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Sales Tax for Online Purchases

This article was written by in Taxes. 13 comments.


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I’ve described how over the last dozen years or so I’ve converted from an Amazon.com dissident to an Amazon.com fan. Although for most of my purchases I check prices against brick and mortar competition, other stores, for the most part, can’t compete with Amazon.com in terms of price. I’m also lucky enough to live in a state where Amazon.com doesn’t have a physical presence. I can therefore avoid New Jersey’s 7 percent sales tax on purchases, though technically, I must repay this benefit as use tax when filing my personal income tax return.

In theory, the use tax should be how the state recovers at least a portion of lost revenue from sales made within the state with out-of-state businesses. The use tax just isn’t very efficient, and many states have determined that online sales transactions with the customer residing in those states, regardless of where the business is located, should have sales tax. New York is one such state; I’ve had friends living in New York, a state where online purchases are taxed, ask me to accept deliveries for them at my home in New Jersey to avoid hundreds of dollars of sales tax payments on large purchases.

Sales tax is an important form of revenue for the states in which a sales tax is collected, and this revenue is used to pay for public education, infrastructure, and government expenses, in addition to the vast majority of sales taxes’ use for general expenses. With an increasing number of sales transactions moving online, and the ability for companies to operate anywhere in the world while serving customers in every state, the idea that a company must have a retail “presence” in the same state as the consumer is antiquated. If I can access Amazon.com from New Jersey, Amazon.com has a presence in the state. It may not be a storefront, but I can buy products from their store without crossing the border into a different state.

Speaking to business owners, I am aware of the problems with the concept of business charging sales tax for every state. This creates an accounting nightmare. Although there are only 50 states (and only 46 with sales tax), there are hundreds of different tax situations. Some cities or other municipal areas charge sales tax in addition to the state tax, and in some cases, sales tax rates differ according to the type of product being sold or the business status of the consumer. Computer software can make determining the correct tax rate easier, but relying on the software without a back-up system is problematic.

States regulate commerce, but commerce has become such an integrated part of the human existence, with an increasing portion of business being conducted across state lines. The system of collecting state taxes should be upgraded to deal with this new reality. Perhaps there should be one entity collecting a base sales tax on all items, and this one entity determines which state should receive the revenue, based either on the location of the buyer, the seller, or both.

Perhaps all state sales taxes should be eliminated completely, with the intent of using state income tax to recover the revenue shortfall. Sales taxes penalize consumption, and they hurt low-income households as a percentage of their overall income than they hurt higher-income households. You can claim a deduction for state sales tax paid when filing federal income tax returns, partially offsetting the regressiveness of a consumption tax, but that requires itemizing deductions. Itemizing deductions may not be worthwhile for most taxpayers unless they can itemize beyond the standard deductions.

I’m not aware of a perfect solution — something that eases the accounting burden on businesses while allowing states to collect revenue on all transactions even partially occurring within their borders. With online commerce, the concept of a state is irrelevant. Other than having one entity collect taxes for online purchases on behalf of all states, state and local governments must find a way to recover the revenue they’re losing as more transactions take place online. Relying on consumers to file accurate state tax returns including an assessment of the purchases they made without paying state sales tax — the use tax — is foolish.

Does your state expect you to file and pay use tax? Do you file and pay this accurately each year (or in the case of at least one state, each month)? How should states collect revenue for online sales?

Photo: Tim Dan!el

Updated June 20, 2014 and originally published August 1, 2012. If you enjoyed this article, subscribe to the RSS feed or receive daily emails. Follow @ConsumerismComm on Twitter and visit our Facebook page for more updates.

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About the author

Luke Landes is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about Luke Landes and follow him on Twitter. View all articles by .

{ 13 comments… read them below or add one }

avatar SteveDH

Question 1: Yes.

Question 2: Under the rights granted me by the fifth amendment of the Constitution of the United States …..

Question 3: They shouldn’t! There shouldn’t be any tax on consumption, just earned income and wealth (in the form of property tax) – Please note that I said earned income, as in W2 income only. Let the young save and invest for free and leave the old retired folks alone.

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avatar Ceecee ♦53 (Newbie)

I’m also in Jersey, same rules. Maybe they should take an average of all state sales taxes and have one “online purchase sales tax.” But what do you do with things like ebay? Some sellers are just emptying the attic, while others buy with intent to resell at a profit(a resale business). That’s another big can of worms.

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avatar TXP

Question 1: No

Question 2: N/A

Question 3: In contrast to SteveDH, I’m fine with a consumption tax (in fact, I think some form of consumption tax should replace the impossible-to-manage/enforce income tax system we have). The simple approach is for a state to change it’s law and define the location of sale to where the product is delivered – thus it’s taxable.

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avatar SteveDH

I understand the sentiment and agree the tax system needs to be simplified. In many countries wages, dividends and other earnings are taxed when earned and there is no annual accounting forced on the taxpayer. But the sales tax is the most regressive of all of our taxes, especially in states that tax food and other “essentials” . A flat income tax on all earnings above the poverty level, where the payee is held responsible for withholding and submission could be an idea for a more manageable system. Some states did try to tax purchases from out-of-state by making the seller collect the taxes but they lost in court – hence the “use tax” approach now in force.

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avatar Christian L.

Luke,
I’m surprised states haven’t tackled online sales tax sooner. Sure, it’s still a fledgling market compared to the barter system, cash and credit. But man, the amount of money transacted online would make for some serious tax revenue.

It’s a shame, but I didn’t even know about the use tax and I’ve never paid it. This is a tricky subject indeed. The only solution I can think of forces online sellers to include a tax that the sellers are responsible for sending to the respective states.

But that’s still imperfect by a huge margin. Curious to see what others think of.

-Christian L. @ Smart Military Money

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avatar Mike

Yes, No, and states and cities don’t need any more money! Spend it wisely and then you can come to me and ask for more.

Out of state purchases should be sales tax free as they have been for years. I live in Texas where Amazon just abandoned their customers by agreeing to collect sales tax from Texas residents. I was a regular Amazon buyer but their price advantage has pretty much disappeared with this agreement. Not sure where I will shop in the future. Probably not Amazon!

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avatar jim

The whole system is screwed up. For a long time online merchants have had a huge advantage because they have not had to charge sales tax. What if you had to pay 5-10% more for everything you buy online? That has a significant impact. It isn’t fair to local businesses and just helps build non-local business.

Personally I think any sale should have to charge sales taxes applicable for the destination. Its not hard to manage via software and any online sale is already completely dependent on software anyway. Just plug the zip code into a computer and it will handle it. Small business owners might be annoyed by that but its a lame excuse in my opinion. Also theres a mult-state organization called the Streamlined Sales Tax Governing Board that is simplifying the collection of sales taxes across states

Also Flexo said that you can claim sales tax as an itemized deduction item. That only works if you don’t already pay state income taxes that are more than your sales taxes. You get EITHER the sales tax OR the state income tax as a deduction, not both. So you have to go with the higher of the two and for most people the state income tax is more. However its nice for the handful of states with sales tax and no income tax. But again only if you itemize.

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avatar Lance @ Money Life and More

I live in Florida and love our sales tax because all of the tourists help pay our tax bills! I think that once a company gets to a certain sales threshold to a state they should have to pay sales tax at least at the state level, but probably not to the county and city level as that would be a nightmare. Once the organization passes that threshold they should have enough money and a big enough accounting department to handle the nightmare of returns. Thing is though if there is a shipping address just make that part of a computer system to track sales to each state and then base sales tax on that… I’m sure it would become more complicated (as an accountant I know this) but larger companies should have a bigger responsibility on this front even if I don’t want to pay it.

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avatar qixx ♦1,895 (Half-Dollar)

Q1: I’m not sure but i think the answer is no.
Q2: Does not apply. 99.99% of my online shopping is from this wonderful place called Amazon. They collect sales taxes for my state.
Q3:

I think consumption taxes are a better tax method than income. I know those on various Food Stamps programs don’t pay sales tax on their purchases. It would be possible to setup a system that allows those individuals no sales tax on necessary items such as food, toiletries, etc. You could even exempt these items for everyone. You could setup the system to only apply to your home state. If you cross the border then you pay the sales taxes of where you are. Everyone would still pay taxes on things like cars and big-screen tvs.

As for online retailers i think the taxes should be based on the retailer not on the buyer. If you are buying from an online company setup in New York you should pay the tax rate of New York. For places like Amazon with multiple warehouses across the country tax based on the warehouse location not home office. Then big retailers only need to know the tax rates for where they are located not for every city, county, and state.

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avatar Melissa

I lost the ability to be an Amazon affiliate because of our state’s policy; I wonder if all states started charging tax what Amazon would do. Would they just ax all affiliates, or would all affiliates be welcomed back into the fold?

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avatar Luke Landes ♦127,500 (Platinum)

Well, it looks like Amazon.com relies on affiliates for 40 percent of its revenue (that’s according to Wikipedia, so who knows) … but the question is whether all that revenue would disappear if Amazon nixed the affiliate program. They don’t seem to be concerned about eliminating the program on a state-by-state basis. If sales tax were to be national, while Amazon.com relies on the affiliate program for a good portion of its revenue, the company would have to find a way to make it work. I’m sure the smart people who work there can figure it out. Any business that relies on affiliate income (turning its customers into salespeople) does not have confidence in the intrinsic marketability of its products. Amazon.com may be different because it doesn’t have its own products, it’s competing with all other stores on basically just price (and habit). Affiliate programs do best when there’s only one source for whatever is being sold, anyway.

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avatar John

Excellent article on the HUGE problem with online sales tax. You’re right, sales tax for online businesses is a burden because sales tax cannot be properly managed by most businesses. I appreciate that you said you didn’t have a solution – at least you got the conversation started! Thanks!

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avatar Robert

Great article. States are gaining traction: as of Sept.3, 2012, Amazon must now collect sales tax on purchases from Pennsylvania residents (since amazon has “a physical presence” in the state). In the summer 2013, Amazon will have to collect taxes from New Jersey residents (in part because amazon is building a warehouse in NJ).

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