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Online Sales Taxes Won't Solve States' Budget Problems

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For almost 20 years, state and local politicians have lobbied Congress for permission to reach across their borders and collect sales taxes from online businesses that are not located in their state.

The plan for this unprecedented tax expansion has always been a small-business killer, because of the massive new compliance burdens these taxes would impose on small business owners. It is also a blow to healthy tax competition between states that is provided by the Constitution’s protection of interstate commerce.

Today, many states are enjoying a revenue windfall from national economic growth, as well as the new revenue thanks to recent federal tax reforms. So, the big question many are beginning to ask is: why do states need to unearth yet another revenue source?

The main argument for states “needing” this new taxing power is that they have suffered from shrinking sales tax revenue as more purchases are made online. An often-quoted study updated in 2016, and funded by proponents of expanding sales tax collection, projected a total of $211 billion in lost revenue between 2018 and 2022.

But a 2017 study from the nonpartisan Government Accountability Office found something very different. The potential new tax revenue lost, it said, is a mere fraction of that, somewhere between $8 billion and $13 billion. That is “2-4 percent of total 2016 state and local government general sales and gross receipts tax revenue.”

That’s a very small revenue gain for a lot of compliance pain. For a relative handful of change, the states litigating this point are threatening to send folks who sell their wares on eBay or Etsy out of business.

With big box stores collecting sales taxes everywhere they have a physical presence, and Amazon now collecting in every state that has a sales tax, the revenue emergency that was predicted is a red herring. In fact, total state and local tax collections, across income, property, and yes, even sales taxes just hit an all-time high.

It will be even more difficult for states to make the revenue argument with a straight face in light of the recent federal tax reform. The untold story of federal tax reform’s success is the opportunity the new law has provided policymakers across America’s 50 “laboratories of democracy,” where unexpected tax receipts directly linked to changes in the federal tax code have been a game changer for American families and business owners.

This new state level revenue has empowered state lawmakers to reduce tax rates on their own hardworking taxpayers, providing a double benefit from the federal tax cuts. More than half of the states have released official reports on the budgetary impact of federal tax reform, and they overwhelmingly predict enhanced state revenue. This is exactly the experience states had in the years following Ronald Reagan’s successful tax reform of 1986.

Any day now, the U.S. Supreme Court will determine the fate of e-commerce as we know it by issuing its opinion in the case South Dakota v. Wayfair, Inc., in which South Dakota is seeking to overturn the court’s 1992 Quill decision, which protected interstate commerce from aggressive state revenue collectors.

If Quill and its "physical presence" standard (which currently prevents states from taxing people outside of their borders) are overturned, it could lead to the Wild West of states looking to target out-of-state businesses for tax collection.

Let’s hope the justices protect e-commerce and consumers from out-of-state tax collectors looking to overturn decades of precedent. The idea that states “need” new revenue is outdated, and ignores the healthy revenue growth that states are enjoying now.

Jonathan Williams is chief economist at the American Legislative Exchange Council (ALEC) and vice president of its Center for State Fiscal Reform. Follow him on Twitter @taxeconomist. Jessica Melugin is Associate Director, Center for Technology and Innovation at the Competitive Enterprise Institute.

Originally published in the Washington Examiner.