Internet Tax

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. 

State tax performance since 2008 shows that effects of recessions on revenues can last five years or more. Policymakers planning for potential revenue shortfalls must consider relatively long time periods. This article addresses two key revenue policy issues. First, it provides a brief summary of state tax revenue performance during the past several years, with a focus on how collections stand relative to their previous peak. This section shows the relative revenue performance for state governments in aggregate since 2008. Second, it describes key sales tax issues associated with the dramatic movement towards digitization and identifies some policy options.

With Congress considering bipartisan legislation to allow states to enforce online sales tax collection, state leaders participating in The Council of State Governments’ National Leadership Conference in La Quinta, Calif., discussed this critical issue May 19.

Washington Rep. Ross Hunter says he’s a nuts-and-bolts type of guy when it comes to tax policy. He didn’t understand why his state would have a tax policy that focuses on bricks-and-mortar stores—whose sales are flat—and not concentrate on collecting taxes from online retailers, whose sales grew 15 percent last year. “For Washington state, this is somewhere between half (a billion) and a billion dollars in revenue a year that we are losing to (online) sales,” Hunter said. “We don’t have an income tax. … It’s a huge deal for us. Our annual budget is in the $15 billion range. Half to a billion dollars is real money.”

States' ability to tax Internet-based transactions has remained a topic of heated debate in the 20 years since the Supreme Court ruled that states could not compel merchants without "substantial nexus" within their boundaries to collect and remit sales taxes. Three separate bills that could allow states to begin imposing sales taxes on Internet transactions are working their way through Congress. This session will include discussion of those bills and the potential impact any legislation may have on state budgets.