E-Commerce and Taxation Sample

Thousands of businesses are selling goods and services through electronic commerce, including the Web and private electronic networks. Selling through electronic commerce is a rapidly growing channel for sales to both retail consumers and businesses. Since about one-quarter of all state and local revenue comes from sales, use, and gross receipts taxes, the state and local governments are eager to avoid losing any tax revenue to electronic commerce. Traditional stores, however, now face heightened competition from electronic commerce sellers who are not collecting sales tax.

The major forms of e-commerce are: – Business-to-business commerce: Many businesses are aggressively moving into business-to-business e-commerce because they want to cut costs, reduce order processing time, and improve information flow. For most firms, the rise in trade over the internet also coincides with a marked decrease in phone and fax use, allowing salespeople to concentrate on managing customer accounts rather than simple giving information or taking orders.

– Business-to-consumer e-commerce or online-retail sales: it operates on a substantially different model than does business-to-business e-commerce. Prior to e-commerce, there were two business-to-consumer models : retail stores and mail or phone order (including television shopping). The advent of internet and web technologies gave retailers the opportunity to take catalog businesses online, thereby reducing the costs of presenting products, increasing the frequency of sales by permitting around-the-clock shopping, and displaying accurate descriptions of merchandise that can be changed almost instantaneously.

– Online advertising revenue: According to the new eMail Marketing Report, total e-mail marketing expenditures in the U. S. , which reached $898 million in 1999, will increase 417% to $4. 6 billion by year-end 2003. It also noted that U. S. firms will increase their spending on e-mail ads by a factor of 20 over the same period, from $97 million in 1999 to $2 billion in 2003. The report, released by eMarketer, estimates that e-mail advertising’s share of total online advertising spending in the U. S. will increase from 3% in 1999 to 15% by 2003.

This rapid growth of internet and internet commerce have attracted not only more and more business owners but also all local, state and federal taxing authorities, which have identified the revenue potential of the internet. When considering taxing of E-commerce the 3 important concepts to consider are: Sales Tax. A sales tax is generally levied on the sale or transfer of tangible personal property (TPP) or certain enumerated services. Tangible personal property is physical property that is not permanently affixed to real property. For example, TPP sold through electronic commerce includes clothing, electronic devices, and books.

Jurisdictions that levy sales tax generally tax all sales of TPP unless the statute provides for exemptions Nexus. A sufficient connection, or nexus, is required between the parties to a transaction for the state or local taxing jurisdiction to have the legal authority to tax the transaction. Generally, nexus for sales tax purposes is determined by the physical presence of the seller. Determining nexus for some types of transactions, however, is extraordinarily difficult, and has been the subject of thousands of administrative rulings and judicial opinions.

Transactions could have nexus in a particular state for income tax purposes, but not sales tax purposes. Use Tax. A use tax is a tax on the receipt, possession, consumption, storage, or use of property. All jurisdictions that have sales taxes have enacted use taxes to cover transactions where no sales tax is collected. For example, if a sale of consumer goods is subject to a 5% sales tax when the sale takes place within the state, the state will enact a 5% use tax on sales of that same type of merchandise by an out-of-state seller to an in-state customer.

Most consumers and many businesses are not aware of their legal responsibility to pay use tax on purchases from out-of-state sellers. Although many state and local governments choose not to collect use tax from individuals, they regularly audit and assess businesses for failure to remit use taxes. A major problem is that most existing state and local tax law is based on transactions with physical products and services.

The state and local governments and taxpayers are struggling to apply prior law to electronic commerce systems that cross traditional geographic and industry boundaries at a rapid rate. Because e-commerce involves numerous computers communicating at the speed of light, purchase and sale transactions are both instantaneous and often unidentified. Furthermore, since internet protocol does not require disclosure of identity and users often log on with little verification, it is nearly impossible to determine the name and location of the purchaser. Consequently, many transactions are anonymous.

At the same time, E-commerce differs from mail order and telephone solicitation, the two most traditional forms of business using remote sellers (sellers in another state or country), because those usually involve the delivery of goods by common carrier (UPS, FedEx) to and from a specific physical location. In short, there is an actual delivery of property from an identifiable seller to an identifiable buyer. Last but not least, because of the speed in which transactions occur and the frequent absence of a traditional paper trail, it will be very difficult, if not impossible, to apply traditional notions of sales tax jurisdiction.

This is especially true with intangible property transmitted by computer, such as software, digital music or electronic books and services. It is by taking into consideration these potential complications in the area that Congress approved the Internet Tax Freedom Act (ITFA). The Internet Tax Freedom Act was conceived by Rep. Christopher Cox (R-CA) in June 1996 and was officially introduced in March 1997. The Internet tax moratorium has been in effect since October 1, 1998 and will last until October 21, 2001.

The Act has four main provisions. First, beginning October 1, 1998, the Act imposed a three-year moratorium on “taxes on Internet access” and “multiple or discriminatory taxes on electronic commerce. ” Second, the Act established an 19-member Advisory Commission on Electronic Commerce (the “Commission”), composed of members from the federal government, local and state governments, and appointed representatives of the electronic commerce industry who are selected by the majority and minority leaders in the House and Senate.

The Commission’s principal directive is to undertake a “thorough study of Federal, State and local, and international taxation and tariff treatment of transactions using the Internet and Internet access and other comparable intrastate, interstate or international sales activities. ” The Commission’s most important directive is to submit a report outlining its findings-including legislative recommendations on Internet taxation-no later than 18 months after the enactment of the Act, or April 21, 2000.

Third, the Act states that it is the “sense” of Congress that no federal taxes on the Internet and Internet access should be enacted during the three-year moratorium. In other words, the federal government should not tax the Internet at the same time that it is prohibiting state and local jurisdictions from doing so. Finally, the Act urges the President to seek to enter into trade agreements that “remove barriers to global electronic commerce. “

The introduction of ITFA as well as the general issue of taxing ecommerce has resulted in two groups of people: those that are for taxation who have decried “the disappearing taxpayer” and have called for reform and those who think that introducing taxes now might seriously impede the Internet’s growth at a critical stage of early development.

The arguments put forward by those that are for taxation is that if states and localities remain legally powerless to require internet and mail-order merchants to charge sales tax, the consequences potentially would be severe: i.e. – state and local governments which are already losing $3 billion to $4 billion in sales tax revenues a year from their inability to tax most mail-order sales, would lose billions more. Numerous studies project $300 billion to $500 billion in combined consumer and business purchases over the internet by 2002.

An inability to require internet merchants to charge sales tax could result in $10 billion in additional annual sales tax revenue losses by that time, as existing taxable sales migrate to an effectively tax-free internet.

– sales taxes would steadily become even more burdensome for low- and moderate-income households than they are now. A recent study by the Commerce department reported that households with incomes above $75000 are seven times more likely to have internet access at home than households in the $15000-$20000 income range. Effectively exempting purchases of goods over the internet from sales taxation thus disproportionately benefits the highest-income segments of the population.

For the foreseeable future only relatively affluent households are likely to be able to afford the computers and internet access accounts and have the access to credit that is needed to engage routinely in online shopping. If states and localities cannot tax goods and services purchases online, lower-income households who shop in stores will be left paying an ever-greater share of sales taxes. If states and localities seek to preserve a given level of sales tax base erosion resulting from online shopping by increasing tax rates, low- and moderate-income households will be further burdened in absolute as well as relative terms.

– A long term inability to tax goods and services sold over the internet will devastate what is left of the small local business sector and lead to ever-greater distortion of retail competition. For example the CEO of internet bookseller Amazon. com Jeff Bezos, has openly acknowledged that he deliberately headquartered his company in a relatively small state because he wanted to be able to tap into the potential market of populous states like California and NY with the competitive advantage arising from not having to charge sales tax.

(Amazon.com charges sales tax only on its sales to Washington customers, the state in which it is located). Now, Barnes and Noble is attempting to play the same game. Although it has stores in most states, and this “physical presence’ would ordinarily require it to charge sales tax on the sales by its internet operation into these states, it has separately incorporated its internet business as a subsidiary in an effort to avoid having to charge tax in most of the states where the stores are located. Yet its advertisements often jointly promote both its internet and book store operations.

Consequently, retail margins in the book selling industry are too narrow to allow what is left of small, neighborhood bookstores to long continue to compete with the likes of these tax-free internet sellers. This pattern will be repeated in other retail segments as well from the small neighborhood computer store to the local toy shop. Unless Congress soon creates a level competitive playing field by authorizing states to require all internet and mail-order businesses above a certain size to charge sales taxes (authority states and localities have sought for a decade) main street businesses will steadily disappear.

Companies like Amazon. com and Barnes and Nobles. com will be rewarded for engaging in ever-more creative and socially wasteful tax planning activities aimed at avoiding an obligation to charge sales taxes. On the other hand, those that are against taxation argue that: – applying a sales tax to Internet commerce significantly reduces online commerce. If a five percent tax rate were applied to online sales, the number of online customers would be 18% lower and total sales 23% smaller[1]. The alternative proposal of applying existing tax rates to commerce would eliminate even more Internet commerce.

It would reduce the number of buyers by 24% and spending by 30%. – the Internet economy already is bigger than the energy industry ($230 billion), the telecommunications industry ($270 billion), and is almost as big as the automobile industry ($350 billion), and is becoming as essential to American life as the automobile. Despite this the Internet is still in its infancy. Internet-specific taxes and taxes on Internet access threaten to choke the Internet economically at a critical early stage of its development by locking in or limiting the Internet to specific technologies and modes of service that fall far short of its likely potential.

Therefore, tomorrow’s tax policy will have an enormous impact in shaping the future of this burgeoning new industry of electronic commerce supported by the Internet. The economic consequences of government actions in e-commerce will be profound and serious. Any missteps will injure our country gravely, and diminish our position as the leading world economy. – we begin with a free and open Internet that is a U. S. competitive advantage. Since it starts with no barriers, it should be easier to keep it free of barriers (and as we all know, government spends enormous time and energy negotiating global trade agreements that reduce barriers).

The Internet advances the causes of free trade and improvement of living standards by creating a comparative advantage for people and firms that produce competitive, high-quality services and goods. Since more than one-third of all current Internet usage is by Americans, imposing new taxes on the Internet will disproportionately affect U. S. consumers. In conclusion, though sometimes a little exaggerated, I think that both groups have a point in their argument. Any transaction that involves profit should be taxed.

ThusE-commerce which can be considered as one aspect of commerce should not be exempted. However, the very nature of E-commerce makes it different from all the other types of commercial transactions. The fact that it is “borderless” makes it difficult to come up with a uniform taxation system. Therefore, setting of taxes on Ecommerce should be treated separately and more carefully. This is because if not done properly it may affect E-commerce negatively and hence result in its recession.

Maybe the establishment of the Commission to undertake a thorough research in the area and hence provide a report and recommendations, is good as the findings could be used as a basis for the revisions of the existing sales and use taxes so that they would incorporate e-commerce. Though the present ITFA contains some contradictory points, the work of the Commission will hopefully result in the resolution of any potential Internet tax problems by coming up with a sensible, uniform, and non-discriminatory approach to taxing of e-commerce and Internet access. ———————–