And if California slides into the ocean/like the mystics and statistics say it will/I predict politicians will raise taxes/to try to pay the bill. — with apologies to Warren Zevon

Phil Britt, writing for the Heartland Institute’s Info Tech & Telecom News, reports on California legislators’ plans to implement taxes on Internet sales.

Facing a $20 billion budget gap, the California state legislature is reviving a tax-hike plan targeting out-of-state, online retailers. The proposal would force businesses advertising on California-based Web sites to collect and remit to the Golden State sales taxes on products sold over the Internet.

Reminiscent of rules already adopted in North Carolina and Rhode Island and earlier in New York, the plan has a diverse coalition of Web entrepreneurs as well as business and political leaders fuming.

No Physical Presence

Internet sales taxes have been attempted before despite the 1992 Supreme Court Quill v North Dakota ruling that a state may not collect taxes on an entity with no physical presence in the state. The ruling covered mail order as well as Internet sales.

The argument in the proposed California statute – one that has been proposed and stopped before — is that a business has nexus in the state if it advertises on a Web site based in the state.

“The main problem is that the way the tax works, out-of-state retailers will just sever any ties with in-state advertisers,” said Kelly Cobb, government affairs manager for Americans for Tax Reform, Washington, D.C. “It is an absurd argument. It will just hurt in-state bloggers and others who have advertising revenue [from out-of-state retailers]. So they lose revenue. As a result, the state doesn’t raise any money at all, all under the guise of trying to tax Internet sales.

“It’s a lose-lose for in-state businesses and for state coffers from Sacramento’s political class that can’t figure out what an overspending problem is. Thankfully, Governor Schwarzenegger and Republicans in the legislature have pronounced it dead upon arrival,” Cobb added.

Tracking Sales Revenues
Steve Kranz, partner, in the Washington, D.C. office of Sutherland Asbill & Brennan LLP, said New York has raised some additional revenue from the Internet sales tax, but only because it was the first one to impose advertising-nexus rules. Once other states started piling on, retailers started cutting their ties to avoid the sales tax.

Another issue is that a retailer buying Google ads doesn’t always know where those ads will appear, so tracking of sales tax revenues due to California or other states with similar laws becomes cumbersome, said John Bambeneck, a public policy advisor based in Campaign, Ill. “It’s not terribly simple to track that.”

Kranz added that about 10 other states are considering similar rules as states seek to cover budget shortfalls.

The problem, Cobb said, is that these states are looking for additional tax revenues rather than cutting spending. Even if the California Internet sales tax proposal was to be approved and Internet businesses did not cut ties with the advertisers, the result would be only $100 million in new revenue, a far cry from the state’s nearly $2 billion budget shortfall.

Even so, Kranz expects more states to attempt to find a way to collect sales tax on Internet purchases, with some attempts to declare Quill v. North Carolina dead and no longer valid.

Phil Britt ([email protected]) writes from South Holland, Illinois.