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Shift the Internet sales-tax shaft

By Joel Peyton

Kentucky government officials are complaining about “lost” revenue from online sales and want to expand the state’s taxing jurisdiction through passage of the Streamlined Sales Tax Project (SSTP) next year. Instead, they should give the project the shaft.

The SSTP is a collusion of 45 states and the District of Columbia that want Internet retailers to charge – and collect – sales tax for all purchases made by online shoppers. Currently, an Internet consumer who lives in Kentucky and purchases a CD from California is not required to pay our state’s 6-percent sales tax.

Expect the big-spending politicians to promote the SSTP as a new tax policy that enhances revenues and ensures fairness. In fact, the opposite is likely to occur.

Gov. Ernie Fletcher should oppose this type of tax policy because it would be an obstacle to the growth of Internet businesses in Kentucky. University of Chicago economist Austan Goolsbee concluded in 1999 – during the early days of discussion about the SSTP – that such collusion could hurt online business growth and technological innovation.

This should raise a red flag for Fletcher who held special press conferences around the state during his gubernatorial campaign to highlight his commitment to move Kentucky more fully into the Information Age. To be consistent with his message, the governor should oppose extending the Internet sales that Goolsbee predicts could reduce the number of online consumers by as much as 24 percent.

Much has been made of the revenue that Kentucky is purported to be losing each year by failing to collect online sales taxes. University of Tennessee professor William F. Fox offers fodder for this approach with his claim that Kentucky lost about $190 million in revenue for 2003 from taxes that were not paid on Internet purchases. Fox estimates that the “losses” will increase to between $259 million and $404 million – depending on how quickly Internet sales grow – by 2008.

Fox’s analysis is a favorite ploy of many current Kentucky policymakers trying to garner support for a plan like the SSTP. Fox’s estimation of revenue losses is likely inflated because it does not account for business losses that occur because of these new taxes.

SSTP proponents contend that online merchants must be taxed to level the playing field with competitors that do not offer their products or services on the Internet. But such an allegation wrongly assumes that these Web traders somehow or other have a great economic advantage over non-online firms just because they are not subject to the sales tax.

Actually, many Internet companies already operate at a competitive disadvantage. After all, most online merchants are not eligible for the kind of preferential treatment that many brick-and-mortar businesses often receive in the form of tax favors and other government handouts. Approving the SSTP would likely create a greater disadvantage for these Web vendors, who would face the steep transaction costs of calculating – and complying with – thousands of different tax rates across the country.

Even states that don’t plan to sign on to the SSTP will be affected. Internet businesses in these states would still be subject to taxation from other states that have adopted the policy.

Not only would an SSTP impose our state’s sales tax on the Kentuckian that bought that CD from California, but the retailer would be forced to implement a complicated software system to calculate the sales tax for up to 7,500 different communities across the nation. That same business could also be subjected to 46 different audits by 45 states and the District of Columbia each year!

Elected officials who have pledged not to support a tax increase should realize that voting for the SSTP would endanger this promise. An analysis of the SSTP by Colorado Gov. Bill Owens surmises that the policy would not be revenue neutral. Because it would force taxation on a new group of potential taxpayers who live outside Kentucky, it would be revenue-positive and a true tax increase.

Instead, most states – including Kentucky – should work toward simplifying sales taxes and lowering compliance costs. The SSTP does the opposite by shifting the shaft to many small businesses in Kentucky, and ultimately to their customers. Legislators should respond by giving this unsound and harmful economic plan the shaft if it emerges during the 2006 session of the Kentucky General Assembly.

– Joel Peyton is a Western Kentucky University graduate and an intern with the Bluegrass Institute, Kentucky’s free-market think tank.

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