by Roger Russell
Tax preparers in New York and California are shocking clients when they explain that they are liable for tax on out-of-state sales.
“They’re surprised that they owe tax even if they bought gas in New Jersey or any other state where there’s a difference,” said New York-based CPA Marc Albaum. “I’m advising all my clients to at least take the table amount, and to declare any big-ticket items. The overwhelming majority take my advice.”
For Albaum, it’s a small price to pay to avoid an audit. “The table amounts are pretty reasonable,” he said. “I tell my clients it will hurt a lot more if they get audited than if they fill in the table amount.”
Verenda Smith, spokesperson for the Federation of Tax Administrators, said that, last year, 18 states had a separate line on their individual tax return form requesting tax on out-of-state purchases. In addition, three states that did not have a line on the return included a form in their booklet to report such purchases.
Although some of the states have had a line on their return for out-of-state purchases for years, New York and California are among a number of states that added the line for this tax season, according to Bartlett Cleland, Information Technology Association of America vice president and tax counsel.
“Ten or 11 states added a line this year, so the total is over 30 states that now have the line on their return form,” he said.
“Early on, people were caught by surprise, even though the obligation always existed,” said Nanuet, N.Y., CPA Stewart Buxbaum. “It’s a complex issue, because all purchases under $1,000 can use the table, but for anything over that amount, the taxpayer must pay the exact amount,” he said.
“There are seven pages of detailed instructions for this one line. The instructions are necessary, but they’re complex, so it’s incumbent on the CPA to make an inquiry,” Buxbaum said.
“There are also ethical issues,” he said. “If you do both the personal and business returns for a client, in the past you might have left use tax recording to the client. But if now you see credit card bills for items bought for the home, you have to be concerned about reporting on line 56.”
Making up the difference
The move by states to include tax on out-of-state purchases on the return form is a reaction to their failure to require remote vendors to collect the tax for them. As Internet purchases and catalog sales grow, state and local governments continue to experience lower-than-expected revenue from sales and use taxes.
A report issued in 2001 estimated that the states lost a collective $16.4 billion from electronic commerce alone, and that loss is projected to climb to $45.2 billion in 2006.
The 1992 U.S. Supreme Court decision in Quill ruled that the current patchwork of 7,500 taxing jurisdictions across the country creates an overwhelming burden on out-of-state retailers, and therefore they are not required to collect taxes in jurisdictions where they do not have a physical presence. The court implied that states must first simplify their laws in order to require out-of-state retailers to collect and remit sales taxes.
As a result of Quill, states have spent a number of years in formulating an interstate agreement under the Streamlined Sales Tax Project that would create a simplified sales and use collection system that could be used by retailers regardless of their location. The system is an attempt to establish uniform definitions of taxable goods, to set rules for sourcing transactions and to centralize the registration and administration process for retailers to participate in the system.
“The requirement was for at least 10 states whose population amounted to at least 20 percent of the population of all states that collected sales tax to actually amend their sales tax rules to agree with model laws,” said David Hardesty, author of “Electronic Commerce: Taxation and Planning,” published by Warren, Gorham & Lamont, a Thomson business.
“After they have actually amended their rules to comply with the model laws, there will be a consistent set of sales and use tax rules that will benefit sellers,” said Hardesty, a partner in San Francisco CPA firm Wilson, Markle, Stuckey, Hardesty & Bott. “However, the state still cannot compel an out-of-state seller to collect a sales tax unless the seller has a physical presence within the state. Quill is based partly on the fact that it is unreasonable to require a remote seller to comply with each state’s tax law when there are so many different sets of rules.”
“So the states believe that if they all sign on and operate under one set of rules, then one of two things will happen,” he continued. “Either the next time the issue is before the Supreme Court, it will say that things are different now and they are permitted to require the remote seller to collect the tax; or Congress will go ahead and give the states the power to enforce collection.”
“A little-known aspect of Quill is that the decision explicitly gave Congress the power to allow the states to collect the tax from remote vendors,” said Hardesty. “Quill said that physical presence in the state is not required for due process. While Congress has no power to write a law denying due process, they have the complete power to regulate interstate commerce.”
Complexity to simplicity
Meanwhile, the simplification that the Streamlined Sales Tax Agreement aims at would actually result in an increase in complexity for interstate sellers, according to the National Direct Marketing Association. And, in a new study using Commerce Department data, DMA senior economist Peter Johnson calculated that potential uncollected revenue to the states is about 85 percent less than compared to prior studies.
“I object to the word ‘simplification,’” said George Pieler, a research fellow at the Lewisville, Texas-based Institute for Policy Innovation. “If it ever does get approved as a compact among the states, there would be some short-term reduction in paperwork.”
“But it increases complexity by sending revenue to the place where the purchaser lives rather than the point of purchase,” he said. “It creates new winners and losers relative to prior law — economically developed places will lose, while less-developed places will gain. The use tax is based on the fiction that you’re taxing the use of property purchased out of state but used in the state. The Streamlined Sales Tax is a way that states think they’re going to get at mail order and the Internet.”
The states are actually asking Congress to expand their taxing power under the Constitution, according to the ITAA’s Cleland. “It’s unlikely that Congress will act on the issue this year,” he said. “A lot of people are suffering tax exhaustion as a result of international tax reform. That has everyone so absorbed that we probably won’t get to the state tax issue until next year, but I expect there will be a real debate.”
Meanwhile, the lines requesting reporting and payment of tax on items and services purchased from remote vendors represent a “give me” for auditors, according to Cleland. “I don’t think they would audit just on the basis of what you put in the box, but if you’re in the middle of an audit, it’s one more thing they can go after.”
Albaum agreed. “Part of what I do is protect my clients from audits, so I have to explain things to them and get them to understand and accept.”
