Online Sales Tax That Undergirds Washington Budget Likely To Be Challenged

Jul 5, 2017

Online shoppers in Washington state may soon have to pay sales tax on out-of-state e-commerce purchases. Gov. Jay Inslee on Friday is expected to sign a package of tax increases just approved by the state legislature to balance the next two-year budget.

But the internet sales tax seems likely to be challenged in court.

Washington state levies a 6.5 percent sales tax and local jurisdictions typically add several percent more up to a maximum of 3.9 percent extra depending on location. Currently, Washington shoppers who buy something from home state e-commerce giant Amazon or at the local hardware store pay sales tax. But if they buy the same item from an out-of-state merchant—on eBay, for example—they pay no sales tax.

According to Democratic state Rep. Kristine Lytton, part of a bipartisan majority that voted to apply the state sales tax more broadly online, it's not "a level playing field.”

"For me, this is a matter of fairness," said Lytton, the state House Finance Committee Chair.

A preliminary estimate from the Washington state Department of Revenue predicted that the online sales tax expansion would net an additional $1 billion over the next four years.  


But can the state really count on that? The director of NetChoice, a trade association for Internet companies, said his team is actively developing legal arguments and lining up funding to challenge the tax expansion.

NetChoice has battled state tax collectors for more than a decade. 


"We have an excellent track record of challenging laws," NetChoice Executive Director Steve DelBianco said in an interview Wednesday.  


The American Catalog Mailers Association also has filed suit against other states that have tried to force out-of-state businesses to collect sales tax on residents' purchases. The president of that group did not immediately reply to a request for comment on the potential for litigation against Washington state. 


DelBianco argued the imposition of the internet sales tax would place "an undue burden on interstate commerce" and could “boomerang” back on home state e-commerce businesses if it inspires other states to tax their cross-border sales. 


"I expect it will be challenged in court. I am concerned whether it will be held up in court," Republican state Rep. Ed Orcutt said during floor debate. "I am concerned about the hole that there might be in the budget as a result." 


The expansion of internet sales taxation is scheduled to take effect on January 1, 2018. 
 Until now, Washington was prevented from collecting remote sales tax by a 1992 U.S. Supreme Court decision, Quill v. North Dakota, which said a state cannot require businesses to collect sales taxes unless the business has a presence in that state.

As it now stands, retailers—brick-and-mortar or online—who have a physical presence in Washington have to collect sales tax from customers. Out-of-state merchants with no "nexus" in Washington don't have to. The onus is on the Washington customers to calculate and remit what is then called use tax instead of sales tax to the state Department of Revenue when they purchase untaxed goods, but virtually no Washingtonians bother to do that.  


Washington legislators modeled their online state tax legislation on a law that just took effect in Colorado this past weekend after about six years of legal wrangling. The 10th U.S. Circuit Court of Appeals last year ruled Colorado's approach was legal and the U.S. Supreme Court subsequently declined to review the case. 


Like Colorado, Washington lawmakers proposed to give retailers and online marketplaces who do not collect the sales tax several options. 


"You can either collect the sales tax or you can submit a use tax report and the Department of Revenue will collect that revenue for us," Lytton said.


That second option entails the e-commerce business providing the state with a list of the names, addresses and purchase amounts of its Washington customers so the tax collector can bill them. 


Legislative staff estimated that Washington state and its local governments would miss out on $353 million in sales taxes in the upcoming fiscal year from remote sales that currently go untaxed. 


For many years, states feeling pain from sales tax erosion sought to convince the U.S. Congress to create an avenue for states to collect sales tax on cross-border e-commerce. In the absence of Congressional momentum to do that, at least 29 state legislatures considered measures this year to require out-of-state sellers to remit sales tax or report sales information about customers to the relevant state revenue department.