MRSC has joined with Toni Nelson, Small Cities Specialist, State Auditor's Office, Gayla Gjertsen, Finance Director, City of Tumwater, and Mike Bailey, Finance Director, City of Redmond, to bring you the "Finance Advisor" column. The "Finance Advisor" will feature a new article each month with timely local government finance information and advice you can use.*

How Sales Taxes are Catching up to the Internet

July 2006

Mike Bailey, Administrator of Finance and Information Services, City of Renton , and Local Government Representative to the SST Governing Board

The Streamlined Sales Tax Project (SST) is an effort started by many states and business interests across the country to standardize definitions, forms and collection processes that businesses use to collect and remit sales taxes to states. This effort has been in development since 2000, followed by the adoption of the Streamlined Sales and Use Tax Agreement in 2002, and the system "launch" last October. The project is being managed by a governing board that consists of representatives from each of the member states.

The governing board recently approved contracts with service providers, who have been certified to be in compliance with the SST and all the detailed laws that participating states have, for the collection of sales taxes. Now businesses can engage these service providers to remit tax to the correct jurisdictions in accordance with the SST guidelines. There are currently over 600 businesses registered with the SST project to voluntarily collect interstate sales taxes in exchange for amnesty for potential taxes due (and this is just since October's launch date!).

Businesses are voluntarily signing on to join the SST effort for a few reasons. First, they are assured by the participating states that they will receive amnesty from taxes that may have been in dispute with regard to interstate sales. Secondly, the SST agreement will compensate businesses for the collection of taxes on remote sales that are voluntarily remitted under the agreement. In Washington, the taxes to be collected in the first year have been conservatively estimated to be around $32 million. Keep in mind that these are taxes that are owed under our current laws, but seldom reported.

This is significant because the states (and local governments) have been precluded from collecting sales tax on interstate commerce due to a 1992 Supreme Court decision (Quill vs. North Dakota) related to catalog sales. While catalog and phone sales were of interest in 1992, it was not significant enough to warrant the effort to seek congressional authority to collect sales tax on interstate sales. With the growing role of the Internet on retail sales, states and business have been looking for a way to create equity in the application of sales taxes. The SST project represents that effort.

To date, thirteen states are fully conforming to the SST Agreement, and another six have adopted laws that conform but are not yet fully implemented. There are another two or three states that are expected to join the project very soon.

Local governments are very interested in the project for many reasons. The fundamental issue of concern to local government is how the system changes the collection practices within the state for intrastate sales. This is due to the fact that the final Agreement not only creates new rules for the collection of interstate sales, but also applies those rules to all sales, in-store or remote. There are many issues yet to be resolved.

First, as a state changes its sales tax laws to conform to the SST, it may impact the local government revenues. For instance, Washington State is expected to consider legislation to become fully conforming next year. This will change the way sales taxes are "sourced" or who gets the credit for the sale at the local level. The current sourcing of sales from the point of the sale (origin) to the point of delivery (the only method that makes sense for sales over the Internet) will cause shifts in local revenues. Renton, for instance, will lose about $1 million per year, roughly 5% of our sales tax from this change. A plan to mitigate the shift of local sales taxes lost will be included with the proposed legislation. Note that in Washington there is no net statewide loss, and many local governments will receive more sales tax. The sourcing issue seems to be the most significant hurdle in adoption of the SST legislation across the country. Texas cities in particular are having difficulty with this aspect of the SST project.

Other issues around the country include:

• Currently, in some states (Colorado and Alabama for example) the collection of some of the sales taxes are managed by the local government. The SST would require it to be administered centrally for each state.
• Some states (New York for example) permit multiple rates for different types of sales (i.e., the tax rate on clothing may be different than the tax rate on printed materials). The SST would require a uniform tax rate for each "jurisdiction" (or sales tax boundary - a city, special district or county).
• Another concern is the compensation of businesses for the work involved in collecting the tax on behalf of government. Some states currently compensate businesses (Ohio for example) and believe they are entitled to compensation equal to the costs of collection, while others have not (Washington for example). Do local governments contribute to the compensation of businesses once they conform to SST?

Because of these issues and concerns the SST Governing Board created a “State and Local Advisory Committee.” The local government representatives to this committee consist of three members each from the National League of Cities, the U.S. Conference of Mayors, the National Association of Counties and the Government Finance Officers Association. These twelve representatives participate in the discussions related to the necessary standardizations and the streamlined elements that business is seeking. In addition, the governing board created an ex-officio position on the board to be filled by a local government representative. I currently serve in that capacity.

The goal of the tax administrators involved is to create equity in our tax systems as they evolve to meet the changing economic realities of electronic commerce. The goal of the business participants is to get a simpler system that is consistent across the country. It is nice to work on a project where these paths cross.

A great deal more information about the effects of Washington State’s participation can be found on the Association of Washington Cities Web site and the State Department of Revenue’s web site.

Mike Bailey is currently the Administrator of Finance and Information Services for the city of Renton. Previously, he worked as the Director of Finance for the city of Lynnwood for six years. Mr. Bailey also served as president of the Washington Finance Officers Association and is the Vice Chair of the GFOA Budget Committee. An experienced CPA and GFOA budget reviewer, Mr. Bailey co-founded the annual Budget and Fiscal Management Workshops held each summer. Mr. Bailey conducts numerous workshops and has authored various articles on local government finance, including Effective Budgeting in Washington State Cities published by the Association of Washington Cities.

*The Articles appearing in the "Finance Advisor" column represent the opinions of the authors and do not necessarily reflect those of the Municipal Research & Services Center.