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416 TAXATIONISSUESindividuals report it on their state personal income tax
form, but compliance is still below 100%.
Various studies have been done privately and by gov-
ernments to identify the costs to government of the inabil-
ity to collect sales and use tax on many e-commerce sales.
The results of a few of these studies are explained next.
A study by Ernst & Young (Cline & Neubig, 1999)
concluded that 63% of business-to-consumer online sales
were nontaxable (such as airline tickets, gambling, and
interactive games). Of the remaining 37% of business-to-
consumer sales, sales tax was paid on 4% (4% of the 100%
of business-to-consumer sales), and 20% was a substitute
for other remote sales for which no tax was collected, leav-
ing 13% of total business–consumer sales untaxed. The
study applied an average state and local sales tax rate of
6.5% to determine that the estimated sales tax loss was
$170 million for 1998, representing one-tenth of 1% of
total state and local sales tax collections.
A General Accounting Office (GAO) report (2000) es-
timated that the state and local sales and use tax losses
for all Internet sales for 2000 was between $0.3 and
$3.8 billion (about 2% of projected sales tax revenue).
This included both business-to-business and business-to-
consumer Internet sales. The projected loss for 2003 was
between $1.0 and $12.4 billion (5% of projected sales tax
revenue). The difference between the high and low fig-
ures is due to varying assumptions concerning business-
to-business compliance rates and the estimated amount
of e-commerce sales.
Although this revenue loss is low in the early stages
of the e-commerce business model, governments are con-
cerned that the likely growth of e-commerce will cause
the revenue losses to become more significant. Also,
many states and cities face restrictions in changing their
tax structure (such as constitutional prohibitions against
some types of taxes or the need for a majority vote of tax-
payers to raise a tax). Thus, many are eager to see issues
resolved within existing tax systems and to see resolution
of e-commerce and Internet tax issues sooner, rather than
later when the potential revenue losses increase.Considerations in Addressing the Issues
Resolution of the tax issues raised by the Internet and e-
commerce needs to consider the principles of good tax
policy, restraints imposed by the U.S. Constitution, and
the global business environment in which e-commerce
operates.Tax Policy
Any discussion of tax reform should consider the tax poli-
cies that generally underlie every type of tax structure to
some degree. The American Institute of CPAs (AICPA) has
identified 10 principles of good tax policy (AICPA, 2001),
partially based on Adam Smith’s maxims of good tax pol-
icy. Principles most relevant to the e-commerce taxation
debate include the following:1.Certainty—Taxpayers should have a high level of confi-
dence that they are calculating their tax liability cor-
rectly. When e-commerce vendors are unsure as to
whether they have a taxable presence in a state or where
to source their operations, certainty does not exist.2.Convenience of payment—A tax should be due at a time
or in a manner most likely to be convenient for the tax-
payer. For example, a tax upon the purchase of goods
should be assessed at the time of purchase when the
person still has the choice as to whether to buy the
goods and pay the tax. Today, use of technology to col-
lect tax should be considered for transactions that al-
ready depend upon technology for their execution.
3.Simplicity—A tax system should be simple so that tax-
payers can understand the impact of taxes on their
transactions. When considering state and local taxes,
uniformity should also be considered to reduce or
eliminate a multistate taxpayer’s complexity of dealing
with multiple sets of tax rules and filing procedures.
4.Neutrality—The tax law should not impact economic
decisions. That is, taxpayers should not be unduly en-
couraged or discouraged from engaging in certain ac-
tivities or taking certain courses of action primarily due
to the effect of the tax law on the activity or action. For
example, the tax consequence of purchasing a digitized
book should be the same as for purchasing a physical
book, assuming users view them as equivalents.
5.Economic growth and efficiency—The tax should not
discourage or hinder capital formation, employment,
and investment. Tax rules should not discourage the
growth of e-commerce if governments, businesses, and
consumers view this vehicle as something to be encour-
aged.
6.Appropriate government revenues—The tax system
should enable the government to determine how much
tax revenue will likely be collected and when. The tax
system(s) should be capable of raising the necessary
government revenue. E-commerce has and will con-
tinue to affect government tax collections. State and
local governments will experience drops in sales and
use tax collection as residents can more easily make on-
line purchases from remote (nonpresent) vendors and
are unable to collect use tax from the buyers. States will
see some companies eliminate physical location (tax-
ing points) as sales offices and warehouses are closed in
response to increased online sales and custom orders.
Of course, as companies consolidate taxing points in
fewer states, those states should see an increase in rev-
enues. A similar effect will occur worldwide as compa-
nies consolidate their taxing points (permanent estab-
lishments).It is unlikely that all of the principles of good tax pol-
icy can be achieved equally under any tax system. For
example, in some instances, it might be advisable to have
simplicity override neutrality, such as by exempting small
businesses from a certain system even though doing so
would undermine neutrality of the system.Constitutional Constraints
The U.S. Constitution imposes some constraints on state
and local government taxation. The due process clause
of the 14th amendment requires fairness by a govern-
ment in imposing its laws upon taxpayers. Due process
requires some minimum connection between the taxing
state and the taxpayer such that it would be fair to impose
the tax rules upon the taxpayer. The Commerce Clause