Online Sales Taxes: A Good Idea Done Badly

Isn't this the perfect moment for a value-added tax?



On Monday, by a comfortable 69-27 majority, the U.S. Senate passed a controversial bill that will require online retailers with annual sales of more than $1 million to collect state sales taxes. Said Republican Mike Enzi of Wyoming: "This bill is about fairness. It's about leveling the playing field between the brick-and-mortar and online companies, and it's about collecting a tax that's already due. It's not about raising taxes."

Wait, isn't it? Leaving aside the anomaly in today's world of a Republican sponsoring a bill that raises revenue, the proposed law is entirely about raising taxes. The question, then, is whether these are taxes that ought to be raised, and if this is the way to raise them.

The short answers: Yes to the first, no to the second. This bill is precisely the wrong way to raise revenue from a growing stream of business. It applies a tax designed for physical entities to new commerce and does so in ways that will do little to help states or to reinvigorate small businesses that are hurting.

As is, much of the tax system is not fair. We are acutely aware of the labyrinthine quality of the U.S. tax code. The vagaries of state-by-state sales taxes only add to the complication. Five states don't even have a sales tax (Alaska, Delaware, Montana, New Hampshire and Oregon), and seven states have no income tax, including no tax on dividends and interest (Alaska, Florida, Nevada, South Dakota, Texas, Wyoming and Washington). If fairness is your litmus, as it is Enzi's, then it is rather unfair to live in New Jersey as opposed to, say, Florida, given the radically higher tax burden.

A Lotta Headache for a Little Revenue
That much of the code is currently unfair is hardly an argument against making one aspect of it fairer. But the online sales tax bill will place added burdens on those already paying more, whereas those living in sales-tax-free states will continue to feel none. For years, those of us who live in states that levy a sales tax have enjoyed the free pass that comes with shopping tax-free on Amazon, eBay, and any number of online sites. We get to sit at our computers at 1 in the morning and order those much needed gyroscope-equipped power drills without the nuisance of that extra 6 percent tacked on by state legislators whom we've never heard of, didn't vote for and aren't entirely convinced actually exist.

The bill was created because of angst from retailers and state legislators. Retailers have long cried foul, claiming that the ability of online sites to sell the same goods without sales tax provides unfair advantages that drive brick-and-mortar stores out of business. Many small businesses with storefronts that rely on local customers have actively lobbied for an online sales tax, asserting that unless that playing field is leveled, more small retailers will go out of business, eliminating jobs and harming local communities. Cash-strapped state governments have been even more adamant, arguing that they are losing more than $23 billion a year in foregone revenue because of the loophole, with negative consequences for teachers, police officers and all residents.

Even here, however, the problem isn't so simple. Some small business owners have warned that the burden of record keeping for their online sales by state will be immense. The bill has a proviso that each state develop software that will ease that burden, but there's hardly a guarantee that these systems will be harmonious, leaving a small business with $1 million in online sales to confront 44 different software widgets and a whole new IT budget. Given the competitive landscape of retail, the bill is likely to harm those who supposedly need it the most: small businesses.

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Zachary Karabell is Head of Global Strategy at Envestnet, a financial services firm, and author of The Leading Indicators: A Short History of the Numbers that Rule Our World. More

At River Twice Research, Karabell analyzes economic and political trends. He is also a senior advisor for Business for Social Responsibility. Previously, he was executive vice president, head of marketing and chief economist at Fred Alger Management, a New York-based investment firm, and president of Fred Alger and Company, as well as portfolio manager of the China-U.S. Growth Fund, which won a five-star designation from Morningstar. He was also executive vice president of Alger's Spectra Funds, which launched the $30 million Spectra Green Fund based on the idea that profit and sustainability are linked. Educated at Columbia, Oxford, and Harvard, where he received his Ph.D., he is the author of several books, including Superfusion: How China and America Became One Economy and Why the World's Prosperity Depends on It (2009), The Last Campaign: How Harry Truman Won the 1948 Election, which won the Chicago Tribune Heartland Award, and Peace Be Upon You: The Story of Muslim, Christian, and Jewish Coexistence (2007), which examined the forgotten legacy of peace among the three faiths. In 2003, the World Economic Forum designated Karabell a "Global Leader for Tomorrow." He sits on the board of the World Policy Institute and the New America Foundation and is a member of the Council on Foreign Relations. He is a regular commentator on national news programs, such as CNBC and CNN, and has written for The Wall Street Journal, Newsweek, Time, The Washington Post, The New Republic, The Los Angeles Times, The New York Times, and Foreign Affairs.

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