Targeting 'E-Tailers' May Not be Wise for State
October 18, 2008
William F. Shughart II
If the states participating in the Orwellian “Streamlined Sales Tax Project” were private companies, they already would have been prosecuted for engaging in an unlawful price-fixing conspiracy.
The SSTP was formed in 2000 to lay the groundwork for an aggressive lobbying campaign to convince Congress that it should allow states to collect sales taxes on items residents purchase from retailers located beyond their borders. Consumers buying products online currently enjoy the same immunity from state and local sales taxes the Supreme Court granted to mail-order catalog sales in the early 1990s. The court ruled that requiring retailers located in one state to collect sales taxes from customers in another unconstitutionally burdens interstate commerce. Hence, sales taxes are due on mail-order and Internet purchases only if the retailer has a “physical presence” in the customer’s state of residence. Although buyers in every state with a sales tax are obliged to report and pay “use” taxes on items purchased elsewhere, that requirement is difficult to enforce and few consumers voluntarily comply.
Gov. Haley Barbour’s Tax Study Commission recommends two long-term strategies for dealing with what it calls the “Internet sales problem.” One is to continue to work with other SSTP states to reduce the complexity of their sales tax codes and help mute “e-tailer” opposition. (There are not 50, but 30,000 separate sales tax jurisdictions in the United States.) The commission also recommends stricter enforcement of existing use tax laws.
Mayors and other public officials have long lamented the billions in tax revenue lost because they cannot collect sales taxes from remote sellers. Local retailers complain of Internet and mail-order retailers’ unfair tax advantage, and say that including such purchases in the sales tax base would merely restore a level retail playing field.
But intergovernmental tax-rate competition is just as important to consumer welfare as price competition between rival sellers. Access to the Internet allows everyone to live on a “virtual border.” There is no evidence that tax competition produces a “race to the bottom,” compromising the ability of revenue-strapped governments to supply essential public services. But policies that promote tax rate “harmony” make it easier for governments to ignore heterogeneous taxpayer preferences and to charge tax prices that are excessively high.
Internet taxes break the link between taxes paid and benefits received. A Mississippi retailer sees some of the sales taxes he pays on items sold to Mississippians being spent on local public goods from which he himself benefits. But an e-tailer located in the State of Washington, required to collect Mississippi sales taxes on an item shipped to a customer here, receives nothing in return. Neither does he impose any burden on Mississippi’s public services. The Washington e-tailer also has no political voice in Mississippi and therefore no influence over how high his taxes will be or how prudently the revenue is spent. Protected somewhat from competitive market forces by requiring all retailers, wherever located, to collect Mississippi taxes on items shipped to Mississippi customers, local retailers, in turn, have less of an incentive to lobby against high local taxes. Facing less political opposition to higher levels of spending and higher taxes to finance it, Mississippi’s politicians predictably have a freer hand to expand the size and scope of state and local government.
Placed at a competitive disadvantage by high local sales taxes, “brick-and-mortar” retailers do not have to stand idly by. They can get business lost to catalog sales or to the Internet back by providing services that their customers value—and are willing to pay for. The opportunity to see and touch items on display, to try them on, to take advantage of product demonstrations and other point-of-sale services, and to accept immediate delivery are options not available to online shoppers. Traditional retailers can also respond to Internet competition by becoming more efficient so that, inclusive of sales tax, the prices they charge are equal to or less than those charged by out-of-state retailers, which normally add hefty shipping and handling charges to their customers’ orders. That is how competition is supposed to work. When the playing field is instead leveled by forcing Internet retailers to raise their prices by collecting sales taxes and remitting them to the treasury of the state where the purchaser resides, the competitive market process is short-circuited.
The Tax Study Commission apparently thinks that a tax-free Internet is harmful to Mississippi’s fiscal health, but Mississippians ought to worry more about the damage done to intergovernmental tax competition if the loophole is closed.
William F. Shughart II is a Senior Fellow at The Independent Institute, Frederick A. P. Barnard Distinguished Professor of Economics at the University of Mississippi, and editor of the Independent Institute book, Taxing Choice: The Predatory Politics of Fiscal Discrimination.