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Brooks Wilson's Economics Blog: California Tries to Tax Out-of-State Internet Merchants

Thursday, June 30, 2011

California Tries to Tax Out-of-State Internet Merchants

(HT Drudge Report) By a 1992 Supreme Court decision, Internet merchants do not have to collect sales taxes in states if they do not have a physical presence in that state.  Legally, consumers are still required to pay the tax but collection is problematic.  The California legislature passed and Governor Brown signed a bill that attempts to circumvent the decision by taxing out-of-state merchants through affiliates that have a physical presence in California.  Most affiliates are related to out-of-state merchants through click through advertising.  Internet merchants located outside of California hate the legislation and instate merchants love it.

I will not offer an opinion about the merit of the legislation.  I do wish to comment on the difficulty of taxing highly mobile businesses and households.  Amazon and announced that they were immediately cutting ties to all California affiliates.  California expected to collect $200 million annually.  With the largest Internet marketer pulling out, that total will be smaller. 

The affiliates are also responding.  There are 25,000 affiliates in California and they pay $152 million in state income taxes last year.  Many have already announced that they will leave California and the state will lose their tax revenues.  Consumers will pay a higher price because at least part of the tax will be passed on to them.  There is a difference between the incidence of the tax, who writes the check to the government, and the burden of the tax.  Economic literature suggests that consumers will pay part of the burden through higher prices as part or all of the tax is passed on to consumers. 

Instate merchants view the tax as a fairness issue because they believe that they pay the sales tax that out-of-state merchants avoid but there is now question that they will gain sales as the price of products on out-of-state Internet merchants rise relative to their prices.

States that place high taxes on high income households or corporation will see these entities exit for states with lower taxes.  Countries that place high taxes on high income households or corporations will see these entities exit for countries with lower taxes.  Low income households and small corporations have less ability to “vote with their feet.”  Many complain that this phenomenon will create a raise to the bottom in which government will be deprived of necessary resources.  Certainly pressure will increase to make government smaller, but it will also increase to make government more efficient and that is good.

For more information information see, “California tells online retailers to start collecting sales taxes from customers,” “New Internet Tax Grab Will Burden Companies and Your Portfolio,” “Web retailers say they'll fight new California sales tax,” and “Sales Tax on the Internet.”


  1. Morgan Heeke7/7/11 12:42 AM

    Condsidering California is on the verge of bankruptcy, I believe this is a good attempt by the government. There is so much pressure on this state so they feel like they must take action. I feel, however, they will fail with this attempt. The minute a government starts to tax what has been so easily available to a group of people, they will reduce the use. Online shoppers of California I'm sure will limit their out of state purchased from now on. Amazon is smart to pull out of California, but with such a large amount of internet purchases being from Amazon, California will never see $200 million from this act. As an online shopper, I would be very discouraged to know that on top of shipping, I will now be paying an even higher tax amount.

  2. Fernando Zambrano1/9/11 10:50 PM

    This is a desperate attempt on California's part to try and get out of the deep hole they are in. Unfortunately, it does not seem like it will nearly as big a success if any. As out of state online customers begin to see the effect of this tax, they will most likely lose interest in purchasing anything from there that they can buy in their state or another without such a tax. This will also cause out of state merchants to lose interest in attempting to sell there because their prices will have to increase to deal with the tax leaving in state merchants' prices lower and harder to compete with. With affiliates of the state considering leaving and the biggest online marketer fighting against the tax, it will be interesting to see how long this tax will stay and how short California falls from its 200 million dollars anually goal.