If you buy a bag of Oreos at the local Stop & Shop, you won’t pay Massachusetts’ 6.25 percent sales tax; grocery items are tax-exempt. But in an aggressive and rather zany effort to shrink a half-billion-dollar budget deficit, the Massachusetts Department of Revenue is getting ready to put a tax on cookies.
No, the state isn’t singling out Fig Newtons. It’s going after digital cookies — those little bits of data stored on your computer or phone when you make an online purchase. And the tax isn’t on the digital cookies themselves, but on the items you bought on the Internet. According to a directive issued by the revenue department, if an out-of-state retailer puts a cookie on your computer, it must collect sales tax on your purchase. More on the state’s reasoning later.
The directive, which applies to online retailers with sales above $500,000, was supposed to take effect July 1. But it’s on hold, probably forever.
NetChoice, an organization representing online companies including eBay, PayPal, and Google, has sued in Suffolk Superior Court, and I don’t see how they can lose. The directive slams head-on into a federal law that limits the abilities of states to impose taxes on out-of-state Internet activities.
And yet, the state’s tax collectors have my sympathies. Internet retailing continues to surge, while brick-and-mortar chains like Sears, JC Penney, and Macy’s stumble and fade. According to the US Census Bureau, Americans spent nearly $395 billion online in 2016. That’s a sliver of the $4.8 trillion in total retail sales. But while overall retail revenues grew by 3 percent last year, online revenues jumped by nearly 16 percent.
As shopping moves online, a growing share of our purchases go untaxed. That sounds fine, unless you like having good schools and safe streets. These must be paid for somehow, and tax-free online shopping makes it harder to come up with the money. According to a recent study from the National Conference of State Legislatures, laws to enable collection of online sales taxes would have generated $17.2 billion in additional revenues for state and local governments in 2015.
The tax collections became an issue decades ago with companies that sold through printed mail-order catalogs. In 1992, the state of North Dakota demanded that the office supply retailer Quill Corp. collect taxes on items sold to state residents through its catalogs. But the US Supreme Court said that because Quill had no physical presence in the state, such as a store or warehouse, it wasn’t subject to North Dakota taxes.
Internet retailers relied on the same precedent. Tax-free sales provided a major boost to Amazon.com in its early days. But now that the company operates warehouses and retail stores in most states, it’s begun collecting sales taxes in the 45 states that have them, and in the District of Columbia. But many other online retailers do not charge customers in other states. Also, a large portion of Amazon sales come from independent sellers who use Amazon as an online storefront. These sellers often do not charge out-of-state sales taxes.
The Massachusetts directive argues that by installing a retailer’s software app on your computer or phone the company has effectively set up shop inside Massachusetts and can be forced to collect state taxes here. If that seems far-fetched, just wait — it gets better. The state claims that the company moves into the neighborhood by merely placing a digital cookie on your hard drive.
In effect, a line or two of code that the computer user can delete from his machine at any time is to be treated the same as a rented storefront in a strip mall. By that standard, Massachusetts could tax any online store in the country if it put its Internet address on billboards along the Mass. Pike.
Even if courts accept this interpretation, Massachusetts must still get past the federal Internet Tax Freedom Act, which requires that any change to state sales tax laws must treat online and offline retailers the same. Christopher Cox, the former California congressman who was primary author of the federal law, says the Massachusetts directive violates it because it lets old-school catalog retailers keep selling tax-free and cracks down only on Internet stores. That won’t play well in court.
“The Department of Revenue believes that the Directive has a firm legal and regulatory basis,” said an e-mailed statement from the department, adding that “challenges are not unexpected.”
That’s putting it mildly.
Massachusetts isn’t the only state that’s going after online revenues. South Dakota, Alabama, and Tennessee have passed laws aimed at cashing in. But like the Massachusetts directive, these laws are snarled in court challenges.
The whole shebang will probably end up before the US Supreme Court. Justice Anthony Kennedy has taken potshots at the old Quill ruling and would probably join in an opinion to modify it. But there’s also action pending in Congress, with several proposed bills that would let states force online retailers to come through with more cash.
Everybody agrees that the Internet’s long sales tax holiday has got to end. But the Massachusetts cookie tax is a pretty kooky way to get it done.Hiawatha Bray can be reached at email@example.com. Follow him on Twitter @GlobeTechLab.