The question of whether internet sales should be taxed has been debated for years. With the rise of e-commerce giants like Amazon, more and more commerce is happening online. This has led many to question if sales tax policies need to be updated for the internet age.
In most states, if a business has a physical presence, such as a store, office, or warehouse, it must collect sales tax on purchases made by customers in that state. However, for internet retailers that do not have a physical presence in a state, sales tax collection is more complex. The Supreme Court ruled in 1992 and again in 2018 that states cannot force out-of-state retailers to collect sales taxes unless they have a substantial connection to the state, like a warehouse, office, or employees. This has led to many online purchases being essentially tax-free.
Arguments For Taxing Internet Sales
There are several key arguments in favor of requiring online retailers to collect state sales taxes, even if they don’t have a physical presence in the state:
- Lost tax revenue – State and local governments are missing out on billions in uncollected sales taxes from online purchases every year. Taxing these transactions could provide needed revenue.
- Unfair competitive advantage – Out-of-state online retailers have an advantage over brick-and-mortar stores that must collect sales taxes. Taxing online sales levels the playing field.
- Already required in some states – Over 30 states have implemented laws requiring out-of-state online retailers to collect sales tax if they have a certain level of transactions or sales in the state.
- Simplify tax filing – If online retailers collected sales tax, consumers would not have to file use tax returns for online purchases.
Proponents argue that exempting most online sales from sales taxes has distorted the retail marketplace. Brick-and-mortar stores have steadily lost ground as more commerce shifts online. They claim that requiring online retailers to collect sales taxes will help traditional retailers compete.
Arguments Against Taxing Internet Sales
There are also arguments against requiring online retailers to collect state sales taxes:
- Administrative burden – Collecting various state and local sales taxes would place a burden on retailers to keep up with thousands of different tax jurisdictions and rules across the country.
- Damage to small business – Small online businesses would be harmed by the cost and complexity of tracking and remitting so many sales taxes.
- Stifle internet commerce – Sales taxes could hamper the growth of online retail and disadvantage domestic internet businesses relative to foreign ones.
- States already tax online sales – Use taxes require consumers to pay sales tax for online purchases, so internet sales are technically already taxed.
Opponents state that placing sales tax collection duties on out-of-state online retailers would be overly burdensome. The variety of state and local sales tax regimes is extremely complex. They argue that making online retailers collect this maze of taxes would be detrimental.
Sales Tax Nexus Laws
To address the issue of taxing internet sales, many states have passed sales tax nexus laws. Sales tax nexus refers to the amount of contact or connection a business must have with a state before that state can require the business to collect and remit sales tax.
Nexus can be established through:
- Physical presence – Having retail locations, offices, warehouses, employees, contractors etc. in the state
- Economic nexus – Meeting thresholds for sales or transactions in the state, like $100,000 in sales
- Affiliate nexus – Having ties to businesses or affiliates in the state
If a retailer meets one of these nexus standards, the state can require it to register, collect, file, and remit state and local sales taxes like an in-state business. By lowering the nexus standards, states are able to tax more out-of-state online businesses.
Over 30 states have enacted economic or affiliate nexus laws. South Dakota v. Wayfair, a 2018 Supreme Court case, opened the door for states to tax online retailers with no physical presence in the state. However, with thousands of tax jurisdictions and varying laws, compliance for online retailers remains very complex.
Sales Tax Rates Across States
One complicating factor is the wide variation in sales tax rates across the country. Sales tax rates range from 0% in states like Oregon, Montana, and New Hampshire to over 9% in some California cities. In addition to state rates, there are thousands of localities that also impose sales taxes.
Here are the range of sales tax rates across the states:
| State | Sales Tax Rate |
|---|---|
| Alabama | 4-11% |
| Alaska | 0-7.5% |
| Arizona | 5.6% |
| Arkansas | 6.5-11.625% |
| California | 7.25-10.25% |
| Colorado | 2.9-11.2% |
| Connecticut | 6.35% |
| Delaware | 0% |
| Florida | 6-7.5% |
| Georgia | 4-8% |
| Hawaii | 4-4.5% |
| Idaho | 6% |
| Illinois | 6.25-10.25% |
| Indiana | 7% |
| Iowa | 6-7% |
| Kansas | 6.5-11.5% |
| Kentucky | 6% |
| Louisiana | 4-12% |
| Maine | 5.5% |
| Maryland | 6% |
| Massachusetts | 6.25% |
| Michigan | 6% |
| Minnesota | 6.875-8.875% |
| Mississippi | 7% |
| Missouri | 4.225-9.679% |
| Montana | 0% |
| Nebraska | 5.5-7.5% |
| Nevada | 6.85-8.265% |
| New Hampshire | 0% |
| New Jersey | 6.625% |
| New Mexico | 5.125-9.438% |
| New York | 4-8.875% |
| North Carolina | 4.75-7.5% |
| North Dakota | 5-8.5% |
| Ohio | 5.75-8% |
| Oklahoma | 4.5-11% |
| Oregon | 0% |
| Pennsylvania | 6-8% |
| Rhode Island | 7% |
| South Carolina | 6-9% |
| South Dakota | 4.5-6.5% |
| Tennessee | 7-9.75% |
| Texas | 6.25-8.25% |
| Utah | 4.85% |
| Vermont | 6-7% |
| Virginia | 5.3-7% |
| Washington | 6.5-10.4% |
| West Virginia | 6-7% |
| Wisconsin | 5-5.5% |
| Wyoming | 4-6% |
This complex variety of sales tax rates that online retailers would have to integrate into their systems is a key argument against taxing online sales. The rates vary not only by state but by city, county, and district as well. Keeping track of the thousands of tax jurisdictions is extremely burdensome.
Potential Solutions
There are a few potential solutions that could simplify sales tax collection for internet transactions:
- Federal legislation – Congress could pass a law standardizing online sales tax collection across the country.
- Sales tax software – Retailers could utilize software that keeps track of tax rates and filing requirements in different jurisdictions.
- origin-based system – Tax could be collected based on the seller’s location rather than the buyer’s.
- Simplified tax rates – States could agree to simplify and standardize tax rates to reduce complexity.
Federal legislation would provide the most comprehensive solution by creating a unified national framework for taxing online sales. This would replace the current patchwork of state laws. However, consensus in Congress has been difficult to achieve.
In the meantime, software solutions can help retailers manage the complexity. Origin-based taxation would also simplify things by eliminating the need to track tax rates across thousands of jurisdictions. But states are unlikely to give up authority over setting their own tax rates.
Recent State Actions
Many states are already taking action to collect more taxes on online purchases:
- By early 2022, 41 states had economic nexus laws to tax out-of-state online sellers.
- 11 more states have affiliate nexus laws taxing sellers with ties to in-state entities.
- 16 states now have marketplace facilitator laws requiring platforms like Amazon to collect tax for third-party sellers using their marketplace.
These state efforts have increased the number of internet sellers required to collect and remit sales taxes. But inconsistent standards across states continue to present compliance challenges.
Conclusion
There are reasonable arguments on both sides of the online sales tax debate. On one hand, exempting most online transactions from sales taxes does seem to create an unfair playing field between online and offline retailers. It deprives states of substantial tax revenue and complicates the sales tax system.
On the other hand, requiring out-of-state online sellers to collect the myriad state and local sales taxes across the country does seem excessively burdensome. It could significantly hamper online commerce.
There are merits to simplifying and standardizing internet sales tax collection through federal legislation. But consensus has proven elusive due to disagreements between states, retailers, and other stakeholders. Incremental state efforts seem the most likely path forward for the time being. But this risks creating a complex patchwork of laws.
Software solutions, origin-based taxation, tax rate simplification, and other ideas may help reduce the administrative burden of taxing online sales. But near total uniformity and simplicity seems difficult to achieve given states’ desire to control their own tax policies.
In the end, there are good-faith arguments on both sides. Though imperfect, the current trend of expanding tax collection obligations on online retailers through nexus laws and software seems a reasonable compromise. But the debate will likely continue as technology, commerce, and public needs evolve.