What is the Marketplace Fairness Act?
For years, most Americans have been aware of an apparent sales tax loophole. If a consumer buys a television set at a brick and mortar store, sales tax will be due on the purchase. In contrast, unless the internet retailer is located in the same state as the consumer, no sales tax is paid when the same TV is bought online. While consumers have enjoyed this apparent loophole (it’s not a real loophole, as discussed below), non-online retailers have seen a significant loss in sales, and states and municipalities have lost out on billions of dollars in tax revenue.
To rectify this issue, Congress has been considering legislation to require the collection of sales/use tax in e-commerce. On April 22, the U.S. Senate voted to limit debate on a motion to proceed to the consideration of Senate Bill 743, otherwise known as the Marketplace Fairness Act (the “Act”), by a bipartisan vote of 74 to 20. With such a show of support, passage of the bill is anticipated later this week. Due to the support already shown for the bill by the Obama administration, debate and passage by the House of Representatives appears to be the only obstacle remaining for the Marketplace Fairness Act to become law.
When is a Loophole not a Loophole?
Outside observers may find the overwhelming support in the Senate for the Marketplace Fairness Act surprising. After all, with Republican legislators being unwilling to raise taxes in the never-ending budget battles, why would there be such bipartisan support for a bill that increases taxes? The reason is – the Marketplace Fairness Act doesn’t actually increase any taxes.
It is true that under the 1992 U.S. Supreme Court case, Quill v. North Dakota, that a state may not collect sales tax from the sale of an otherwise taxable item if the seller does not have a physical presence (i.e., a store, a warehouse, etc.) in the collecting state. However, almost every state has “use tax” that parallels the sales tax, and requires a buyer to pay tax to the purchaser’s state, as if the sale had taken place there, with a credit for any sales tax actually paid to another state. Thus, for example, if an Indiana resident (where sales tax is 7%) bought a computer while on vacation in Delaware (where there is no sales tax), he or she should be paying a use tax to Indiana. In fact, several states, including Ohio, include a use tax reporting item on the state income tax return to motivate taxpayers to follow the law. However, it is widely known that a startlingly small percentage of taxpayers actually pay use tax.
What does the Marketplace Fairness Act do?
The Act empowers states and municipalities to require internet retailers to collect the use tax due from the consumer at the time of purchase. Certain small retailers would be exempted from this obligation (the current version of the Act excludes retailers with annual out-of-state sales of less than $1,000,000), and prior to the effective date of the requirements of the Act, each state would be required to provide free software to retailers for the calculation of the applicable tax (which would be based on the shipping address of the consumer). Further, each state would be required to create a simplified system for tax reporting and auditing, to allow retailers to avoid the morass of state and local filings and enforcement mechanisms that would otherwise apply.
As noted above, the next action on the Marketplace Fairness Act will be passage by the Senate. This may happen as early as this week. The Obama administration has already stated its strong support for the Marketplace Fairness Act. Thus, it appears that only the U.S. House of Representatives stands in the way of the Act becoming law. However, despite the Republican majority in the House, it is widely believed that the Act will be brought to a vote and pass quickly. There is broad support for the Act among retailers, including internet giant Amazon.com, due to its warehouses in many states that create the “physical presence” required under Quill for sales tax collection. With revenue-starved states pressuring Washington to pass the Act, it is widely assumed that the internet sales tax “loophole” will soon be no more.