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Think Buying Online Is Tax-Free? Think Again

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The endless choices, the convenience of home delivery and the absence of sales tax draw many American shoppers online. But there's a wrinkle to that last benefit: Even if the site doesn't collect sales tax, those who live in the 45 states that charge sales tax are still liable for it.

It's called a use tax, and use-tax laws allow states to impose taxes on online and mail-order transactions from out-of-state retailers. A Supreme Court case in the early 1990s confirmed the longstanding requirement that in order for a state to collect sales tax from an out-of-state company, the company has to have a sufficient connection to justify the tax. In practice, that has meant Internet companies with distribution centers, corporate offices or other facilities within a certain state. But companies that only sell to residents without any additional activity aren't.

Because a state always has taxing power over its residents, use-tax laws are aimed at buyers. The use tax mirrors the sales tax rate, and it's designed only to take effect for items for which those purchasers didn't pay sales tax. Compared the infrastructure set up to collect taxes from businesses as they, well, do business, it's much harder to collect use taxes from people.

In addition, many people don't even know about use tax. According to a recent survey by Toluna QuickSurveys for TaxAudit.com, nearly half of Americans don't realize that they're responsible for use tax on online purchases, and three-quarters have no idea how to pay the tax. As a result, the survey found that 62 percent of Americans won't declare any use tax.

States Fight Back

The 45 states and the District of Columbia (which also has a sales tax) are fighting on several fronts:
  • They have lobbied hard for a federal law that would explicitly grant them the right to impose sales-tax collection responsibilities on out-of-state sellers. The Marketplace Fairness Act passed the Senate last year, but the House hasn't yet come up with its own version of the bill. Proponents argue that imposing sales tax levels the playing field level for brick-and-mortar and online retailers, while opponents say retailers would have to deal with thousands of combinations of state and local taxes.
  • They have negotiated with online retailers. Amazon (AMZN), for instance, has made agreements with 19 states to collect sales tax, with Indiana, Nevada, and Tennessee added to the list at the beginning of this year. Given the huge amount of business Amazon does, the moves could add more than $50 million to those three states' coffers. Yet even though Amazon supports a federal sales tax law, it has still fought sales taxes in certain states.
  • They have increased efforts to collect use tax. Some include use-tax items on state income tax returns, making filers state any untaxed purchases they made. Others provide safe-harbor use-tax amounts, letting taxpayers pay a fixed amount of use tax rather than having to record every untaxed purchase.
Given the pressure that state finances are in, shoppers should expect the battle for sales and use taxes to continue. Eventually, the tax-free status that many have believed online shopping gives them could well disappear for good.

You can follow Motley Fool contributor Dan Caplinger on Twitter @DanCaplinger or on Google Plus. He doesn't own shares of the stocks mentioned in this article. The Motley Fool recommends Amazon.com. The Motley Fool owns shares of Amazon.com.

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You're stating the law. Nobody wants to know the law. Ignorance is bliss.

March 07 2014 at 3:25 PM Report abuse +1 rate up rate down Reply
Brek Randolph

From the comments here people are not happy with the service they are getting from their gov. I am not surprised as it is now gov vs the people as opposed to gov for the people.

March 07 2014 at 1:08 PM Report abuse +1 rate up rate down Reply

How can a state justify a tax on something purchased from a retailer based somewhere else, made somewhere else, and shipped from somewhere else.

I recently bought a paid of fur mittens from a ranch in Montana, not because I wanted to save the sales tax, but because they weren't available anywhere in NYC. The shipping charge was as much as the sales tax would have been.

March 07 2014 at 11:12 AM Report abuse rate up rate down Reply

Yep, the states need more money in order to pay those high salaries and huge pensions........ that those in the private sector, do not get! To hell with the services that states are supposed to provide. It is all about high salaries and pensions!

March 07 2014 at 9:52 AM Report abuse rate up rate down Reply

Sales taxes my ass, these incompetent fat ass slackers in state government should all have to take paycuts and reduction in benefits, all they do is game the system double dip in retirement and all that crap they are over paid and waste to much of the tax payers money, people should revolt and refuse to give them anything untill they cut thier wages , and trim thier benefits to where they are in line with the rest of the working public, these fat ass slackers have forgotten who they work for !

March 07 2014 at 9:21 AM Report abuse +3 rate up rate down Reply

If I drove to an adjoining state and made a purchase, I would pay the tax to that state, at that state's rate. I would not have to pay tax on the item upon my return home. I believe tax should be charged on the sale in the state where it was made, it should make no difference rather you drove to pick it up or had it sent to you. If you want more tax base stop taxing business and business properties out of existence, and they won't keep finding ways to try and survive......

March 07 2014 at 9:12 AM Report abuse rate up rate down Reply

The states don't have the means to monitor sales at on line companies so when you pay an online company state sales tax they may or may not report it all to the state. More money in the online company's pocket. Brick and mortar love to use the sales tax break as an excuse for losing business but online company's or the consumer pay for shipping which evems out the playing field.

March 07 2014 at 8:59 AM Report abuse rate up rate down Reply
1 reply to Dtwoster's comment

guess you've never heard of the NSA huh?

March 07 2014 at 11:29 AM Report abuse rate up rate down Reply

I always cross the state line for larger purchases, the tax rate there is 1/3rd less.

March 07 2014 at 8:41 AM Report abuse +2 rate up rate down Reply

We could regulate, tax, spy, clamp, hammer, govern, smother, and suffocate the Internet to death.
But then, it would be like the rest of the economy.

March 07 2014 at 8:29 AM Report abuse +2 rate up rate down Reply

Who pays taxes for outsourcing or exporting jobs?

March 07 2014 at 7:05 AM Report abuse +5 rate up rate down Reply
1 reply to Iselin007's comment
Allen Cat

we do

March 07 2014 at 10:45 AM Report abuse rate up rate down Reply