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Document 47 of 142.

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May 16, 2000, Tuesday

SECTION: PREPARED TESTIMONY

LENGTH: 2537 words

HEADLINE: PREPARED TESTIMONY OF MARK E. NEBERGALL PRESIDENT SOFTWARE FINANCE AND TAX EXECUTIVES COUNCIL

BEFORE THE HOUSE COMMITTEE ON WAYS AND MEANS SUBCOMMITTEE ON OVERSIGHT

SUBJECT - THE REPORT OF THE ADVISORY COMMISSION ON ELECTRONIC COMMERCE

BODY:
Good afternoon Mr. Chairman and members of the Subcommittee. My name is Mark Nebergall and I am the President of the Software Finance and Tax Executives Council. My members and I thank you for the opportunity to testify on the report to Congress of the Advisory Commission on Electronic Commerce.

SoFTEC is an organization comprised of the major software companies of the United States and its mission is to provide software industry focused public policy advocacy on tax and finance issues. Taxation of electronic commerce is an issue in which software companies have long held a keen interest. We make the software that enables the Internet to operate efficiently and also use it a low-cost mechanism to distribute software to customers worldwide.

SoFTEC advocates policies that promote fair and efficient interstate and international taxation of goods and services contracted for and delivered using the Internet. The cornerstone of these policies is neutrality of tax treatment. Because the work of the Advisory Commission on Electronic Commerce (ACEC) touched on these issues, we followed its work very closely. Given the Commission's uncertain start, we initially held out little hope that it would ever reach agreement on the important issues. We were surprised when a coalition of business and government commissioners formed and came to agreement on a comprehensive set of proposals. While these proposals did not receive a supermajority of the Commissioners as required by the enabling legislation and therefore did not rise to the level of a formal recommendation, in our view, the Commission made strides in articulating reasonable proposals for interstate and international taxation of electronic commerce.

SoFTEC applauds the House of Representatives for passing HR 3709 by an overwhelming margin. This legislation would extend the moratorium of the Internet Tax Freedom Act for an additional 5 years and would completely eliminate state taxes on Internet access charges, both of which were included in the ACEC's majority report. However, as we explain below, the Congress has much work ahead of it in terms of tackling simplification and taxable presence issues. My testimony this afternoon will focus on these other elements of the majority report of the ACEC.

SoFTEC's Overarching Policy Position:

As noted above, SoFTEC advocates policies that promote fair and efficient interstate and international taxation of goods and services contracted for and delivered using the Internet. The cornerstone of these policies is neutrality of tax treatment. Before discussing the proposals contained in the ACEC's report, we thought it important to provide some explanation of what we mean by neutrality of tax treatment.

SoFTEC members firmly believe that similar transactions ought to be taxed similarly and that the method of distribution of a product should have no impact on its tax treatment. Today, many products are marketed with catalogs where orders are taken either by phone, telefax or the mail. Such vendors typically have only one physical location and their products are shipped to customers all over the world. The Commerce Clause of the United States Constitution generally insulates these direct marketers from any obligation to collect transaction taxes from their customers and remit those taxes to another state where the customer resides. SoFTEC's members believe that there should be no difference of tax treatment merely because an order for a product was placed using the Internet instead of the telephone or the mail.

Because of the multitude of state sales and use tax systems, the Supreme Court ruled that forcing an out-of- state mail order vendor with no physical presence in a state to collect and remit taxes would impose an impermissible burden on interstate commerce in violation of the Commerce Claus. Indeed, large firms with physical presence in many states find it quite expensive to meet their multistate tax collection and remittance obligations. The costs of these multistate tax obligations would put the marketing of products from a single location to customers in many states out of reach of small and medium sized vendors.

SoFTEC also advocates neutrality of tax administrative burden. Small Main Street vendors selling products over the counter typically are required to collect sales taxes from their customers on a single tax rate. Further such vendors have but one set of tax rules to learn and abide imposed by a single tax authority. SoFTEC believes that if this burden borne by the small Main Street vendor could be replicated for the multistate vendor, then the constitutional infirmities to imposing a collection and remittance obligation would be reduced. Of course, the only way to achieve neutrality of administrative burden is through simplification and unification of the state sales and use tax systems of the several states.

The problem of complexity of the state sales and use tax is not new. Since at least the 1960's, states have been on notice that their system of sales and use taxation of interstate commerce was too complex and burdensome. The Willis Commission report and the Supreme Court's decision in National Bellas Hess provided adequate notice that reform was in order. The message was reiterated in 1992 with the Supreme Court's decision in Quill v. North Dakota. Despite the passage of time and the adequacy of the notice, the States have made no movement towards simplification and unification of their sales and use tax systems. It is only with the advent of the Internet as a medium of commerce and the potential for revenue loss that has galvanized the states into considering simplification.

SoFTEC supports Congressional intervention in the area of simplification and unification of state sales and use taxes. We believe that it is within Congress' role to create an environment in which a workable simplification plan can be developed and implemented. We also believe that any such effort should include participation by both taxpayers and tax collectors. We are suspicious of any process that seeks to develop a simplified and uniform sales and use tax system that excludes taxpayer input.

I now turn to the elements of the ACEC's majority report that touch upon the issues of tax simplification.

Tax Simplification

A. NCCUSL The majority's report (pp. 19-20) proposes a process for developing a simple and uniform sales and use tax system. Specifically, the report suggest that Congress recommend that the National Conference of Commissioners on Uniform State Laws (NCCUSL) undertake the task of drafting a uniform sales and use tax act. We believe that this proposal has merit and should be explored further.

NCCUSL is an organization, more than 100 years old, comprised of state appointed commissioners who come together to craft uniform and model state legislation. The commissioners themselves are lawyers in private practice, judges, state legislators, and academics.

Each state has appointed several commissioners and there are roughly 300 of them. Their most well-known and widely adopted uniform act is the Uniform Commercial Code (UCC), parts of which have been adopted in almost every state.

NCCUSL's practice is to appoint a drafting committee to develop a proposed uniform or model act. The meetings of the drafting committees are open to the public and their participation in the drafting process is encouraged. Once the drafting committee has completed its work (usually after several meetings over an 18-24 month period), the full commission considers the draft and if accepted, it is released to the state legislatures for their consideration and passage. Frequently, the full commission sends a draft back to the drafting committee for more work. NCCUSL will not approve an act and release it to the states unless it believes that the act has the support of all of the effected parties.

SoFTEC endorses the ACEC's majority recommendation that NCCUSL's process be used to develop a simplified and uniform sales and use tax act. Their process ensures the participation of all interested parties and it leaves ultimate decision making regarding the details to the NCCUSL drafters. Our belief is that the insertion of a neutral third- party between the various business and government groups would facilitate the drafting process.

B. A Second Advisory Commission

The ACEC majority recommendation also suggests the appointment of another federal advisory commission to oversee the NCCUSL drafting process and to assess whether NCCUSL's final product meets the goals set by Congress. We do not believe another federal advisory commission on this subject is necessary. NCCUSL has long established and transparent procedures for drafting uniform and model legislation and we do not believe oversight by a federal advisory commission is necessary or desirable. In addition, because NCCUSL is not likely to release any uniform sales and use tax act unless it believes it has the support of both business and government, an assessment by a federal advisory commission of whether the Congressionally mandated goals have been achieved is not necessary.

The proposed federal advisory commission also is to render an assessment whether NCCUSL's uniform sales and use tax act is simple enough that states that adopt it should be permitted to enforce tax collection and remittance obligations against out-of-state sellers. We do not believe it appropriate for an advisory commission to be making such an assessment prior to enactment by states of such a system and before taxpayers and tax collectors have some experience operating under such a system. At the end of the day, it is for Congress or the courts to decide when the collection and remittance burden on out of state vendors is no longer so heavy as to be constitutionally infirm.

SoFTEC does not support the creation of a federal advisory commission to oversee the development of a simplified and uniform state sales and use tax act.

C. Digital Products

The majority recommendation of the ACEC's report suggests that Congress prohibit, for a period of five years, on the imposition of state sales and use taxes on digital goods and their non-digital equivalents. This would bar states from imposing a sales or use tax on transactions in digital products (such as software, music, video, data, books) both interstate and intrastate. It also would bar states from imposing a sales or use tax on nondigital equivalents of digital products. This would mean that states could not require local bookstores, record stores, or computer stores from collecting sales taxes from their customers on sales of these products. The recommendation to exempt digital products from the sales and use tax is based on a recognition that enforcement is difficult. It would be very easy to locate digital product delivery servers beyond the reach of the taxing authorities. The recommendation to exempt nondigital equivalent products from sales taxes was based on an attempt to achieve neutrality of tax treatment with the digital versions.

SoFTEC does not support the exemption for digital products and their nondigital equivalents. We know of no tax policy that favors exempting such products. An exemption for these types of products violates SoFTEC's bedrock principle that equivalent transactions should be treated similarly. The fact that digital products can be delivered using the Internet, in our mind, is not justification for an exemption.

TAXABLE PRESENCE

The ACEC's majority report recommends that the rules for determining when a company has a taxable presence in another state be clarified for both business activity tax purposes and for purposes of imposing a sales or use tax collection and remittance obligations. SoFTEC supports these recommendations.

Today, businesses face tremendous uncertainty as to when their activities within a state might trigger tax obligations. The physical presence standard set by the Quill case is imprecise. State tax administrators are increasingly creative in their claims that business activities give rise to physical presence. In the sales and use tax context, it must be remembered that the customer is the taxpayer and the vendor merely the collection agent for the state. If the vendor has a collection obligation but nevertheless fails to collect the tax from the customer, the vendor becomes liable for the tax. The vendor will have little recourse by way of recovering the tax from the customer after the transaction has been completed. When a state makes a claim against a business based on some new theory of physical presence, the business must decide whether to litigate the claim or settle. Many times, the amount involved does not justify the costs of litigation. Thus, the validity of the state's legal theory avoids a test in court.

The same is true with regard to business activity taxes, which include taxes on gross or net income or franchise taxes. A state may make a claim that an out of state vendor has a taxable presence and should file an income tax return and allocate a portion of its income to that state. Software companies frequently receive claims that because they license their products to customers in their state, they have a taxable presence and should file income tax returns and pay income taxes. We have even seen states claim that because a software company provided its customers with telephone support, and because some customers were in the state and could reach the telephone support center in another state, the company had a sufficient presence to trigger an income tax return filing obligation. If the ability of in- state customers to reach an out-of-state vendor by telephone is sufficient to give rise to a tax return filing and tax payment obligation, then every business would have a taxable presence in every state.

The states vigorously oppose any clarification of the standards for determining when a business has a taxable presence. They claim improper infringement of states rights.However, the Constitution gives the Congress plenary power in this area. indeed, Congress exercised that power in the area of income taxation of multistate business when it enacted P.L. 86-272 in 1959. Given the states' continued abuse of their taxing power by making frivolous claims against nonresident taxpayers, we believe it appropriate for the Congress to intervene and set bright line standards. The factors set forth in the ACEC's report are, we believe, appropriate for consideration.

CONCLUSION

The ACEC and its staff worked very hard in trying to reach a consensus on the details of a coherent plan for taxation of remote sales. While they did not reach a consensus within the meaning of the internet Tax Freedom Act, the Commissioners nevertheless moved the ball forward with regard to many of the items set forth in the majority's report. We are hopeful the Congress will roll up its sleeves and complete the work the ACEC only started.

Mr. Chairman, this concludes my remarks and I stand ready to answer any questions you or the other members of the subcommittee might ask. Thank you again for the opportunity to testify this afternoon.

END

LOAD-DATE: May 18, 2000

Document 47 of 142.


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