Taxation Slips through the Net

Article excerpt

Development of fair taxation systems for e-commerce is one area of the new economy that is definitely not moving at Internet speed. By Daniel Keeler

After 18 months' deliberation and research, the United States' presidential Advisory Commission on Electronic Commerce recently announced its recommendations regarding taxation of domestic US Internetbased commerce. Essentially, the panel recommended retaining the status quo by extending the current moratorium on Internet taxes until 2006, while looking into new ways to impose fair taxes on what is considered an unregulated and largely tax-free environment. The inconclusiveness of the panel's efforts is symptomatic of the difficulties faced by anyone attempting to resolve taxation issues surrounding Internet-based commerce.

While the subject of Internet taxation is furrowing brows worldwide, debate on the topic is fiercest in the United States because of the complexities of the state and federal tax system. Individual states have neither an obligation nor the power to collect taxes for other states, which means that Internet companies shipping goods to states other than their own do not have to collect sales taxes.Technically, consumers should pay a "use" tax if they purchase something but do not pay sales tax on it. In reality, use tax is rarely collected from consumers, and most are unaware of its existence.

The main focus of the debate is business-to-consumer (B2C) sales, which affect traditional brick-and-mortar retailers through lost trade and local tax agencies through lost revenues. By not collecting sales taxes, Internet companies gain a huge competitive advantage over their traditional counterparts, although complaints about this advantage are muffled by those conventional retailers that are also trading successfully online.

One suggested solution to the problem has been the imposition of a uniform levy on Internet commerce. Ironically, it is the individual states that are most concerned about this idea, since they often use discretionary taxes to pay for particular needs in their states. Imposing a uniform tax-which could clearly be applied to all sales, not just e-commercewould limit their ability to control their own finances. Kent Johnson, an etax expert at KPMG, explains states' concerns. "States use these taxes to promote public policy; he says.

Another suggestion from the panel was that, for five years, sales and use taxes should not be levied on digitized goods or their nondigitized counterparts. According to Johnson, this is one of the most contentious issues discussed by the presidential panel. "This provides that anything that could be digitized and sold over the Net, whether it is books, software, music, movies, or whatever, should be exempt from sales and use tax, no matter how it is sold.The reason for this provision is that it is almost impossible to source the taxation jurisdiction for digitized content. It can be pulled off the Internet from anywhere in the world," Johnson says.

Considering such exemptions or tax unification opens the door to much wider reform of the taxation system in the United States. Essentially it leads to a discussion of either harmonizing state taxes or centralizing the levy and collection of sales taxes. Since this affects constitutional rights, it is highly unlikely the states will be able to agree on such a change. "What we have is a collision of a 19th century system of government with a commerce system from the 21 st century," says Karl Frieden, a director at Arthur Andersen and author of the newly published CyberTaxation: The Taxation of E commerce. …