The Internet Tax Freedom Act’s (ITFA) ban on state and local sales taxation of monthly Internet access fees costs state and local governments about $6.5 billion annually in forgone revenue, and the states and localities currently taxing access under ITFA’s “grandfather” provision would lose at least $500 million on top of that each year if the provision expired, as I’ve recently explained. Despite these costs, the House last week approved making ITFA permanent while letting the grandfather clause expire. A new bipartisan Senate bill, however, would help state and local governments make up for the lost revenue.
The Senate bill would pair a 10-year ITFA extension with the Marketplace Fairness Act (MFA). The MFA would enable states and localities to receive a substantial share of the sales tax that is legally due on purchases of goods and services from Internet and catalog merchants like Amazon and L.L. Bean but that they can’t collect from the companies.
Due to 1967 and 1992 Supreme Court decisions, a state can require out-of-state companies to charge its sales tax only if they have a physical presence in the state like a store, warehouse, or sales force. The tax is still legally due, and consumers are supposed to pay it directly to their state, but few people do. Those lost revenues could help pay for schools, roads, police, and other critical state and local services, and they keep sales and income tax rates higher than they’d otherwise need to be.
MFA would authorize states to require out-of-state sellers with more than $1 million in nationwide interstate sales to charge the applicable taxes — provided that states simplify their sales taxes and give merchants free software that calculates the correct tax.
This change would allow state and local governments to collect as much as $23 billion in annual revenues that they are owed under current law. That would help them maintain and possibly reinvest in public services they cut during the recent recession. It would also help offset states’ and localities’ ITFA-related $7 billion revenue loss — lost dollars that will grow as more people subscribe to Internet service; others trade-up to faster, and therefore more expensive, service; and others cancel their taxable landline telephones and cable TV in favor of Internet-based alternatives like Skype and Netflix.
MFA’s long-overdue enactment would also:
- Create a more level playing field for local store-based retailers. Because combined state and local sales tax rates typically range between 5 and 10 percent, Internet retailers that don’t collect sales taxes outside their home states start out with a price advantage over their local competitors. This makes it harder for Main Street merchants to create local jobs. It also has a ripple effect on local economies, as depressed sales at the neighborhood book or musical instrument shop lead to fewer purchases by their owners and employees at the farmers’ market and dry cleaner.
- End the unfair sales tax treatment of consumers who don’t shop online. Low-income people who lack the computers, Internet access, or credit cards needed to shop online pay more than their fair share of sales taxes because online shoppers can avoid these taxes.
These are worthy goals, and Congress should have passed the MFA long ago to achieve them. But if lawmakers decide to extend ITFA, it’s even more urgent that they also enact MFA. Congress should not extend the moratorium without also enacting MFA.