U.S. Industry Calls for Plug in Leaking Internet Tax Dam


U.S. Industry Calls for Plug in Leaking Internet Tax Dam

By Ed McKenna

Contributing Writer

Alarmed by the threat of new taxes imposed by thousands of different U.S. tax jurisdictions, the information technology industry is clamoring for curbs on new Internet taxes.

Governors and local leaders are "trying to make decisions about the Internet [without] ... knowing what it is," complained Patrick Nugent, director of tax legislative affairs at MCI Telecommunications, at the recent Internet Tax Policy Conference in Santa Clara, Calif. If the various localities approach the Internet as "a new pot of gold," the United States will lose its global leadership in this new technology, warned Nugent.

Some states, including Texas, Ohio, Connecticut and Pennsylvania, for example, impose sales taxes on electronic commerce, while others such as Massachusetts assess telecommunications tax on Internet access. Overall, however, it is nearly impossible to account for all the localities that consider the Internet and electronic commerce taxable because much of the tax assessments are done without much public review or media attention.

What Industry Wants

Industry's minimum demand is for uniformity and clarity in tax policies to prevent a patchwork of incompatible and hard-to-track state and local tax codes.

But to achieve this goal it must deal with a tangle of constitutional questions, outdated tax statutes that are ill-designed to deal with the new technology, as well as fundamental disagreements between the major interests. In the end, some officials believe it will be necessary for Congress to somehow pre-empt state and local regulators.

"It seems to me that one of the biggest hurdles to get over is what I regard as a perceptual problem," said Walter Hellerstein, a partner in the law firm Sutherland, Asbill & Brennan and a law professor at the University of Georgia Law School. "You have the states on one hand ... with the notion that their tax base is going to be sucked into cyberspace," he said. "It's not fully irrational, [but] right now it's irrational."

Walter Hellerstein is a law professor at the University of Georgia Law School with an interest in Internet taxation.

Many industry officials are looking to lobby for their cause in Washington. For example, industry officials have argued their case to a multiagency advisory group headed by Ira Magaziner, a senior adviser to the president for policy development. The group recently released a draft report - which was welcomed by the industry - that urged a freeze on any new Internet taxes.

"We wanted to pre-empt what we saw as bad policies ... or in some case [what was] already being implemented," Magaziner said. "When something like the Internet grows up and there's no coherent, well-understood approach being followed, then a lot of individual forces will move in to try to regulate it or try to impose policies, which then can produce a real hodgepodge," he said.

The report is titled "A Framework for Global Electronic Commerce."

States and localities should "think ... very carefully" before they act and possibly "stifle this new media," said Magaziner. "We think it is important that same principle of no new taxation exist and be adopted [at the state and local level] and ... that whatever is adopted should be uniform," he said. The taxes "ought to be simple ... transparent as much as possible, automatic and not require a new bureaucracy," he said.

On Capitol Hill, Rep. Christopher Cox, R-Calif., and Sen. Ron Wyden, D-Ore., have drawn up industry-backed legislation that would impose a moratorium on Internet taxes until the administration worked with state and local governments and industry to solve the existing problems. "We hope it will put a cork in the bottle before the genie escapes," said a Wyden spokesman, adding that the moratorium will allow everyone to "deeply breathe" and examine the issues.

But the bill will certainly be opposed by states and localities because it would freeze any new online taxes until Congress legislates a better solution. That better solution may never come, chiefly because the fast-growing infotech industry will unite to oppose any new tax scheme.

Industry has also received good news from some state capitals. New York state recently declared the Internet and electronic commerce nontaxable. In his proposed fiscal 1998 budget, Massachusetts Gov. William Weld has recommended eliminating the state's tax on online services and Internet access by July 1. Also, the city of Tacoma, Wash., rejected a sales tax on Internet access providers.

However, these victories provide only temporary help. Florida, Iowa and Tennessee have tax provisions pending. Furthermore, while not ruling out federal intervention, Magaziner said that "in principle, we don't like to pre-empt the states ... [and would] prefer to urge them to try to develop uniformity."


"Under the constitution there is a protection against states taxing individuals or businesses unless they have some minimal level of contact with that state ... [and] that minimal level is called nexus," explained James Wetzler, director of Deloitte & Touche LLP.

"The seminal court decision in recent years on this issue has been the so-called 1992 Quill case [Quill Corp. v. North Dakota]. Quill said that a mail order company that has no connection with the state other than shipping catalogs [there] ... through common carrier is not required to collect sales and use tax on sales from the consumers in that state," he said.

However, nexus questions, including those raised by the Internet, are not expected to be cleared up soon, partly because the Supreme Court decided the Quill decision. "We shouldn't be holding our breath for it, and frankly it's not going to give you the kind of guidance that a lot of people think it will," said Kendall Houghton, general counsel for the Committee of State Taxation.

"We are well-advised to look elsewhere other than the U.S. Supreme Court as far as trying to solve this problem," agreed Hellerstein. However, collaborative state efforts, such as that being conducted by the Multistate Tax Commission, also poses potential problems. "Assuming that no congressional consent [is needed], you still have to worry about the imposition of a tax that does violate existing constitutional rules," he said.

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