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Search Terms: internet W/10 sales W/10 tax, House or Senate or Joint

Document 52 of 142.

May 16, 2000, Tuesday

SECTION: PREPARED TESTIMONY

LENGTH: 2688 words

HEADLINE: PREPARED TESTIMONY OF JOHN R. LOGALBO VICE PRESIDENT, PUBLIC POLICY PSINET INC.

BEFORE THE HOUSE COMMITTEE ON WAYS AND MEANS SUBCOMMITTEE ON OVERSIGHT

SUBJECT - INTERNET TAX ISSUES

BODY:
Mr. Chairman, Mr. Ranking Member, members of the Subcommittee, thank you for the opportunity to appear before you this afternoon. I am John LoGalbo, Vice President of Public Policy for PSINet. More than 10 years ago - before the Internet became a household word, long before the proliferation of"dot.com" companies, certainly before anyone conceived of billions of dollars of commercial activity riding on a stream of electrons -PSINet's chairman and founder, Bill Schrader, had a vision of the future of telecommunications. That vision was founded on the realization that every kind of communication - voice, text, pictures, sound, video - can be "digitized," broken up into electronic pulses, carried anywhere in the world over diverse paths, and reassembled into its original form at the destination. The key was the ability to carry data over a new kind of robust, inexpensive network that crossed all proprietary boundaries - without regard to operating systems, network protocols, or physical communications media. Bill Schrader formed PSINet as the first company to attempt to transform that vision into a commercial reality, on a global scale, and he has succeeded beyond anyone's wildest expectations (except perhaps his own). Today PSINet is an Internet Super Carrier, having built a global e- commerce infrastructure over our own optical fiber, satellite, Web hosting, and switching facilities. We serve more than two million users in 800 metropolitan areas in 27 countries on five continents, offering a full suite of retail and wholesale Internet services through wholly-owned PSINet subsidiaries.

At the heart of all PSINet services is our advanced Internet Protocol ("IP") network. Connected to over 900 points-of-presence ("POPs") worldwide, and designed for nearly unlimited growth, the PSINet network is one of the primary backbones that comprise the Internet.

We are building our e-commerce Web hosting centers, designed to support critical Internet applications in secure, managed environments, in key financial and business centers around the world. Our eight hosting centers (in New York City, northern Virginia, Los Angeles, Tokyo, Toronto, Geneva, London, and Amsterdam) are ideal for e-commerce applications. By the end of 2000, our plans call for 24 centers with two million square feet of revenue-producing space to be completed or under development. At present PSINet hosts many of the most highly visible and complex Web sites in the world.

With the acquisition of Transaction Network Services in 1999, PSINet is now at the forefront of the high-growth, high-margin world of electronic commerce. As purchases and transactions migrate to the web, companies need to be able to tap into a network that can process them efficiently and safely. TNS is the leading worldwide provider of ecommerce data communications solutions, handling more than 19 million transactions daily from two million businesses.Finally, as an Internet Super Carrier, PSINet provides the ideal infrastructure to support other companies offering Internet services. We are, in effect, the Internet Service Providers' ISP, supporting a full spectrum of dial-up and dedicated access services, security solutions, Web hosting, e-mall and fax applications that can be privately labeled and sold to end- users by ISPs, telecommunications carriers, or any group with a large customer or membership base. As part of PSINet's partnership with the NFL's Baltimore Ravens - which includes naming rights for PSINet Stadium at Camden Yards - we created the first affinity ISP in professional sports history.

The report of the Advisory Commission on Electronic Commerce, submitted to the Congress in April, makes significant recommendations with respect to ISPs. The Subcommittee has asked that we address those that relate to Internet access, and that would specifically impact ISPs.

The Advisory Commission, by a vote of 11 Yeas to 1 Nay, with 7 Abstentions, proposed to make permanent the current moratorium on any transaction taxes on the sale of Internet access, including taxes that were grandfathered under the Internet Tax Freedom Act. We strongly support this majority proposal of the Advisory Commission and we look forward to a permanent ban on Internet access taxes. At this point, we express our appreciation to the House of Representatives for the vote taken last Wednesday to extend the moratorium on Internet access taxes for a five-year period. In addition, we thank the House for its foresight in rescinding the grandfather clause for the nine states who currently impose taxes on Internet access. The margin of approval in the House - 352 to 75 - is very heartening to those of us in the Internet and telecom sector.

PSINet believes that a permanent ban on Internet access taxes is a substantial, but only preliminary, step toward the type of radical simplification and reform of traditional tax systems that must take place if those systems are to continue to function in the coming decades without suppressing the technological dynamism that powers the American economy.

When we refer to Internet access, generally we think of consumer- oriented, modem-based, "narrowband" dial-up access from a home PC, for prices ranging from $9.95 to $29.95 per month, sometimes at a flat rate and sometimes with an additional premium for hours of usage above a certain level.

My goal, however, is to illustrate for the Committee the type of Internet access that PSINet has always focused on - the provision of more complex, dedicated, highbandwidth access to businesses, often accompanied by additional value-added services. The issues we confront when dealing with the tax systems of states and localities in that context are similar to that of other backbone providers and business- oriented ISPs. It is very difficult to separate taxes on Internet access from the plethora of other taxes to which we are subject, particularly as we utilize our IP-optimized network to take on some of the functions of traditional telecommunications companies.

Let me use as an example one of PSINet's core service offerings to business customers our "virtual private network" (VPN) solutions, known as PSINet IntraNet*. In the past, businesses seeking to tie together the private data networks of geographically dispersed offices have had to rely on traditional wide-area networking, requiring them to lease expensive, dedicated telephone circuits running between each remote office location. Building on our extensive backbone network, PSINet can offer secure and reliable data connections between remote offices at a fraction of the cost of traditional dedicated networks. Customers need only purchase circuit connections between each office and the nearest PSINet POP (instead of circuits spanning thousands of miles between the offices themselves). We carry the customer's data traffic between remote offices over our own backbone network, but we isolate it from traffic on the public Internet by means of frame relay technology or, for more advanced services, by encryption.

Typically, a customer seeking a VPN solution is also concerned about network security, since the data traffic between headquarters and satellite offices may include highly sensitive confidential and proprietary business information. If the customer's objective is to extend its exchange of data with its business suppliers or customers over a VPN (known as an "extranet"), the security concerns may be even greater.

PSINet offers additional services - beyond the basic "connectivity" solution - to address these issues, by means of firewalls, packet filtering, encryption technologies, and other value-added security services. Many of these solutions include hardware, software, on-site and remote service and maintenance components, in addition to connectivity.

Let's examine the tax implications of this fairly straightforward package of services. Since the moratorium was enacted, nine states continue to tax Internet access (Connecticut, Hawaii, Ohio for commercial customers, New Mexico, North Dakota, South Dakota, Tennessee, Texas, and Wisconsin). The District of Columbia, Iowa, and South Carolina have - wisely, in our view - repealed their Internet access taxes after the moratorium went into effect. Which of the services offered in this VPN package fall under the definition of "Internet access" in the Internet Tax Freedom Act? Perhaps because the answer is unclear, several states now impose tax on some or all "enhanced" Internet services, including not only network security but also Web hosting, Website design, application service provider ("ASP") offerings, and others.

The industry is also finding that there can be dramatic state and local tax implications depending on how basic ISP access services are "bundled" together with other valueadded services. Specifically, a service may be exempt if invoiced to the customer on a stand-alone basis but taxable if bundled with other services. Many business customers are moving away from simple dial-up access to higher- bandwidth connections using dedicated circuits, digital subscriber lines ("DSL"), cable modems, and other means - and ISPs, naturally, are providing those connections as part of a package. Where there is a separate charge for connectivity, most states are likely to tax it (since "telecommunications" are expressly excluded from the definition of "Internet access" under the Internet Tax Freedom Act). Where connectivity is bundled with Internet access into a single charge, states may attempt to tax the entire charge, including the otherwise exempt access fees.

Not only are connectivity charges subject to telecommunications taxes, but installation charges, disconnect fees, and associated charges face varying tax treatment among the states and localities. These traditional telecom categories introduce extraordinary levels of complexity and expense, with over 300 types of taxes and fees potentially applicable, at combined rates that reach and (in some cases) exceed 20%.

The interaction of multiple taxes adds insult to injury. Frequently taxes build on one another, where the base for calculation of one tax may include other taxes applied to that service - thereby assessing a "tax on tax." Federal and state excise taxes, for example, could be built into the base for computation of a state sales tax.

Similarly, there are too frequent instances of pyramiding of tax - payment of tax at both the wholesale and retail levels - which increase bottom-line service costs to the customer. For instance, while 13 states allow telecommunications companies a sales tax exemption on equipment used to deliver their services, only New York and, to a very limited extent, Virginia do so for Internet Service Providers. ISPs generally cannot avail themselves of resale exemptions with respect to the telecom connectivity services provided as a necessary part of the offer of Internet access. One concrete example is Connecticut, where regulations flatly deny a resale exemption even where a dedicated circuit is resold directly to the customer. As such, an ISP may pay tax on the lease of a circuit from the customer to its POP, then be forced to bill its customer for the tax again when it passes through the circuit cost.

Finally, which jurisdictions are entitled to impose their specific array of taxes on which portions of the entire package of services (the VPN and security services, in our example)? By definition, a virtual private network spans several locations, usually with the headquarters or "hub" in one state and the satellite or remote offices in others. Tangible products (such as routers) may be shipped to specified locations and taxed there, but the services (such as connectivity, remote monitoring, and network design) may span a variety of jurisdictions - each with its own tax rates, its own definitions and rules for determining the amount of the overall transaction applicable to its jurisdiction, and its own exemption requirements - many of which may be contradictory or inconsistent with those of other jurisdictions.

A recent report noted that a full service telecommunications provider operating nationwide would be required to file 55,748 tax returns a year, with total effective tax rates exceeding 20% in ten states (with Texas topping the list at 28.56%)./1

It is difficult to overstate the burden these complexities place on ISPs as the tax collection agents for these overlapping tax systems - not to mention their customers, as they attempt to sort out the taxes included in their bills. As another tax expert observed in a recent authoritative study:

(C)ompared to other advanced industrialized nations, the sales tax in the United States is complicated by the large number of state, county, and local jurisdictions that impose sales and use taxes. Currently, 45 states and the District of Columbia impose sales or use taxes at the state level .... In addition to the states, approximately 7,500 counties, cities, towns, transportation districts, and other special local jurisdictions impose sales or use taxes on transactions occurring within their borders.

...By contrast, in the European Union, there are only 15 countries and generally only 15 different national value-added tax rates. There are no local or county value-added tax rules or rates to be complied with./2

A fair assessment of the value of Internet access taxes should therefore take into consideration the negative effects that saddling U.S. companies with these administrative costs may inflict on their competitiveness in the global economy.

Besides going a short distance to reduce the burdens and costs of collection on ISPs, a permanent moratorium on Internet access taxes would have an immediate positive impact by reducing the costs of Internet access for both consumers and businesses. Reducing access costs is a quick and obvious way to boost American competitiveness and to lower the "Digital Divide" that threatens to exclude from the information economy those citizens with fewer resources to spend on computers and Internet connectivity.

Making the moratorium permanent and applying it to Internet access taxes previously excluded by the grandfather clause would not threaten state and local revenues in any significant way. States could radically simplify and decrease the telecom taxes that are now imposed on the channels by which Internet access is delivered to their citizens telephone lines, wireless transmissions, and cable television and satellite communications - and still maintain substantial revenue from these sources. Income taxes, both corporate and individual, from income generated by the growth of electronic commerce would be unaffected. Sales and use taxes on most in-state purchases would continue to be collected. Revenue losses from abolishing Internet access taxes and decreasing other telecom taxes would therefore be minimal.

There is much more to the Advisory Commission's report, of course, than the recommendation that all Internet access taxes be subject to a permanent moratorium. PSINet supports both the Formal Findings and Recommendations of the Commission and the policy proposals adopted by the majority of the Commissioners.

Significantly, the Commission's report observed that it is early to predict the trends and outcomes of many aspects of e-commerce as it continues its development, and that empirical assessments of these trends are just beginning to be made.

We are grateful to the Chairman and this Subcommittee for their leadership in holding these hearings, and for extending this opportunity to PSINet to present its perspective. We hope you will continue to look to PSINet to work with you on the issues arising from tax policies, electronic commerce, and the Internet.

We look forward to answering any questions you may have.

FOOTNOTES:

1 Committee on State Taxation's Fifty State Study and Report on Telecommunications Taxation, p. 5 (September 7, 1999).

2 Karl Freiden, Cybertaxation: The Taxation of E-Commerce (Chicago: Arthur Andersen LLP, 2000), p. 82.

END

LOAD-DATE: May 18, 2000

Document 52 of 142.


Search Terms: internet W/10 sales W/10 tax, House or Senate or Joint
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