as employees or property, in the state before it can be subject to state business activity taxes. The bill establishes a bright-line standard that will eliminate any confusion for both state tax administrators and businesses as to the circumstances under which businesses are subject to state business activity tax (BAT). Under BATSA, mere economic activity – such as in-state customers – would be insufficient for a state to impose income and other business activity taxes on out of state businesses. Firm guidance on what activities can be conducted within a state that will trigger that state’s taxing power is expected to provide certainty for tax administrators and business, reduce multiple taxation of the same income, and reduce compliance and enforcement costs for states and businesses alike. In December 2007, the US Treasury Department released a study on business taxation and global competitiveness, suggesting, as one of three proposed approaches to improve the competitiveness of the US Business Tax System in the 21st Century, that Business Income Tax System should be replaced entirely with a Business Activity Tax (BAT) According to the Treasury: "The BAT tax base would be gross receipts from sales of goods and services minus purchases of goods and services (including purchases of capital items) from other businesses. Wages and other forms of employee compensation (such as fringe benefits) would not be deductible." Alternative proposed approaches included broadening the business tax base and lowering the statutory tax rate/providing expensing, and adressing issues with specific areas of the business tax system, including: multiple taxation of corporate profits; corporate capital gains and dividends received deduction; tax bias favoring debt finance; taxation of international income; treatment of losses; and book-tax conformity. In February 2008, the House Committee on Small Business held a hearing examining the impact of business activity taxes, which found that while US small businesses regularly sell their products and services around the globe, increasing numbers are finding it difficult to do business within their own country because of the levy. The congressional panel, chaired by Congresswoman Nydia M. Velázquez, explored the issue with an eye towards balancing the needs of entrepreneurs with the fiscal interests of states. “We are seeing cases where entrepreneurs are charged a USD400 BAT for less than USD100 of total sales in a state. Not only does that have a chilling effect on small firms, it hurts the national economy,” observed Velázquez. The hearing heard that in an effort to support an eroding tax base, many states are aggressively levying BATs on firms located outside their borders. As entrepreneurs look across state lines to grow their businesses — an obvious move in the internet age — they are finding BATs to be inordinately burdensome and difficult to anticipate. Several witnesses noted that entrepreneurs are often unaware that they are subject to these taxes until they receive the bill from a state. Furthermore, small businesses already spend more than a billion hours per year on tax compliance. Because they lack the large tax departments of

their big business counterparts, challenging an incorrect assessment can prove prohibitively costly and time consuming. “Unlike large corporations, most small businesses operate on very tight margins. Any additional expenses — particularly unexpected ones — can have a devastating impact on their solvency,” added Velázquez. During the hearing, members considered ways to provide small firms with greater certainty in the face of the current economic downturn. One of the options reviewed was having a single standard for state-imposed business activity taxes. This would allow businesses to determine with more accuracy when they are subject to a BAT and how much they would have to pay. “When it comes to business activity taxes, the status quo is obviously not working,” noted Velázquez. “The success of entrepreneurs is predicated on their ability to plan. Ensuring clarity in the tax code promotes the well-being of small businesses and that of our nation’s economy.” In June, 2009, the United States Supreme Court handed victory to the state of Massachusetts in a case where its right to charge business activity tax was challenged. The US Supreme Court stated in a decision issued on June 21 that it would not hear an appeal by Capital One Bank against a Massachusetts revenue authority decision to tax the company based on the amount of business it conducted in the state, regardless of the fact that the company had no ‘physical presence.’ Capital One had attempted to argued that because it didn’t have a physical presence in the state, it was entitled to dispute a USD1.76m tax bill for providing credit card services and an additional USD159,000 charge for the provision of banking services within the state’s borders. However, the Massachusetts Supreme Court found that the company nevertheless had a “substantial nexus” in the state, and that this could be used as the basis for taxation. "By issuing credit cards with the 'Capital One' logo to Massachusetts customers, the Capital banks essentially were guaranteeing payment to merchants of the amounts charged by those customers, if approved," said the US Supreme Court. "The Capital banks bore the risk of a cardholder's non-payment. In the event of such nonpayment, the Capital banks worked with collection agencies and Massachusetts attorneys to collect delinquent accounts, which included the filing of civil actions on behalf of the Capital banks in Massachusetts courts,” the decision said. Toys R Us subsidiary Geoffrey, Inc., was also challenging the tax law. The case highlights an increasingly hazardous area of tax law for companies doing business outside of their state of incorporation – especially for e-commerce firms selling goods and services over the internet - with state tax authorities increasingly keen to tax companies with no physical presence in the state. The Securities Industry and Financial Markets Association (SIFMA) commented that the Supreme Court’s decision not to hear the Capital One case was “disappointing” and part of a “disturbing trend” by state taxing authorities and legislatures to impose taxes on out-of-state businesses based on in-state marketing activities “without providing clarity or certainty as to whether and to what extent operations will create a tax liability in various states.”

“Without a bright-line test, investment will be discouraged, litigation costs will rise, and compliance burdens for institutions will increase,” SIFMA cautioned.\

SALES ON THE INTERNET
A company which is selling goods over the Internet and has a presence in the state of delivery, ie has established nexus in that state, will be required to register to collect sales tax on all taxable goods. However, in many, perhaps most cases, an Internet sale will not involve nexus in the receiving state, and the Supreme Court has prevented states from imposing sales tax on out-of-state supplies in that situation. Arguably, use tax provisions should then step in and impose tax on the sale, but the reality is that the operation of such consumption taxes depends heavily on the ability of the taxing authority to find traces or records of transactions, thus motivating taxpayers to comply with the law because of the near-certainty that they will be found out if they don't. It seems obvious that once an individual consumer can buy and receive digital but taxable goods or services through the Internet, then it is going to be hard to collect tax if the seller is outside the tax jurisdiction. The taxing authority won't know and can't know about the transaction unless the consumer chooses to tell them, which history says is not likely The supply of goods ordered and paid for from a distant seller and requiring physical delivery within the taxing jurisdiction is a simpler case, because a cross-border transit is necessary. The supply is taxable only when there is nexus, and even then enforcement can be patchy; but Internet sales of this type are no different from existing mail-order catalogue sales. In reality, for traders within the US who obey local tax laws, the Internet has been an almost taxfree zone because of the moratorium on Internet access taxes and the ban on taxation of interstate supplies of products and services. For many states, on-line cigarette sales are particularly hurtful for the tax-base. States like New York and New Jersey find tax revenues dropping dramatically as smokers buy from on-line stores. Cigarettes are a special case, because the 1949 The Jenkins Act requires vendors that ship cigarettes to another state to provide customers' names and addresses to taxing agencies in the receiving state. Most Internet cigarette vendors do not comply with the Jenkins Act, but some do, and their customers are receiving substantial tax claims from their home states - up to thousands of dollars in some cases. New Jersey, Pennsylvania, Ohio and New York City are among the municipalities that are billing residents. The response of the states to this situation was to try to assert nexus in a wider range of situations; but they have not been very successful in this endeavour. They have also banded together to develop the Streamlined Sales Tax Program, (SSTP or SSUTA) which will regularize Internet sales taxation and may lead Congress to loosen the rules against inter-state sales taxation. In December 2007, the US Electronic Retailing Association (ERA), has announced that it was "strongly against" taxation of internet transactions, and that it intends to fight the Streamlined Sales Tax Project (SSTP). According to the ERA, the only trade association that exclusively represents electronic retailers, the SSTP would impede the development of e-commerce and impose substantial added costs

and compliance burdens on electronic retailers. As an urgent industry and legislative concern, the groups said that the collection of taxes on internet transactions is an issue that must be dealt with "thoroughly and fairly". “In a very short amount of time, the internet has become an unprecedented marketplace where the playing field is level for retailers both large and small,” Barbara Tulipane, ERA President and CEO, noted in a statement. “The Streamlined Sales Tax Project and its provisions would create a cost-prohibitive barrier for smaller retailers who are the lifeblood of our economy.” Under the Streamlined Sales Tax Project (SSTP), states are required to establish uniform definitions for taxable goods and services, and maintain a single statewide tax rate for each type of product. The project also seeks to simplify tax reporting requirements for online sellers. But while some retailers support the SSTP, businesses in general are lukewarm or hostile to the plan, which they say will impose burdensome new recording and reporting requirements. The ERA believes that while the original Streamlined Sales Tax Agreement (SSTA) approved by Congress was created to simplify multiple taxing jurisdictions, the current plan will make commerce more complicated for both merchants and consumers. The SSTA now permits each state to adopt an additional rate, and with 7,500 sales tax jurisdictions in the US, the ERA claims that there could be as many as 15,000 tax rates to administer. “The Streamlined Sales Tax Agreement is a moving target. Its supporters claim that they have a streamlined collection system. That’s just not true – in fact their proposal has grown in complexity over the years due to the many interested parties,” argued Edwin Garrubbo, CEO of Creative Commerce. “It would be a nightmare for retailers to implement this system.” The ERA thinks that the SSTA would unfairly discriminate against remote sellers in four ways: first, the burdens are much greater for remote sellers who must compute, collect and remit tax for thousands of jurisdictions, as compared to an in-state retailer who collects at just one tax rate; second, a direct marketer must “eat” the difference if a customer fails to remit the correct tax when paying by check – a problem that traditional retailers do not confront; third, in-state retailers benefit from a wide variety of state and local government services and programs (including tax incentives) that are not available to out-of-state merchants; and fourth, delivery charges on internet and catalog purchases usually exceed the amount of sales tax on those same goods – so the remote seller has no price advantage. To date (2009), 22 states have adopted the SSUTA (Streamllined Sales and Use Tax Agreement, as it now is), representing 31% of the US population. Yet without a clear steer from Congress, the SSUTA remains little more than a brave attempt at harmonization. Attempts to persuade Congress to act continue. In April, 2009, the National Conference of State Legislators (NCSL) sponsored a bill in Congress following a report commissioned by the Streamlined Sales Tax Governing Board which estimates that, between now and 2012, States stand to lose up to USD52bn in uncollected sales taxes on e-commerce transactions. This type of legislation has been tried in every Congress since 2003, but has never passed either chamber. The bill would enable States that have complied with the Streamlined Sales Tax (SST) initiative to require all online retailers to collect and remit sales tax from consumers who live in those States. Neil Osten of the NCSL says the bill will provide compensation for the cost of complying with the sales tax legislation. Meanwhile some states are taking action on their own initiative. In May, 2009, California Assembly Member Nancy Skinner (D-Berkeley) introduced Assembly Bill 178, legislation that would modify the state's existing sales tax law in order to rake in extra revenue from internet

sales. This has sparked debate on how to protect 'neighbourhood stores' from internet competition. Modeled on New York State's recent Internet Sales Tax provision, AB178 claims that any web publisher who displays advertising from an out of state retailer, and subsequently earns a commission on a sale as a result of that advertising, establishes a presence in the state for the retailer, requiring it to collect sales tax on all orders received from residents of California. New York expects to collect approximately an extra USD70m by year's end. Skinner’s bill could generate USD150m for California. But this legislation seems misconceived: affiliate marketers, who are the targets of this tax measure, are not an integral part of the internet retailers in question. Rather, they are paid for performance-marketing advertising. Affiliate marketers have websites that can be blogs, coupon sites, news sites, video websites - the whole range. By posting advertising on their websites, affiliates help customers to click through to a retailer's site and in turn are paid a small commission if a sale is made. Affiliates do not transact sales; they do not accept money for sales; they do not deliver products or services to consumers. Less than a week after the New York law was enacted, more than 250 retailers dropped all of their affiliates in New York, leaving thousands of affiliates, small- and medium-size businesses, severely compromised. In California, an estimated 30,000 small businesses use this business model, and many would go to the wall if the bill eventually goes through, while others will see much lower taxable income. The bill singles out performance-based online advertising and creates an extremely uneven playing field compared to other types of online and offline advertising, say its opponents. Advocates of the bill enlist sympathy by blaming the ecommerce retailers for the demise of 'friendly neighbourhood stores' and claim that 'a level playingfield' needs to be created to force the internet sellers to compete on equal terms. But, say opponents, they fail to acknowledge the huge advantages to consumers brought by the internet in terms of finding more easily the right product at the right price to suit their needs and the fact that the internet has been the engine for new job creation providing hitherto unknown opportunities for self employment in niche businesses. The reality is that the competitive position of neighbourhood businesses can be only marginally affected by squeezing out affiliate marketers and the main objective is quite clearly to generate more revenue; even this is of doubtful worth when set against the loss of income tax and opportunities for small business and job creation. AB178 was due for a hearing by Assembly Revenue and Taxation Committee on April 27, but was withdrawn at the last minute. Now it may not be voted on until January 2010 at the earliest. However the contents of the failed bill could be pushed through unnoticed in another bill or as an annual budget item.

International Internet Sales
As regards international transactions, the existing rules are clear about sales of physical products delivered in the United States: if the seller is in a country with which the United States has a double tax treaty (almost all high-tax countries) then there is no sales tax unless the company has a "permanent establishment" in the United States; for other countries (including almost all offshore jurisdictions) products are taxed on arrival if the sale is "effectively connected with the conduct of a US trade or business". There is little certainty about the effect of current US legislation on the taxation of sales made from non-US web-sites. Some indications given here are not definitive answers, and any trader should seek professional advice relevant to their own particular situation.

The location of the server in or on or with which a contract was concluded has an uncertain impact on taxability. It is thought unlikely that a server based in the US constitutes a 'permanent establishment', but sellers are well-advised to avoid such if possible. Even if the server is not a problem, the server's host might be an 'agent', who can be deemed a 'permanent establishment'. A host who also provided transaction-processing, support and marketing functions would probably cross the line into being a permanent establishment, especially if the host does not have many clients. It is also unlikely that the positioning of a server in an offshore jurisdiction by a 'treaty' country business would change the origin of the sale, but no-one knows for sure. By the same token, it is unlikely that an offshore (non-treaty) company could avoid taxability by using a server in a hightax (treaty) country. So for physical products, the conclusion seems to be that e-commerce doesn't really change much, unless a company moves from a treaty to a non-treaty country. Usually this would happen in order to gain corporation tax benefit and that benefit would have to be set against the taxability of US B2B sales. For digital products other than software there is the additional difficulty that it is not clear what is being sold. The rules for software say that it is delivered where it is downloaded, and taxed accordingly, as if it was a physical product (see above). Other types of download may be treated equivalently to software, but may instead be treated as generating royalty income, which would be taxable regardless of whether or not there is a permanent establishment in the US. There are, at the time of writing, no rules. The normal rate of tax (to be withheld by the US buyer) would be 30% on royalties, which could be partly reclaimed by the seller if in a treaty jurisdiction. But it seems most improbable that a private buyer of, say, recorded music in the US is going to deduct and remit tax on purchases from a remote vendor, and only slightly less improbable that a business would do it unless they are buying on a large and noticeable scale. The problem for a business selling downloadable product into the US, and not needing to allow for tax as things stand, is evidently that retrospective legislation may make it liable for large amounts of tax on past transactions. Businesses will have to make their own decisions about what to do. For a small business with occasional US sales, the danger can probably be disregarded, but for a larger business with a substantial Internet trade in the EU, there is a real chance that the IRS will come after them one day.

The Internet Taxation Moratorium
Since 1999 there has been a moratorium on the imposition of Internet access taxes. Taken together with the prohibition on taxation of inter-state sales, absent 'nexus' in the taxing state on the part of the seller, the result has been a rapidly increasing loss of revenue for the states as Internet sales have begun to grow. Congress, for its part, has refused to lift the inter-state taxation ban until the states got their act together in terms of simplification of sales taxes. That led to the Streamlined Sales Tax Program, (SSTP or SSUTA) which after some years of effort now seems to be having results. Without any ability to put taxes directly on inter-state Internet commerce, many states would have wanted to tax the Internet directly; but the moratorium has effectively prevented that. With the moratorium due to expire at the end of 2003, the House of Representatives passed legislation extending the moratorium on a permanent basis to all forms of internet access, and removing the grandfather clause contained within the temporary moratorium which allowed the 10 states which began to levy taxes on internet access prior to the enactment of the moratorium to

continue to do so; however a similar bill stalled in the Senate over concerns about the potential cost to state authorities. Senator Lamar Alexander (R-Tennessee), one of the main opponents of the Senate bill, which was sponsored by Senators Ron Wyden (D-Oregon) and George Allen (R-Virginia), had put forward proposals whereby the language of the lapsed temporary moratorium would be extended by two years, and would be changed to cover DSL internet connections. However, the grandfather clause allowing his and other states to collect internet access taxes would have remained. The stand-off continued in 2004, and by mid-year it still seemed that an extension of the moratorium would be hard to achieve. The same applied to the attempt to repeal the ban on sales taxes on inter-state supplies, which the states hoped would be accepted by Congress in response to the SSUTA initiative to create a harmonised sales tax regime. By July, 2004, 46 states had joined the initiative, and most were working to bring their laws into compliance with SSUTA's standardized regime. Once states representing 20% of the population are fully in compliance, the initiative was due to come into force, something that happened during 2005. In November, however, in a 'lame duck' session of Congress, the Senate voted unanimously to extend the moratorium on the taxation of internet access for a further four years. Under the legislation, local and state governments were restricted from levying taxes on internet access services, including broadband and wireless services. However, other services such as internet mobile phones remained outside of the legislation’s remit, as did the sale of goods and services made over the internet. Expanded provisions covering high speed broadband services had initially sparked fears from local officials that their ability to collect taxes at the local level would be severely curtailed, although a last minute provision allowing them to continue assessing existing telephone taxes assuaged these fears somewhat. Welcoming the Senate’s approval, Sen. George Allen (R., Va.), who co-sponsored the legislation noted: "I'm glad to see the majority of Congress stands with those who want to see the Internet continue to grow and flourish as a tool for information, opportunity, prosperity and commerce." The House followed the Senate, and in December, 2004, George W. Bush signed the bill into law. The moratorium would be in place until November 1 2007, and was also retroactive to cover the year of 2003, during which the previous moratorium had lapsed. In fact, the states had by and large refrained from imposing new access taxes during that period. The move was welcomed by internet service providers such as America Online and Time Warner, as well as by representatives of the telecommunications industry. “With forward-looking policies that encourage real competition, like the Internet tax moratorium, consumers and the nation’s economy will benefit from increased investment and innovation in the telecom sector,” enthused Walter B. McCormick, Jr., President and CEO of the United States Telecom Association, shortly after Mr Bush signed the bill. However, not everyone was happy with the access tax ban on internet services, especially municipal and state governments, which were particularly upset over the expanded provisions covering broadband services. In February 2007, legislation was introduced into the House of Representatives to permanently extend the moratorium on internet access taxes and duplicative taxes on internet commerce.

"Americans across the country utilize the Internet for communication, commerce, business, education and research," observed Congresswoman Anna G. Eshoo (D - Calif), who introduced the Permanent Internet Tax Freedom Act of 2007. "Because of the tremendous value it brings to all aspects of our lives, we need to encourage its usage and do everything we can to ensure that Internet access is universal," she added. "Passage of this legislation will ensure, once and for all, that the growth of Internet access and ecommerce will not be hampered by unwarranted taxation," said Eshoo, a Member of the House Energy and Commerce Subcommittee on Telecommunications and the Internet. According to Eshoo, a 2006 report by the Pew Internet and American Life Project demonstrated that 73% of those polled were Internet users, up from 66% in a similar 2005 survey, while in 2006 alone, online retail exceeded $100 billion, increasing 24% over 2005. However, Internet usage still lags behind in rural and lower income areas of the US, and the country has fallen from 4th to 16th in broadband penetration worldwide since 2001. "In order to reverse this trend, we need to ensure that access costs are kept to a minimum. Prohibiting unnecessary access taxes will help accomplish this goal," Eshoo told the House. "We also need to allow unfettered access to the products and new services that are only available through the Internet and prevent multiple layers of state and local taxes. Otherwise, we will open the door to a myriad of barriers to Internet commerce that will drive consumers from a web-based marketplace and stifle innovation," she argued. Meanwhile, in the Senate in May 2007, US Senators Tom Carper (D-Del.) and Lamar Alexander (R-Tenn.) introduced legislation that would extend the ban on Internet access taxes for another four years. The Internet Tax Freedom Extension Act of 2007 sought to improve the existing moratorium by closing tax loopholes, and clarifying the definition of "Internet access" to better protect essential goods and services provided by state and local governments. The Carper-Alexander bill would alter the definition of 'Internet access' to ensure that a consumer's connection to the Internet, including email and instant messaging, remained tax-free. At the same time, the bill would close a loophole in the original 1998 moratorium that could allow an Internet Service Provider to bundle Internet access with other services and make them all taxfree. The Senators said that closing this loophole is important because it could harm the traditional tax base of state and local governments. In 2004, the last time Congress had extended the ban, Congress exempted voice-over-Internetprotocol services from the moratorium because of fears that states and localities could lose billions of dollars in revenue as telephone services migrated to the Internet. As the Internet continues to grow and more services migrate to the Internet, Senators Carper and Alexander explained that it makes sense to close that loophole and define Internet access exclusively as the connection between a consumer and the Internet Service provider. Such clarity will continue to ensure that Internet access is tax free, while also ensuring state and local governments do not have to come up with new - and potentially more burdensome - sources of revenue to pay for teachers, firefighters and health care services, they explained. "Our bill would ensure that consumers continue to enjoy tax-free access to the Internet, including email and instant-messaging," stated Sen. Carper. "In the meantime, we fix many problems with

the current law so that as future services, such as cable television, migrate to the Internet, we don't completely erode the tax base of state and local governments." "We should not undermine the ability of governors and mayors to pay for goods and services that everyone depends on. A temporary extension, as we have in our bill, will allow us to keep Internet access tax free, while giving Congress more time to understand the Internet's evolution and what it means for state and local governments," he added. "This is a common sense compromise that would extend the moratorium for another four years without blowing a hole in the budgets of state and local governments," Sen. Alexander announced. "A permanent moratorium would create a massive federal unfunded mandate, which members of Congress have repeatedly promised not to do. When the federal government starts restricting Tennessee's ability to raise revenue that means increased tuition, higher sales tax on food and even a state income tax are just around the corner." In addition, the legislation sought to extend the original "grandfather" clause, thereby allowing the nine states that collected revenues from Internet access before the 1998 tax moratorium to continue to collect those taxes. As finally passed, the Internet Tax Freedom Act of 2007 extended the moratorium until 2014.

THE STREAMLINED SALES TAX PROGRAM
The response of the states to losses of sales tax revenue on Internet commerce was to band together in the Streamlined Sales Tax Project (SSTP), which resulted in the Streamlined Sales and Use Tax Agreement (SSUTA). The agreement is available via the Streamlinedsalestax.org website. Under the SSUTA, states are required to establish uniform definitions for taxable goods and services, and maintain a single statewide tax rate for each type of product. The project also seeks to simplify tax reporting requirements for online sellers. But while some retailers support the SSTP, businesses in general have traditionally been lukewarm or hostile to the plan, which they argue imposes burdensome new recording and reporting requirements. The states have estimated that they are losing over $15bn a year from Internet sales, although much of this relates to uncollectable inter-state sales. The Supreme Court ruled in 1992 that states could not force businesses outside their borders to collect their sales taxes unless the companies have stores or headquarters (nexus) in those states. The states participating in SSTP planned to entice online merchants to collect sales taxes voluntarily by sharing with them a portion of the tax revenues that they remit, but it's far from clear that this will be enough to persuade a multi-state retailer to keep 45 sets of records. Online sellers would be required to purchase approved tax-calculation software or to certify with the states any in-house calculation systems already in place; or they could choose to outsource tax collection to a certified third-party. In July, 2005, the SSTP made further progress when tax officials, state lawmakers and industry representatives agreed to establish an 18-state network for collecting taxes on internet sales in a deal that they hoped would encourage online retailers and Congress to adopt a national online sales tax framework.

"The vote is a culmination of over five years of hard work by states, local governments and businesses interested in seeing the complexity in sales tax [reduced]," noted Stephen Kranz, tax counsel for industry trade association the Council on State Taxation. As a result of the agreement, software vendors contracted by the Streamlined Sales Tax Project began on October 1 of that year to provide free tax collection and remittance software and services to online merchants who voluntarily agreed to collect taxes on all online sales on behalf of the then 18 participating states. Internet retailers that agreed to collect and remit taxes would do so for online sales originating in any of the states that have amended their state laws to fully comply with standards developed by the sales tax project. In the other states, the internet sales tax collection would be optional until their tax codes were brought into full compliance. In both these cases, any taxes the retailer collected would be based on the rates in effect where the buyer lives, and the retailers would be compensated for the cost of collecting and remitting that revenue to the states. More than 30 retailers were said to have agreed to participate in the program at that time. The agreement came soon after a three-judge panel at the California 1st District Court of Appeal in San Francisco ordered Borders.com, the online division of the bookseller Borders Group, to pay $167,000 in back taxes to the state because the company allowed customers who bought books online to return them at the company's brick-and-mortar stores. Borders had argued that it didn't have to collect California sales taxes because its online division, which has since been outsourced to Amazon.com, did not own or lease property in the state, and all internet orders were received and processed outside the state. However, the judges felt that the firm's web site and retail stores were inextricably linked and could not be defined as separate entities. In December 2007, meanwhile, The US Electronic Retailing Association (ERA), announced that it was "strongly against" taxation of internet transactions, and that it intended to fight the Streamlined Sales Tax Project (SSTP). According to the ERA, the only trade association that exclusively represents electronic retailers, the SSTP would impede the development of e-commerce and impose substantial added costs and compliance burdens on electronic retailers. As an urgent industry and legislative concern, the groups said that the collection of taxes on internet transactions is an issue that must be dealt with "thoroughly and fairly". “In a very short amount of time, the internet has become an unprecedented marketplace where the playing field is level for retailers both large and small,” Barbara Tulipane, ERA President and CEO, noted in a statement. “The Streamlined Sales Tax Project and its provisions would create a cost-prohibitive barrier for smaller retailers who are the lifeblood of our economy.” The ERA believes that while the original Streamlined Sales Tax Agreement (SSTA) approved by Congress was created to simplify multiple taxing jurisdictions, the current plan will make commerce more complicated for both merchants and consumers. The SSTA now permits each state to adopt an additional rate, and with 7,500 sales tax jurisdictions in the US, the ERA claims that there could be as many as 15,000 tax rates to administer. “The Streamlined Sales Tax Agreement is a moving target. Its supporters claim that they have a streamlined collection system. That’s just not true – in fact their proposal has grown in complexity over the years due to the many interested parties,” argued Edwin Garrubbo, CEO of Creative Commerce. “It would be a nightmare for retailers to implement this system.”

The ERA argued that the SSTA would unfairly discriminate against remote sellers in four ways: first, the burdens are much greater for remote sellers who must compute, collect and remit tax for thousands of jurisdictions, as compared to an in-state retailer who collects at just one tax rate; second, a direct marketer must “eat” the difference if a customer fails to remit the correct tax when paying by check – a problem that traditional retailers do not confront; third, in-state retailers benefit from a wide variety of state and local government services and programs (including tax incentives) that are not available to out-of-state merchants; and fourth, delivery charges on internet and catalog purchases usually exceed the amount of sales tax on those same goods – so the remote seller has no price advantage. To date (2009), 22 states have adopted the SSUTA (Streamllined Sales and Use Tax Agreement, as it now is), representing 31% of the US population. Yet without a clear steer from Congress, the SSUTA remains little more than a brave attempt at harmonization. Attempts to persuade Congress to act continue. In April, 2009, the National Conference of State Legislators (NCSL) sponsored a bill in Congress following a report commissioned by the Streamlined Sales Tax Governing Board which estimates that, between now and 2012, States stand to lose up to USD52bn in uncollected sales taxes on e-commerce transactions. This type of legislation has been tried in every Congress since 2003, but has never passed either chamber. The bill would enable States that have complied with the Streamlined Sales Tax (SST) initiative to require all online retailers to collect and remit sales tax from consumers who live in those States. Neil Osten of the NCSL says the bill will provide compensation for the cost of complying with the sales tax legislation.

The SSUTA Amnesty
Each state must provide an amnesty when they sign up to the Agreement. The amnesty is for uncollected or unpaid sales or use taxes for a seller who registers to pay or collect and remit applicable sales or use taxes on sales made to purchasers in the state. The amnesty will preclude assessment for uncollected or unpaid sales or use taxes together with interest or penalty for sales made during the period the seller was not registered in the state, provided registration occurs within 12 months of the effective date of the state's participation in the Agreement. The amnesty will be granted regardless of “nexus” of the seller if all other requirements are met. Amnesty is not available for sales and use taxes already paid or remitted to a state or to taxes collected by a seller. Amnesty is applicable only to sales or use taxes due from a seller in its capacity as a seller and not to sales or use taxes due from a seller in its capacity as a purchaser. No amnesty is available under the Streamlined Sales and Use Tax Agreement for taxes other than sales or use taxes.