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The State of the Internet Sales Tax

Companies like online retailer, iTunes service provider Apple and software maker Microsoft have been fighting Internet taxes for years. Back in 1992, the Supreme Court ruled in Quill vs. North Dakota that states can?? make companies with no physical presence in their states collect those states?sales taxes. That means that may only be required to collect sales taxes in states like Washington State, where it has facilities, and not in others. Well, there’s an effort under way to change that.

In the next week, legislators are expected to introduce bills in the House and Senate promising to do away with the “physical presence” requirement. If a bill passes — and that’s a big “if” — it would require all online retailers, except for the tiniest companies, to collect sales taxes in the 23 states that are part of the Streamlined Sales Tax Project. The states would compensate the retailers for the trouble, while promising not to sue them for tax collection mistakes that are made.

Folks from the National Conference of State Legislatures that’s helping Congress draft this bill believe it could pass this year. But analyst Blair Levin from Stifel Nicolaus, a firm that’s extremely plugged into Washington politics, is not so sure. “We are skeptical that this Congress will enact legislation to facilitate state (and possibly local) taxation of online sales, though the effort appears to have a somewhat better chance than in prior Congresses,” he wrote in an April 20 report. While states’ financial difficulties and the Democratic majority in Congress should help NCSL’s cause, “we note continuing resistance, particularly among Republicans but also among Democrats, to taking actions that can be seen as raising taxes, particularly during a recession.” What’s more, Levin notes, “we believe a number of lawmakers in both parties will be reluctant to support a measure that would hamper high-tech growth.”

Interestingly, Neal Osten, federal affairs counsel at NCSL, says that actually supports his organization’s cause. He points out that 1,100 online retailers already voluntarily collect sales taxes outside of their physical borders. “Amazon’s biggest concern is that the system is different from state to state,” he says. I’ve left a message but haven’t heard back yet.

But here's a company that vehemently opposes NCSL's proposals: eBay. The auction giant is trying to protect the interests of its sellers, who may be forced to take on the extra expense and hassle of collecting sales taxes.

Whether the federal bill passes remains to be seen, but what's clear is that, as states try to plug holes in their budgets, more and more of them will be re-evaluating whether to charge an Internet tax. Osten says that Florida, Texas, Illinois, Massachusetts, Connecticut, California and Hawaii are considering joining the NCSL push. Were all 50 states to collect these sales taxes, they'd collect an extra $7.5 billion each year, Osten says.

That said, efforts in several states have fizzled. New York's governor, for instance, has recently tried to tax iPod downloads, such as music and movies. The provision didn't make it into the state's final budget, approved two weeks ago. In Minnesota, a bill designed to tax digital content such as music and ringtones was, in early April, introduced in the House, but it appears to be stuck in the Senate. "There's clear opposition from the IT industry," says Minnesota Rep. Jim Davnie. "Apple, Microsoft have been in my office."

Eventually, Davnie says, all Web sales have got to be taxed in the same way as those at brick-and-mortar retail stores. After all, past regilation had held off on imposing the tax for fear of crushing the fragile Internet economy that was, back then, still very much in the start-up mode. Now, "it's no longer this fragile baby you are afraid to get crushed," Davnie says.

Now, it's the might of the online tech giants could hamper the bills' progress. After all, they've gotten so much might, they might be able to effectively block all federal sales tax moves.

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