Amazon and the States: New Momentum for States to Recoup Sales Taxes on E-Commerce Transactions

The reach of the Internet into the lives of Americans, particularly in the area of commerce, continues in near-limitless fashion and will, undoubtedly, expand even further in the future. The Internet, however, has exposed a gaping structural chasm in state tax and revenue systems that will only continue to widen unless policymakers, primarily at the federal level, initiate remedial action. 

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About the Author:

Sujit M. CanagaRetna is senior fiscal analyst at The Council of State Governments’ Southern office, the Southern Legislative Conference in Atlanta, Ga., where he researches, analyzes and writes on state fiscal and economic development trends. He also tracks legislative issues and policy developments in Mississippi, North Carolina and Tennessee. CanagaRetna frequently testifies before state legislatures and other audiences across the country on topics affecting state finances. He is regularly interviewed by different media outlets (television, radio and print) on issues affecting state finances. CanagaRetna also has staffed state legislative delegations to a number of countries, including England, Scotland, Thailand, Indonesia and China. He has a bachelor’s degree from Bennington College in Vermont and master’s degrees in International Affairs and Public Administration from Columbia University in New York. Prior to joining CSG in March 1998, CanagaRetna worked for the New York City Comptroller’s Office for nearly six years.  

Rising E-Commerce Transactions and Declining State Revenues
The reach of the Internet into the lives of Americans, particularly in the area of commerce, continues in near-limitless fashion and will, undoubtedly, expand even further in the future. The Internet, however, has exposed a gaping structural chasm in state tax and revenue systems that will only continue to widen unless policymakers, primarily at the federal level, initiate remedial action. Specifically, the exponential growth in Internet-based e-commerce transactions in the past few years has eroded the sales tax revenues of state and local governments given the prohibition on these governments recouping sales taxes on e-commerce purchases. This latter development continues to be a major structural flaw that corrodes state tax and revenue systems. Hence, even when the revenue flows in state and local governments improve to more robust levels from the depths they plunged into during the Great Recession, the inability for all states to uniformly levy sales taxes on e-commerce transactions will result in state and local governments hemorrhaging billions of dollars in revenue every year.

Limits on States Collecting Sales Taxes on E-Commerce Transactions
The genesis for the prohibition on states universally collecting sales taxes on e-commerce transactions may be traced to a 1992 U.S. Supreme Court ruling, Quill Corporation v. North Dakota, which held that an online retailer is only required to collect sales tax on a transaction if the retailer has a physical presence in the state of the purchasing customer. So, a company like Amazon, an online operation, is not required to collect sales taxes on purchases, while a company like Best Buy, which also has a thriving online operation, is required to levy sales taxes on online purchases, given that practically every state is home to a Best Buy retail outlet. Consequently, states are largely unable to collect sales taxes on a sizable sector of the economy—e-commerce transactions—that has experienced stratospheric growth in the last decade.

Exponential Growth in E-Commerce Sales
In fact, the U.S. Department of Commerce estimated total e-commerce sales for 2011 at $194.3 billion, an increase of 16.1 percent over 2010. Given that total retail sales in 2011 increased 7.9 percent from 2010, e-commerce sales increasing by twice the rate clearly demonstrates the rising importance of this sector of the economy. Forrester Research, the technology and market research company, estimates that by 2014, U.S. e-commerce sales will expand to nearly $250 billion. Even as a proportion of total sales, e-commerce transactions (adjusted) have seen steady growth. In the fourth quarter of 2011, they accounted for 4.8 percent of total sales in contrast to the fourth quarter of 2002, when they amounted to a mere 1.6 percent, a stark reflection of the growing clout of e-commerce. Figure A shows the escalating importance of e-commerce as a proportion of total retail sales between 2002 and 2011.

Estimates on State and Local Government Sales Tax Losses Related to E-Commerce Sales
To a large extent, the more than $194 billion in e-commerce transactions in 2011 occurred without online retailers collecting sales taxes on behalf of state and local governments. In fact, the University of Tennessee’s Center for Business and Economic Research estimates that, in 2012, states will lose between $11.4 billion and $12.65 billion from untaxed online sales. The center has been studying this issue for nearly 15 years and, in its most recent study—April 2009, estimated the state and local government sales tax losses arising from e-commerce for 46 states and the District of Columbia using both a baseline forecast and an optimistic forecast for e-commerce growth. According to the baseline case, the Center for Business and Economic Research estimated that annual national state and local sales tax losses on e-commerce will grow to $11.4 billion by 2012, for a six-year total loss of $52 billion. For the more optimistic growth case scenario, the center estimated losses to reach $12.65 billion by 2012 and an aggregate loss of $56.3 billion.

Under the baseline estimates carried out by the center, the losses to states—large and small— remain substantial. For instance, for the six-year period 2007-12, Florida is projected to lose $3.7 billion as a result of not collecting sales taxes on e-commerce transactions, while Texas’ losses are projected to reach $4 billion for the same period. California is estimated to lose the largest amount—$8.7 billion. Even smaller states like Mississippi ($616.5 million) and South Carolina ($569.3 million) are estimated to experience significant losses. Indiana is estimated to lose $893 million over the six-year review period while Tennessee, which does not have a personal income tax, is estimated to lose $1.9 billion in potential sales tax revenues. Table A provides details on total state and local sales and use tax revenue losses from e-commerce sales and sales as a percentage of 2007 sales and use tax collections, 2007-12.

 Download Table A: "Total State and Local Sales and Use Tax from e-Commerce Sales and Sales as a Percentage of Total 2007 Sales and Use Tax Collections, 2007-12"

Federal Actions Stymie States from Collecting Sales Taxes on E-Commerce Transactions
In addition to the 1992 U.S. Supreme Court Quill decision that prevents states from capturing sales tax revenues on e-commerce purchases, federal legislation, The Internet Tax Freedom Act, enacted in 1998—and extended on three subsequent occasions, through 2014—imposes a moratorium on any new taxes on e-commerce transactions in an effort “to promote and preserve the commercial, educational, and informational potential of the Internet.” These twin federal actions continue to stymie state efforts to collect taxes on e-commerce transactions at a time of unprecedented fiscal stress at the state level, a time when every dollar in state revenue remains critically important.

Leveling the Playing Field: Online versus Main Street Purchases
In fact, state policymakers often make the point that recouping taxes on e-commerce purchases is not introducing a new tax, but simply leveling the playing field, i.e., placing online retailers on an equal footing with their “bricks-and-mortar” counterparts regarding the collection of sales taxes. Former Mississippi Gov. Haley Barbour reinforced this viewpoint and, in his farewell address in January 2012, stated that “[G]ood public policy says it is past time that our ‘bricks-and-mortar’ merchants on Main Street and in our shopping centers get a level playing field with Amazon and the Internet.” Only Congressional action, however, can remove federal obstacles on states collecting sales taxes on e-commerce purchases, a move that not only equalizes business opportunities for both online retailers and bricks-and-mortar retailers, but also permits states to repair one of the major structural flaws in their tax systems. As Indiana Gov. Mitch Daniels noted in January 2012, “[T]he only complete answer to this problem is a federal solution that treats all retailers and all states the same.”1

Amazon’s Dominant Role in E-Commerce
In assessing the major players in the tens of billions of dollar e-commerce trade, vaults to the top., the multinational e-commerce company founded in 1994 by Jeff Bezos (the site went online in 1995), is the largest online retailer in the United States and, for that reason alone, garners the most attention in the ongoing debate with states over sales tax collections. In fact, in 2011, Amazon’s e-commerce net sales were more than four and a half times the amount of one of its major rivals, Staples, Inc.— $48.1 billion compared to $11 billion. According to estimates by 24/7 Wall St., the financial news and opinion publication, about $1 billion of the amount states lose from e-commerce is related to transactions on Amazon.

Impetus for Online Retailers Blocking States From Collecting Sales Taxes
For a number of years, online retailers like Amazon (with net sales that rose over 40 percent to more than $48.1 billion in 2011 from $34.2 billion in 2010), and diamond Internet retailer Blue Nile, have resisted collecting sales taxes on behalf of state and local governments on the e-commerce transactions occurring through their websites. The primary force behind this resistance is the increased retail costs that come with applying a sales tax, a move that would make the online retailer less competitive compared to a similar purchase made at a bricks-and-mortar store. Furthermore, online retailers contend that they are not required to collect sales taxes because: (1) they usually do not have a physical presence, or nexus, in the state; (2) they are not always directly involved in the transaction since they often deploy local affiliates, i.e., partner sites, local businesses, blogs or nonprofits, that earn commissions by advertising or linking to an online retailer’s products; and (3) the warehouses processing the e-commerce purchases are owned by subsidiaries and not directly by the online retailer. Amazon does collect sales taxes in five states: Washington, where it is based; Kansas and North Dakota, where it has call centers; Kentucky, where it processes returns; and New York, where the legislature passed a law in 2008 to require the tax, although Amazon is protesting this law in court. Similarly,, another major Web-based retailer, collects sales taxes from customers in its home state of Utah.

States Fight Back: Streamlined Sales Tax Agreement
Given the lack of a federal solution to this vexing revenue problem for some two decades, states have been forced to act unilaterally on securing even a portion of the sales taxes on e-commerce purchases. These efforts have gathered momentum in recent years as states sought to identify every possible revenue source during the lean years of the Great Recession. One of the strategies states have adopted includes the formation of the Streamlined Sales and Use Tax Agreement in fall 1999, an effort to collect taxes on the burgeoning e-commerce transactions occurring within their borders. The agreement seeks to simplify the rules that govern the collection of sales taxes in more than 8,000 different jurisdictions across the country. Specifically, the agreement intends to minimize the costs and administrative burdens placed on retailers that collect sales taxes, particularly retailers operating in multiple states. The agreement also works toward ensuring that the administration of the sales tax in one state is similar to any other state. In addition, while the agreement encourages remote sellers selling over the Internet and by mail order to collect sales taxes from customers living in states that have enacted conforming legislation, it also levels the playing field so that local bricks-and- mortar stores, online shops and mail-order retailers operate under the same rules. State fiscal experts anticipate that once federal legislation is introduced to remove the barriers on states collecting sales taxes on e-commerce transactions, states that have adopted the Streamlined Sales and Use Tax Agreement could immediately begin compelling online retailers to collect sales taxes on their behalf. As of Aug. 1, 2011, 24 states had enacted conforming legislation complying with the agreement, though a number of the larger states, including California, Florida, Illinois, New York, Pennsylvania and Texas, have not signed on as full member states.

States Fight Back: Forwarding Tax Bills to Online Retailers
Another state strategy involves forwarding tax bills to Amazon for uncollected sales taxes. For instance, in September 2010, based on an audit of e-commerce transactions within the state, Texas Comptroller Susan Combs sent the company a bill for $269 million for uncollected sales taxes, including interest and penalties, for the period December 2005 to December 2009. Combs maintained that, “[I]f you have a presence in the state of Texas, you are required to pay sales taxes, just like any other business that has a presence in the state.” In response, Amazon emphasized that its Irving, Texas, location did not represent a company storefront—since it was owned by a subsidiary— and that it did not constitute the kind of physical presence the state’s sales tax laws require. Combs’ office indicated that Texas loses an estimated $600 million in e-commerce sales taxes every year. In response to the tax bill from Texas, Amazon announced the closure of its Irving distribution center—one it had operated since 2005—and decided to relocate to another state with a more hospitable tax environment.

States Fight Back: Affiliate Marketers and “Click Through” Laws
Yet another strategy adopted by a handful of states involves claiming nexus via in-state affiliates that sell products on well-known websites such as Amazon. Tapping local affiliates to collect sales taxes on online transactions through an out-of- state online retailer’s website takes the form of so-called “click through” laws. Local affiliates are offered a referral fee by the out-of-state-online retailer, such as Amazon, for every purchase that originates at the local affiliate’s site and then proceeds to the online retailer’s site. The click through provision in these state laws said that the local affiliate represented a sufficient physical presence, a designation that required the online retailer to collect sales taxes on the purchase. In response to the click through legislation requiring affiliates to collect sales taxes, Amazon terminated its affiliate programs in Arkansas, Colorado, Illinois, North Carolina and Rhode Island.

Multiple States Clinch Agreements with Amazon
Several other developments related to Amazon and the states surfaced in late 2011 and the first quarter of 2012. In December 2011, Virginia Gov. Bob McDonnell announced that Amazon would open two distribution centers that would generate 1,350 jobs in the state. In late February 2012, in a victory for traditional brick-and-mortar retailers, McDonnell announced an agreement with Amazon in which the company agreed to collect and pay sales tax on online purchases made by Virginians. The Virginia General Assembly had been considering legislation to close the so-called Amazon loophole. In January 2012, Amazon, which currently operates three warehouses in Indiana and has announced plans to open a fourth, reached an agreement with the state to begin collecting Indiana sales taxes on online purchases shipped to the state on Jan. 1, 2014, or 90 days from the enactment of a federal law, whichever comes first. Amazon had clinched similar agreements with Tennessee and South Carolina. In early 2012, Amazon also approached Florida officials regarding building two $200 million distribution centers that would hire 2,500-3,000 Floridians in exchange for a delay in collecting sales taxes until 2014.

Change in Strategy Propelled by Amazon v. California
In the first half of 2011, Amazon engaged in a bitter battle with California on the state’s effort to require out-of-state retailers to collect sales taxes on online purchases if the company had affiliates, offices, workers or other ties to the state. In fact, Amazon channeled millions of dollars to place the issue before California voters via a ballot referendum and wiped out all references to California-based affiliates on its website. Amazon suddenly relented and decided to enter into a deal with California, presumably on the grounds that the damage to its reputation was mounting. In September 2011, California Gov. Jerry Brown signed an agreement with Amazon that will require the company to begin collecting sales taxes on online purchases after a one-year grace period. This represented a complete turnaround in Amazon’s strategy on this issue not only with California, but also with other states.

The California agreement signaled a radical change in strategy on Amazon’s part in dealing with the states. The company had previously engaged in acrimonious battles with states, and analysts contend that Amazon executives concluded that the company’s brand name could suffer irreparable harm if these legal entanglements continued. In addition, Amazon had often pitted states against each other, dangling the promise of thousands of jobs at distribution facilities to states that offered sales tax exemptions and threatening to leave states that did not, a strategy that imperiled the company’s reputation, particularly with customers. Hence, the agreement signed with California was a radical departure in the company’s approach to dealing with states regarding the sales tax issue and signaled an inclination to work collaboratively with state officials to resolve this nettlesome issue in a mutually beneficial manner.

Amazon Explores Retail Establishments
Finally, there is strong speculation that Amazon intends to launch a chain of small, boutique stores in key cities across the country, starting in Seattle, stocked with the company’s high margin, high-end items, including the growing line of Amazon exclusives, Kindle e-readers, Kindle Fire and accessories such as cases, screen protectors and USB adapters. If the Amazon boutique store concept spreads across the country, along with an increasing number of Amazon-owned distribution centers in numerous states, the constraints of the Quill decision will not be as severe to states if the status quo prevails regarding federal legislation.

Amazon Radically Changes Its Strategy in Dealing with States
The donnybrook between states seeking to require companies to collect sales taxes on online purchases and the efforts by companies like Amazon to block these state collection efforts often has been venomous and frequently litigated in court. As described above, this thrust and parry has gone on for a number of years now. While Amazon’s decision to reach an agreement with California in September 2011 constituted an important shift in the company’s strategy vis-à-vis states on the sales tax issue, Amazon’s wholehearted support of legislation that emerged in the U.S. Senate a few months later further confirmed this transformation.

In November 2011, a bipartisan group of 10 U.S. senators introduced The Marketplace Fairness Act. The bill, which was immediately referred to the U.S. Senate Finance Committee, establishes a system for states and localities to collect sales taxes on online purchases, the kind of federal initiative that states have sought for some time. While the legislation had been previously introduced, these efforts did not have the force of bipartisan support and, equally importantly, did not have the support of the nation’s largest online retailer, Amazon.

In a Nov. 9, 2011, press release, Paul Misener, Amazon’s vice president for Global Public Policy noted, “[A]mazon strongly supports enactment of the Enzi-Durbin-Alexander bill and will work with Congress, retailers, and the states to get this bipartisan legislation passed. It’s a win-win resolution— and as analysts have noted, Amazon offers customers the best prices with or without sales tax.”2 Amazon’s support for the federal legislation remains a transformational move and the bipartisan nature of the proposed bill enhances the likelihood of its passage, twin developments that were never achieved previously. It appears that Amazon made the calculation that it was better to pursue a national solution to this obstacle and avoid rancorous legal wrangles with states that had the potential to not only seriously tarnish the company’s brand name, but also lead to customer losses. If this bill becomes law, it will not only permit states to compel out-of-state retailers to collect sales tax at the time of the online purchase and remit those taxes on behalf of customers, but also will expedite collection on behalf of third-party sellers. Furthermore, the proposed legislation will authorize states to recoup additional revenue without new taxes or federal spending and will facilitate compliance with state sales tax laws for consumers and small retailers. The bipartisan action at the Congressional level and Amazon’s positive response not only represents a sea change in the decade-plus long saga of states trying to collect taxes on online purchases, but these developments also represent real potential for both repairing and bolstering state tax and revenue systems in the future.

While states can afford to be cautiously optimistic about the action at the federal level and the enthusiastic support for this measure by Amazon, the enactment of The Marketplace Fairness Act into law is still far from a done deal. Given that 2012 is an election year and the toxic political climate in Washington, D.C., continues, public and private officials at all levels of government will need to invest a significant amount of political capital to secure passage. Nevertheless, states can rest assured that the progress made on leveling the playing field between online purchases and bricks-and- mortar purchases in the last year has been the most impressive since the 1992 Quill decision.

1“State,, reach sales tax agreement” Media Release, Office of the Governor, Indiana, January 9, 2012.

2 “Amazon Strongly Supports Enactment Of Enzi-Durbin-Alexander Federal Online Sales Tax Bill,” Press Release, November 9, 2011. story/11305878/1/amazon-strongly-supports-enactmentof-enzi-durbin-alexander-federal-online-sales-tax-bill.html




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