Finance and Economics

A Taxing Situation

The United States Supreme Court, that bastion of jurisprudence which increasingly thinks constitutional issues are political footballs, has decided to give states permission to collect taxes from online retailers, a ruling that could be worth an estimated $450 billion.

Is taxing the e-commerce marketplace a good idea? This has been a thorn in retailing’s paw ever since Amazon sold its first book and there are good arguments on both sides of the issue.

The impetus for this perceived windfall was the Supreme Court’s recent five-to-four ruling by the late—retired not dead—justice Anthony Kennedy in the case of South Dakota vs. Wayfair. This decision overturned a 1992 decision in Quill Corp vs. North Dakota that allowed states to collect online taxes only from sellers that had a physical presence in the state. This resulted in states losing an estimated $33 billion in revenue.

A New Playing Field

On the surface, the High Court’s latest decision seems to level the playing fields between online and brick-and-mortar retailers who have been whining for years about freedom from taxes being unfair competition.

Meanwhile, states are salivating over this potential money grab or, to put it in a kinder, gentler way, a new revenue stream. Being a lifelong capitalist I’m not opposed to that in principle. But the states, most of which have proven themselves to have little or no financial acumen, are absolutely salivating over the possibility of billions of dollars in unrestricted assets for their coffers.

California, which was putting the squeeze on out-of-state online companies long before SCOTUS’ decision, stands to make hundreds of millions of dollars in additional tax revenue. Ironically, California, in a voluntary agreement, has been collecting taxes from Amazon since 2012. In fact, Amazon collects taxes in over 45 stores that contain their fulfillment centers. Has this really helped retailers?

A report released by Fitch Ratings noted that Tennessee, Louisiana, Arkansas, Oklahoma and Alabama are among the states that will benefit the most since they have an outsize reliance on sales taxes. And since the majority of large internet retailers already collect taxes, states might only benefit to the tune of $8-$13 billion instead of the much publicized $34 billion in state and local taxes. Still, a nice little windfall.

Diving Deeper

However, we need to take a deeper dive into this complex subject from its lofty judicial perch down to ground level in order to get a feel for the unintended consequences and what the true impact of the decision might be.

The Supreme Court’s decision is final—at least for the moment. But it is creating considerable angst in the marketplace for both buyers and sellers, as well as policymakers who are not yet sure how to implement it.

While proponents of the decision have long felt that forcing only brick- and-mortar companies to tax purchases was highly unfair and even anti-competitive—one of the buzzwords that makes Congress and politicians, especially those up for re-election—shoot up like Meercats.

However, now the opposite may be true. Forcing small online sellers, especially those on sites like Etsy and eBay, to collect taxes, could conceivably put them out of business. If that’s found to be the case, Congress might be inclined to spring into action.

Congressional Approvals

Even if the High Court’s ruling is not anti-competitive. Congressional approvals may be required to determine what the tax rates will be for online companies and if, in the end it should be different than those paid by stores with physical locations.

This comes at a time when Congress can barely agree on what to have for breakfast. And even if everyone agrees on what the tax rate should be, there are over 10,000 tax jurisdictions in the U.S., according to estimates, and they will want to have a say in how much taxes should be, how it should be implemented and, most important—what’s their cut?

The Tax Foundation, an independent tax policy nonprofit organization, has noted that jurisdictional issues can be extremely complex. For example, New Jersey has just two jurisdictions – statewide and areas bordering Delaware. Texas, which in the past has declined to adopt uniform tax definitions or other sales tax reforms, has over 1,500 different sales tax jurisdictions. So, who gets the money and how much?

Legislative Overkill

However, states were already collecting about 75 percent of all online sales taxes under previous legislation, according to figures from the General Accounting Office. So, the argument that only requiring brick and mortar to collect taxes is somewhat specious.

Take Wayfair, for example. The online seller already collects taxes on about 80 percent of its sales. This reflects its own expansion into distribution centers across the country to keep up with demand.
Amazon, which struck fear into all retailers, already collects taxes and could be the biggest beneficiary of the new ruling. In Amazon’s world, it’s the third-party sellers that will have to collect tax revenues. This could inadvertently help Amazon, according to an analysis by Loop Capital Markets, since Amazon will start selling these same products directly and they’ll get the full price of the transaction, not just a commission.

This will have an outsized impact on small online retailers who may not have the resources on their own to follow the tax laws in multiple jurisdictions. All of this could lead Congress to establish Federal standards. However, this kind of legislation could backfire, as Congress would raise taxes in an election year threatening their job security.

As such, Congress is the wild card and we’ll have to wait and see if they step in with one federal standard or leave it to the tender mercies of the states. States can’t impose their laws on other states and the voices of anti-competitiveness are rising as we speak.

However, Congress has already managed to dodge a bullet, according to a recent analysis by Cushman & Wakefield. As Garrick Brown, vice president and head of retail research, and Ben Conwell, senior managing director of ecommerce noted: “Congress has previously opposed legislative efforts to deal with the issue of internet sales tax collection. Most notably, the Main Street Fairness Act and the Marketplace Fairness Act, both of which were defeated multiple times. Many legislators feared being viewed as voting for a new tax on constituents.” Interestingly, Amazon supported both initiatives.

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Winner or Loser?

The question remains whether this will really level the playing field between online and brick-and-mortar retailers.

The online tax would be a win for some large chains like Target and Walmart since it would be more of a burden on smaller online competitors and possibly an impediment to growth.

But it’s not going to be a panacea for brick and mortar that some thought it would be. In reality, it’s more of a BBand-Aidthat wouldn’t do more than slow up the bleeding from online sales—maybe!
Consumers don’t buy online just to save on tax. It’s a nice feature, but convenience, service, speed and selection have always been prime factors in driving online sales. These same factors are the same ones that will keep internet companies from riding roughshod over physical retailing.

Meanwhile, Cushman & Wakefield’s Brown and Conwell noted in their analysis that the new tax is seen by some as a game changer that could have an impact on “showrooming,” which has been particularly noxious to brick-and mortar-retailers. But as they said, “physical retailers will see a slight, perhaps even minuscule, benefit on the sale of high-ticket items. Likewise, the ruling could have a substantial impact on the real estate strategies of some pureplay eCommerce retailers. But the timing is far too late to be a game changer and that is because the game itself has already changed.”

Some in the industry believe the new ruling could stem the tide of store closings we’ve seen over the past year. The thinking of some is that since consumers now have to pay tax online, they might go back to the stores they’ve abandoned. This is a theory to which I do not subscribe due to previously mentioned factors. Moreover, the industry is already overstored and any sales captured from online retailers would simply not warrant additional real estate.

Overall, the tax ruling is a double-edged sword and every retailer would be wise to put their tax attorney or accountant on speed dial in order not to be drawn into a political and legal quagmire.
In conclusion, let me offer these anonymous words of wisdom: “Be careful what you wish for—you may just get it.”

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