By Daniel T. Schibley, CCH Staff Writer

The effort to achieve a Streamlined Sales Tax system advanced significantly during 2003. Five more states, including California and New York, joined the effort by enacting legislation authorizing their states to sign on to a multi-state agreement, bringing the total to 39 states and the District of Columbia. Moreover, 20 states took the additional step of actually enacting legislation to conform their laws, at least in part, to the requirements of that agreement. Since a voluntary collection system could be up and running in 2005, legislation was introduced in both houses of Congress to make the system mandatory.

Background: On November 12, 2002, a group of state delegates approved the Streamlined Sales and Use Tax Agreement at a meeting in Chicago. The stated purpose of the agreement is to simplify and modernize sales and use tax administration in member states in order to substantially reduce the burden of tax compliance through all of the following:

• State level administration of sales and use tax collections
• Uniformity in the state and local tax bases
• Uniformity of major tax base definitions
• A central, electronic registration system for all member states
• Simplification of state and local tax rates
• Uniform sourcing rules for all taxable transactions
• Simplified administration of exemptions
• Simplified tax returns
• Simplification of tax remittances
• Protection of consumer privacy

The agreement is an outgrowth of the work of the Streamlined Sales Tax Project (SSTP), which began its efforts in March 2000. The SSTP has brought together state revenue department administrators and representatives of various business interests, including national retailers, trade associations, manufacturers, direct marketers, and technology companies. The parties involved value a simplified and more uniform system for its own sake, recognizing that it should save businesses compliance and audit costs, while also saving states administrative costs and improving voluntary compliance, which should increase collections.

However, the primary goal of the SSTP has always been to convince Congress (or the U.S. Supreme Court) to allow states that have simplified their tax systems to require out-of-state sellers to collect tax on purchases sent to those states, even when the sellers do not have physical presence there. The theory behind this goal is that a streamlined system will eliminate the burdens on interstate commerce that, according to the U.S. Supreme Court in Quill Corp. v. North Dakota (1992), justify denying states such authority at present.

Since the agreement was approved, 20 states have enacted legislation to conform their laws in whole or in part to the agreement's requirements. By its terms, the agreement will come into effect once at least 10 states comprising at least 20 percent of the total population of all states imposing a state sales tax have brought their laws, rules, regulations, and policies into substantial compliance with the agreement.

The Tough Sourcing Issue: During the process of enacting conformity legislation, states have encountered challenges that have prevented some of them from fully conforming their laws to the agreement, and have put others at risk of retreating from enacted conformity. One of the most contentious issues has proven to be the destination-based sourcing provisions. Sourcing rules are used to determine to which jurisdiction a sale should be assigned, that is, what tax rate is to be applied and what jurisdiction is to receive any tax collected.

The agreement requires that a sale be sourced to the destination of the item sold, according to a specified hierarchy based on available information (e.g., business location of the seller for over-the-counter sales, location where receipt by the purchaser occurs for most mail-order sales, etc.) Only in the absence of any information about the destination of the sale do the sourcing rules default to the location of origin (e.g., the location from which an item was shipped). Destination-based sourcing has proven to be very controversial in some states because of the effect of applying it to in-state sales. Traditionally, many states have sourced in-state sales on an origin basis.

Many small retailers who frequently deliver goods to various localities within their state, and who have traditionally only had to be familiar with and collect the tax imposed at their store location, object that it will be a burden to have to collect tax at various rates for various jurisdictions statewide. Local governments also object to the revenue shifts that will occur, as taxes that formerly went to business hubs are redirected to population centers. A study by the Washington Department of Revenue found that, in that state for example, an estimated 184 cities would gain revenue and 97 cities would lose revenue, under destination-based sourcing.

As a result of these objections, Texas and Washington did not adopt destination-based sourcing when they enacted other conformity provisions. Kansas and Ohio have delayed the effective dates of the new sourcing rules enacted by those states. Among those states that have not yet conformed their laws to the agreement, changing to a destination-based system could be a problem in Arizona, California, Illinois, Missouri, Pennsylvania, and Virginia. Despite these concerns, most of the state revenue officials and multi-state businesses that participate in the SSTP are committed to destination-based sourcing as an essential part of the effort. Having two systems, an origin-based system for in-state sellers and a destination-based system for out-of-state sellers, would probably be discriminatory and violate the Commerce Clause of the U.S. Constitution. Having an origin-based system for all sales could precipitate a "race to the bottom," as businesses relocated their operations to low-tax or no-tax states.

Some states that formerly sourced in-state sales on an origin basis have succeeded in changing their systems while keeping objections to a minimum. Among the proposals for easing the transition are revenue redistributions for local governments, and support for tax calculation and collection technologies for retailers.

Other Issues: Sourcing has been the most prominent obstacle states have encountered in conforming to the agreement, but there have been others. A meeting in New Orleans in March 2004, hosted by the Council On State Taxation (COST), uncovered several shortcomings in enacted conformity, including failures to adopt all the necessary definitions in the medical area, and missing statutory authorization for vendor compensation, safe harbors for over-collection, and amnesty. In addition to Texas and Washington, Ohio was identified as a state that had fallen short in several areas. Minnesota also has work to do. Many, if not all, of the states that enacted conformity legislation during 2003 have enacted, or plan to try to enact, clean-up legislation during 2004 to complete the process of achieving the requisite level of substantial compliance with the agreement's provisions.

Since the Agreement was approved in late 2002, the SSTP has continued to meet to fill in the gaps and otherwise enhance the Agreement to achieve further simplification. Among the outstanding issues that have so far eluded efforts to resolve them are definitions of "digital equivalent of tangible personal property" and "bundled transaction."

Authority to administer the agreement will rest with a Governing Board made up of the states in compliance with the agreement. In order to be in compliance, any legislative or regulatory changes necessary to conform with the agreement must be in effect, not just enacted. These provisions raised the question of who had authority to amend the agreement before it became effective, and who was authorized to take preparatory administrative actions during this interim period.

In response, the group of states that originally approved the agreement (the implementing states) authorized the creation of a Conforming States Committee, comprised of states that have passed legislation conforming with the agreement, as determined in good faith by the implementing states co-chairs. The co-chairs appointed all the states that have enacted conformity legislation to the Committee, except for Texas and Washington. The effective date of the states' conforming changes is disregarded for purposes of conforming states' membership. The conforming states are authorized to take steps to create the administrative mechanisms and staffing necessary for operational implementation of the agreement. The goal is to let the states negotiate with certified service providers and take other steps that will need to be in place as soon as the agreement becomes effective, without having to wait until the conforming changes are in effect in all the states and the Governing Board has come into being. The first meeting of the Conforming States Committee occurred on May 25, 2004, in Tampa, Florida, the day following the SSTP meeting there.

Federal Legislation Pending: Even after the agreement goes into effect, it will remain a voluntary collection system as far as sellers without a physical presence in a given state are concerned. Many sellers have already volunteered to collect sales tax in states in which they, at least arguably, lack a physical presence, in return for the individual states giving them the same amnesty that voluntary sellers can receive once the agreement has gone into effect.

However, the ultimate goal of the effort to streamline sales taxes is to convince Congress to grant states that have simplified their systems the authority to collect tax on remote sales. Bills currently pending in Congress would grant states that authority, but the bills' prospects (especially in an election year) are very uncertain. Furthermore, many legislators and businesses insist on linking remote sales collection authorization to legislation mandating a physical presence nexus standard for business activity taxes.

What To Expect: Many of the supporters of the Streamlined effort think that the thresholds to bring the agreement into effect as a voluntary system can be crossed in early 2005. Things to watch for during 2004 to assess how realistic this goal is include whether:

• states can satisfy the concerns of local governments and neutralize any opposition
• states can defeat efforts to roll back conforming changes already enacted
• clean-up legislation can be enacted to complete the job in those states where conformity is not complete
• more states enact the conforming changes, especially large states such as Michigan and New Jersey
• the SSTP can make further progress on unresolved issues, including the treatment of digital goods and bundled transactions
• the Conforming States Committee can put the necessary administrative apparatus in place
• more businesses step forward to volunteer to begin collecting tax or just to support the effort
• states are able to win support for a mandatory system in Congress

Once the agreement goes into effect, it will remain a voluntary collection system as far as sellers without a physical presence in a given state are concerned. Collection by such remote sellers will become mandatory only if a court of competent jurisdiction rules that the complexity concerns underpinning Quill Corp. v. North Dakota (1992), have been resolved, or if federal legislation is enacted granting states collection authority over remote sellers. Such federal legislation has been introduced in both chambers of Congress. It would authorize a member state of the agreement to compel remote sellers to collect and remit sales and use tax on sales to purchasers in that state. The legislation contains a small business exception, a requirement that sellers be compensated for the cost of administration and collection, and judicial review of disputes in the U.S. Court of Federal Claims. Both bills currently are in committee.

The SSTP will continue its efforts during a meeting in Chicago on August 4-6, 2004.

Implementing States

The states listed below, known as the Streamlined Sales Tax Implementing States, have enacted legislation authorizing the state to enter into a multistate agreement to streamline its sales and use tax collection and administration in specified ways.

The Implementing States approved such an agreement, known as the Streamlined Sales and Use Tax Agreement, on November 12, 2002, and submitted it to the states for implementation. To come into effect, at least 10 states comprising at least 20 percent of the total population of all states imposing a state sales tax must bring their laws, rules, regulations, and policies into substantial compliance with the Agreement's requirements.

The states listed in bold have already enacted legislation to comply with the Agreement, although some of these may not have achieved the requisite level of compliance. The effective dates of these states' compliance legislation varies.

Related items:

States Not Ready Yet for Streamlined Sales Taxes

Colorado Governor Bashes Streamlined Sales Tax Project

Only Fundamental State Tax Reform Can Reverse Budget Troubles

Simplified Sales Tax Project Seeks More Participation

Cost of Sales Tax Collection on the Rise for Businesses

States Face Growing Budget Gaps, Half Eyeing Tax Increases

States Suffer Widespread Revenue Shortfalls; Internet Sales Tax Project Moves Forward

States Looking at Internet, Mail Order Sales Taxes

Local Governments To Lose $13.3 Billion From E-Commerce in 2001

Governors Send Message to Congress on Internet Taxes

Congress Receives Formal Internet Tax Report from ACEC

Experts Advocate Simpler Method of Taxing Electronic Commerce

Cumbersome Internet Sales Taxes Could Impose Disproportionate Burden

Senate Passes Internet Tax Freedom Bill