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California Shouldn't Follow NY's Internet Tax Plan

By Sonia Arrison
Jan 26, 2011 5:00 AM PT

California is facing budget problems yet again, and once again state lawmakers are hoping to shake down Internet retailers as a fast source of revenue. A bill introduced by Democratic Assemblywoman Nancy Skinner ( AB 153) proposes to force out-of-state businesses to collect tax if they use an in-state company to generate leads. It's an idea that has been tested in New York and led to significant losses in that state.

California Shouldn't Follow NY's Internet Tax Plan

"If advertising with California-based websites were to create a nexus in the state for out of state retailers, those retailers will simply chose to terminate click-thru advertising agreements with California-based websites," said Patrick Gleason of Americans for Tax Reform. When New York passed a law similar to AB 153, cut contracts with online advertisers in that state. Bills like AB 153 "will eliminate an important source of revenue, which income tax is paid on, for many online entrepreneurs and other California-based organizations."

Reality Check

It seems that by attempting to generate more income, Skinner could wind up killing jobs and diminishing revenue for California. So why target online sales? E-commerce is growing for a variety of reasons, and some businesses, like Barnes & Noble, argue that has an unfair advantage over them because they do not collect taxes for states in which they are not based. The reality is more complicated than that.

Online shopping is clearly different from in-person shopping. When someone shops online, they typically have to pay a shipping fee. For instance, to get a pair of shoes shipped overnight from, the charge is US$25 -- a much larger fee than the state tax. In those circumstances, it is the retailer based around the corner from one's home that holds an advantage over the Internet vendor.

Even if everyone agrees that the Internet doesn't automatically convey an advantage, some argue that it seems unfair that one company has to collect a tax for the government while the other does not. The reason for this comes from a Supreme Court ruling that says that states cannot force companies out of their jurisdiction to do their work.

This makes sense, since companies that do not physically reside in the state do not use government services, like police and firefighting, as in-state businesses do. But again, even if everyone agrees with this, what about the so-called "tax-break" for consumers who shop with the out-of-state retailers? This is the crux of the matter.

Biting the Hand

Consumers are supposed to pay "use tax" on goods purchased from out-of-state retailers. Sometimes individuals are unaware of this requirement, or they fail to do it on their yearly tax form. Governments have trouble enforcing compliance with tax law in an Internet age, and since governments are not willing directly to force payment of the taxes by targeting individuals or switching to an origin-based tax, they would rather ask Internet businesses to do it for them. This is what many businesses object to, and rightly so.

It is difficult enough to get a business running and profitable. Forcing businesses to do the government's job is a huge additional burden that could break some companies. And of course, every time this issue comes up, it serves to remind Californians that they have the highest sales tax in the nation, not a distinction to brag about when state coffers are so empty.

Technology companies power California's economy and provide much needed jobs. It is disappointing to see legislators again targeting this sector as a source of revenue. Instead, legislators should make the state more hospitable to all entrepreneurs by lightening California's onerous tax and regulatory burden. Legislators also need to get spending under control, so huge budget deficits don't cause panic and ill-advised money grabs.

Sonia Arrison, a TechNewsWorld columnist, is senior fellow in technology studies at the California-based Pacific Research Institute. Follow her on Twitter @soniaarrison.

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