Online sales growth is worsening state budget trouble

Washington (home of Amazon) has held back from growing national efforts to make online retailers pay sales taxes, but the recent revenue forecast emphasized the increasing problem posed by lost taxes on purchases from online outlets elsewhere.

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One of Amazon's new buildings in the South Lake Union neighborhood.

Washington (home of Amazon) has held back from growing national efforts to make online retailers pay sales taxes, but the recent revenue forecast emphasized the increasing problem posed by lost taxes on purchases from online outlets elsewhere.

In his March 17 report to the state’s Economic and Revenue Forecast Council (ERFC), the council’s executive director Dr. Arun Raha, delivered another blow to legislative budget writers, who are struggling with a multi-billion revenue shortfall. Although not unexpected, he predicted another decline of $80 million in the current biennium, a further $698 million decrease in the 2011-13 biennium, and continued revenue uncertainty.

And he indicated that the downward trend of General Fund revenue relative to personal income will show only a slight uptick in the new biennium. Since 1995 the ratio of revenue to personal income has declined about 30 percent. Although working folks earnings have increased, our consumption-based tax system has not generated revenues in direct proportion.

But what also received attention was Dr. Raha's flagging of the growth in online sales and their impact on sales tax collections.  Graphs he presented show an ever-increasing volume of online retail sales. In 1992 online sales were about 2 percent of all sales excluding food and vehicles, and in 2010 they were 9 percent. And in 2010 they grew at a considerably faster rate than sales at bricks-and-mortar stores, accounting for 20 percent of total sales.

Year-to-year growth in online sales is now running at about 15 percent compared to 5 percent for all retail sales. According to Raha, “This will result in a revenue loss of $740 million in the 2011-13 biennium.” In effect, he was telling legislators that here was a possible revenue source that could more than offset the increased budget deficit. And he was reminding them of Washington’s heavy reliance on sales taxes, ranking first per capita among all states.

State lawmakers on the panel were quick to respond to the thinly veiled political message. Rep. Ross Hunter (D-Medina) who chairs the House Ways and Means Committee, while acknowledging the impact on local stores, suggested that taxation of online sales is out of their hands and only change at the federal level can solve the problem.

Indeed, the U.S. Supreme Court in a 1992 decision ruled that states can’t require firms that sell by mail order to collect sales taxes unless they have a “substantial nexus,” i.e. a physical presence, in the state. And the court said that the definition of a nexus is ultimately an issue for Congress to decide. This was before online sales took off.

Yet states, lacking congressional action, have been actively pursuing their own remedies, in particular by going after, the biggest online seller. At least 10 states, faced with serious budget shortfalls, have engaged in legal and legislative battles with Amazon to force it to collect sales tax. And consumer groups that support small businesses are weighing in.

The central legal issue is whether Amazon has a nexus in a state in the form of a distribution center or an "affiliate" sales representative, which could be another online seller based in the state or simply a website that carries an Amazon advertisement and allows the buyer to click through to complete the purchase. Amazon has responded by pulling its physical presence out of several states and has ended affiliate relationships.

Some states have been particularly aggressive. Last year, Amazon sued North Carolina, which had requested the names and addresses of Amazon’s customers in the state and information regarding the books and other items they had purchased. In a decision rendered last year in Seattle, U.S. District Judge Marsha Pechman ruled that Amazon was free to withhold personal information but the state was also free to pursue collection of taxes due.

Gov. Pat Quinn of Illinois recently signed a bill requiring Amazon and other online retailers to collect taxes on sales to state residents if they use online affiliates. The bill had the backing of the Illinois Retail Merchants Association.

And in Texas where the T-word does not often pass the lips of politicians and where, like Washington, there is no tax on corporate or personal income, the state’s elected Republican comptroller (chief tax collector) last fall sent Amazon a bill totaling $269 million for back taxes on in-state sales. Amazon responded by closing its Texas distribution center.

The Evergreen state has not joined the online tax battle. Our state, of course, receives tax receipts from Amazon for sales to Washington residents. But the state “loses” tax receipts from other national online and catalog (phone and mail order) sellers such as and L.L. Bean.

According to the ERFC and Department of Revenue (DOR), about half of all online sales to Washington residents go untaxed. Rather, the tax isn’t collected although its payment is legally required in the form of an equivalent use tax. The DOR provides a convenient online form and a sales/use tax rate look-up tool for easy payment for taxpayers —including miscreants who may be feeling guilty after the fact.

Action in the other Washington is another political story. Rep. Bill Delahunt, a veteran Massachusetts Democrat, last year introduced the “Main Street Fairness Act” that would have required out-of-state retailers to collect and remit sales taxes with or without a nexus. The bill, with six co-sponsors including Rep. Adam Smith (D- WA), did not receive a hearing, and it hasn’t been reintroduced in the current Congress.

Now, with the U.S. House under Republican management, congressional action seems even more remote. Rep. Dan Lungren (R-CA) has introduced House Resolution 95 with 19 co-sponsors that “urges Congress not to enact any legislation that would grant state governments the authority to impose any new burdensome or unfair tax collecting requirements on small online businesses and entrepreneurs.”

This is one of those curious quirks of our political system — Congress telling itself not to do something. Go figure.

So it’s unlikely that in the immediate future the feds will step up to the issue. In the meantime more local small businesses in our state will succumb in part because of a significant tax break to their competitors — equivalent to a 9 percent price discount.

Obviously, the sales tax saving is only one factor that draws buyers to the Internet. Online shopping is convenient, especially if one knows exactly what one wants to order and if the item is delivered to one’s door. And, in a world of increasing specialization, it may easier to find an item online than by doing a hunt in local stores.

So what can be done, assuming we should favor tax equity between local retail stores and national online sellers?

Washington could join with other states by enacting legislation that requires collection by online retailers when the nexus is in the form of an affiliate. The political winds could shift if enough states took similar action. Our legislature could also petition Congress to act using the formal message device from the state to the federal government, the joint memorial. And the governor and state legislators could speak out on the issue, engaging members of our congressional delegation in a public discussion of their important role in the search for a solution.

Then there is the state’s business community, which has up to now been silent on online sales. Unlike the Illinois merchants, the Washington Retail Association has not addressed the issue. Nor has the state’s branch of the National Federation of Independent Business, which bills itself as the voice of small business. It could support the state's small businesses that are at a serious disadvantage from online sellers.

Solving the online sales tax problem will obviously require a sustained effort on the part of the governor and legislature. And it will probably need an occasional prod from people like Dr. Raha who closely track the consumer market that generates much of the revenue on which our state government depends.


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About the Authors & Contributors

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Dick Nelson

Dick Nelson is a former Washington State legislator. He currently contributes to the public debate on state and local fiscal issues through research and commentary. As when he was in the legislature, he prefers the Democratic Party.