Should there be sales taxes on Internet purchases?

An increasingly large number of Americans are shopping online, browsing catalogues, selecting items and making purchases from the comfort of their own homes. Beyond convenience, one of the most attractive aspects of online shopping, at least to consumers, is that very few online "stores" charge sales tax, meaning that shoppers pay even lower prices for what they buy online than they would in a traditional store. The days of tax free Internet shopping, however, may be short-lived. Should there be sales tax on Internet purchases or should web shopping remain "tax free"?

To answer this question fairly, it is important to put the sales tax in its proper perspective. Most state and local governments rely heavily on sales tax revenues to fund a wide variety of government functions and programs. All but five states collect a sales tax of some kind or another. The states that collect sales taxes do so in a variety of different ways--some states tax virtually all purchases while others tax a narrower range of purchases. The most commonly exempted class of purchases is food. Tax rates also vary quite widely, from as low as 0.5% in Hawaii to 7.25% in California. Additional sales taxes are also collected in many counties and cities on top of established state sales tax rates.

State and local governments have generally established their taxation and spending patterns over long periods of time, adjusting for local and regional economic conditions and spending requirements when necessary. While it is impossible to anticipate every possible contingency, one of the most important functions of state and local governments is to plan ahead and establish taxation systems that will work down the road as well as today. Each state and local government has developed a mixture of sales, income, property and other taxes to bring in the revenues each needs to maintain roads and highways, build schools, pay teachers, etc. When one or more of a state or local government's expected revenue sources is curtailed or eliminated, its budget plans are no longer useful and it must either scramble for new revenue or cut spending. Neither one of these tends to be very popular with the public.

So, should sales tax be collected on Internet purchases? Ultimately, the answer comes down to this: Most state and local government tax systems and budget plans would be seriously disrupted if sales tax revenue disappeared altogether. If an increasingly larger proportion of purchases are made sales tax-free on the Internet, there will be a fiscal crisis in most states and localities. State and local governments will either have to raise revenue in other ways, by increasing income or property taxes, for example, or by cutting spending.

Most of the uproar over taxation of purchases made on the Internet seems to arise from the perception that any tax on online purchases would be a new form of taxation. This is simply not the case. Purchases off-line have been taxed for decades. Shopping online may be different in many ways, but money is still being exchanged for goods and services. Those purchases would be taxable under any other circumstances, i.e. if the purchases were made anywhere but on the Internet.

Taxing Internet purchases is further complicated because most purchases are made across state borders. In such cases, where should the tax be collected? At the point of sale or the point of delivery? If the tax is collected at the point of sale, there would probably be a migration of online stores to sales tax-free states. The most workable idea would probably be to require the tax to be paid to the state or local government where the purchaser lives. The drawback to this, however, is that at least one rationale for collecting sales taxes in the first place is to provide state and local governments the money they need to build roads, sewers and provide other services that allow businesses to do what they do. If sales taxes are collected in the states and localities where buyers live, the states and localities where sellers are located may not be able to collect the revenues they need.

The issue of sales tax collection on Internet sales is a complicated one. If people want to shop online--and more and more are doing so every day--and they don't want to be charged a sales tax when they do so, they should realize that they will either have to pay those taxes in other ways or be prepared to see reductions in state and local government services. And as states and local governments come to grips with the evolving nature of commerce, they will have to develop new ways of thinking about and administering tax systems.