Internet Taxation: Issues and Legislation

Internet Taxation: Issues and Legislation

Order Code RL33261
Internet Taxation: Issues and Legislation
Updated July 7, 2008
Steven Maguire
Specialist in Public Finance
Government and Finance Division
Nonna A. Noto
Specialist in Public Finance
Government and Finance Division

Internet Taxation: Issues and Legislation
Summary
Congress is involved in issues of state and local taxation of Internet transactions
because commerce conducted by parties in different states over the Internet falls
under the Commerce Clause of the Constitution. Currently, the “Internet Tax
Moratorium” prohibits (1) new taxes on Internet access services and (2) multiple or
discriminatory taxes on Internet commerce. The moratorium was created by the
Internet Tax Freedom Act (ITFA) of 1998 (112 Stat. 2681) and has been extended
twice. The original moratorium expired on October 21, 2001. Congress extended
the moratorium through November 1, 2003, with the Internet Tax Nondiscrimination
Act, P.L. 107-75. The moratorium was extended for an additional four years, through
November 1, 2007, by the Internet Tax Nondiscrimination Act, P.L. 108-435. On
October 31, 2007, P.L. 110-108, the Internet Tax Freedom Act Amendments Act of
2007 was passed extending the moratorium through November 1, 2014. Generally,
taxes on Internet access that have continued in place since before October 1, 1998,
are protected by a grandfather clause.
An issue previously raised in connection with the Internet tax moratorium
concerned states streamlining their sales taxes in order to gain remote tax collection
authority. In the 110th Congress, S. 34 and H.R. 3396 would grant states that comply
with the Streamlined Sales and Use Tax Agreement the authority to require remote
sellers to collect state and local taxes on interstate sales. Another related issue is
whether and how to have Congress set the nexus standards under which a state is
entitled to impose a business activity tax (BAT, e.g., corporate net income tax,
franchise tax, business and occupation tax, gross receipts tax) on a company located
outside the state, but with some business activities in the state. In the 110th Congress,
S. 1726 and its twin H.R. 5267 would establish more-uniform standards — generally
higher standards — for the level of business activity that would create nexus and thus
state corporate income taxability. For more on state corporate income taxes, see CRS
Report RL32297, State Corporate Income Taxes: A Description and Analysis, by
Steven Maguire.
This report will be updated as legislative events warrant.

Contents
History . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Issues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
The Moratorium: Permanent vs. Temporary Extension? . . . . . . . . . . . . . . . . 3
Grandfathering of Existing Access Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Definitions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
Taxation of Internet Access . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
Multiple Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Discriminatory Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
Streamlined Sales Taxes and Remote Collection Authority . . . . . . . . . . . . . 9
Remote Collection Issue . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
The Streamlined Sales and Use Tax Agreement (SSUTA) . . . . . . . . . . 9
Business Activity Tax (BAT) Nexus Standards . . . . . . . . . . . . . . . . . . . . . 10
Action in the 110th Congress . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Internet Tax Moratorium Legislation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Internet-Commerce-Related Legislation . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
SSUTA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
BAT Nexus . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

Internet Taxation: Issues and Legislation
History
The Internet Tax Freedom Act (ITFA) was enacted on October 21, 1998, as
Title XI of Division C of P.L. 105-277, the Omnibus Consolidated and Emergency
Supplemental Appropriations Act, 1999.1 The ITFA placed a three-year moratorium
on the ability of state and local governments to (1) impose new taxes on Internet
access or (2) impose any multiple or discriminatory taxes on electronic commerce.
The act grandfathered the state and local access taxes that were “... generally imposed
and actually enforced prior to October 1, 1998....”
This initial Internet tax moratorium expired on October 21, 2001. The Internet
Tax Nondiscrimination Act, P.L. 107-75, enacted on November 28, 2001, provided
for a two-year extension of the prior moratorium, through November 1, 2003. The
moratorium was extended for an additional four years, through November 1, 2007,
by the Internet Tax Nondiscrimination Act, P.L. 108-435, enacted on December 3,
2004. Taxes on Internet access that were in place before October 1, 1998, were
protected by a grandfather clause. The 2004 (P.L. 108-435) extension also
grandfathered pre-November 1, 2003, taxes (mostly on digital subscriber line or DSL
services) through November 1, 2005, and excluded from the moratorium taxes on
voice or similar service utilizing voice over Internet protocol (VoIP). These services
were not as prevalent at the time the original moratorium was enacted. As part of
compromise negotiations in the 108th Congress, the grandfathering protection for
Internet access taxes in Wisconsin was limited to three years (through November 1,
2006) instead of four, and the ability of Texas municipalities to collect franchise fees
from telecommunications providers that use public lands was protected. The 2004
act included several modifications and refinements to the original ITFA.
Specifically, the 2004 act:
! Extended the Internet tax moratorium for four years, retroactively
one year to November 1, 2003, and forward three years until
November 1, 2007. The moratorium barred state and local
governments from imposing any new taxes on Internet access or
imposing any multiple or discriminatory taxes on electronic
commerce.
! Clarified that the term “tax on Internet access” applies regardless of
whether the tax is imposed on a provider or buyer of Internet access.
1 Title XII was also part of S. 442, 105th Congress, the underlying ITFA legislation. Titles
XI and XII, 112 Stat. 2681-719 through 728 (1998). Title XI is codified as the ITFA in 47
U.S.C. 151 note. Title XII is codified as 19 U.S.C. 2241 note.

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! Made explicit that a “tax on Internet access” does not include a tax
levied on net income, capital stock, net worth, or property value.
! Provided that the terms “Internet access” and “Internet access
service” do “not include telecommunications services, except to the
extent such services are purchased, used, or sold by a provider of
Internet access to provide Internet access.” (This permits some
portion of telecommunications services to be included under the tax
moratorium.)
! Extended the grandfather protection from November 1, 2003, until
November 1, 2007, for state and local governments which taxed
Internet access prior to October 1, 1998. An exception was made for
a state telecommunications service tax in Wisconsin, for which
protection was extended only until November 1, 2006. Protection
was extended only until November 1, 2005, for taxes on Internet
access that were generally imposed and actually enforced as of
November 1, 2003. This provision applies mainly to taxes on digital
subscriber line (DSL) services.
! Explicitly protected the Texas municipal access line fee. This
provision is intended to protect the ability of Texas municipalities to
collect franchise fees from telecommunications providers that use
public lands.
! Included a new accounting rule that charges for Internet access may
be subject to taxation in cases where they are aggregated with
charges for telecommunications services or other charges that are
subject to taxation — unless the Internet access provider can
reasonably identify the charges for Internet access.
! Stated that nothing in the act prevents the collection of any charges
for federal or state universal service programs (for telephone
service), or for state or local 911 and E-911 (emergency call)
services, nor does it affect any federal or state regulatory non-tax
proceeding (such as FCC regulatory proceedings).
! Clarified that the moratorium does not apply to taxes on Voice over
Internet Protocol (VoIP) services. This section does not apply to
services that are incidental to Internet access, such as voice-capable
e-mail or instant messaging.
! And provided for the GAO (Government Accountability Office) to
study the effects of the Internet tax moratorium on the revenues of
state and local governments and on the deployment and adoption of
broadband technologies for Internet access throughout the United
States, including under-served rural areas. The study was to
compare deployment in states that tax broadband Internet access
service with states that do not. The Comptroller General was to
report the findings, conclusions, and any recommendations from the

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study to the Senate Committee on Commerce, Science, and
Transportation and the House Committee on Energy and Commerce
by November 1, 2005. The report was published in January 2006.2
Issues
The five main issues surrounding Internet taxation and e-commerce that
Congress may address before the 2014 expiration are as follows:
! whether or not to extend the moratorium on Internet access taxes and
if so, temporarily or permanently;`
! whether, if the moratorium were to be extended, to continue to grant
grandfather protection for states that imposed taxes on Internet
access before the original moratorium was enacted;
! how to better define Internet access and discriminatory taxes to the
satisfaction of all stakeholders;
! whether to grant states the authority to require remote sellers to
collect use taxes if the states adopted a streamlined sales tax system;
and
! if congressional codification of guidelines is needed for establishing
whether or not a business engaged in interstate commerce has nexus
in a jurisdiction for purposes of business activity tax (BAT, e.g.,
corporate income tax, franchise tax, business license tax) liability.
These issues remain similar to those considered in 2004 and 2007, the two most
recent times the Internet tax moratorium was temporarily extended. Growth in
Internet technology and electronic commerce, however, may generate new policy
questions before 2014.
The Moratorium: Permanent vs. Temporary Extension?
The intent of the Internet Tax Freedom Act (enacted in 1998) was to prevent
state taxes on Internet access, to ensure that multiple jurisdictions could not tax the
same electronic commerce transaction, and to ensure that commerce over the Internet
would not be singled out for discriminatory tax treatment. Supporters of extending
the moratorium contend that the Internet should continue to be protected from the
administrative and financial burdens of taxation in order to further advance of
Internet technology and associated economic activity.3 Opponents of extending the
2 U.S. Government Accountability Office, Internet Access Tax Moratorium: Revenue
Impacts Will Vary by State, GAO-06-273, Jan. 2006.
3 U.S. Congress, Committee on Commerce, Science, and Transportation, Internet Tax Non-
(continued...)

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moratorium contend that a federal moratorium infringes on the states’ independent
authority to levy taxes and, further, that Internet transactions and services should not
be afforded preferential tax treatment.
Supporters of permanent extension of the moratorium maintain it would
eliminate the need for Congress to revisit the issues surrounding Internet taxation
when a temporary moratorium expires. Permanent extension presumably could also
provide both the producers and consumers of Internet services greater certainty about
state and local taxation of the Internet. Opponents, on the other hand, say a
permanent extension would not address the underlying issue of federal restrictions
on state taxation, nor would it clarify the definition of Internet access.
Opponents of a permanent extension of the moratorium point out that a
temporary one would allow Congress to periodically review the conditions of the
moratorium and the effect of the moratorium on the states. Reassessment could then
be made in the context of developments in computer technology and business
organization, as well as state and local government tax administration. A temporary
extension could also provide more time for the states to further simplify their sales
and use taxes. (See the discussion below on Streamlined Sales Taxes and Remote
Collection Authority.)
Allowing the moratorium to sunset would permit states to tax Internet access,
although, in practice, the trend has been for states to repeal their Internet access taxes.
As Internet technology continues to change the telecommunications industry,
however, state and local governments will likely modify how the industry is taxed.
A sunset of the moratorium could induce states to address the taxation of
telecommunications more broadly.
Grandfathering of Existing Access Taxes
The Internet Tax Freedom Act exempted from the moratorium taxes on Internet
access that were “... generally imposed and actually enforced prior to October 1,
1998....” When ITFA legislation was being considered in the spring of 1998, 10
states and the District of Columbia were already applying their sales tax to Internet
access services.4 Subsequently, Connecticut, Iowa, Tennessee, and the District of
Columbia eliminated their tax on Internet access, and South Carolina has not
enforced the collection of its tax during the federal moratorium. These developments
left six states imposing a sales tax (or equivalent tax) on Internet access as of January
2006: New Mexico, North Dakota, Ohio (on commercial use only), South Dakota,
Texas (on monthly charges over $25), and Wisconsin.5 In addition, Hawaii levies its
general excise tax, New Hampshire its communications services tax (imposed on all
3 (...continued)
Discrimination Act of 2003, report to accompany S. 150, 108th Cong., 1st sess., S.Rept. 108-
155, (Washington: GPO, 2003), p. 1.
4 National Conference of State Legislatures, “Which States Tax Internet Access?” March
25, 1998.
5 Vertex, Inc., Tax Cybrary. Available at [http://www.vertexinc.com], visited July 7, 2008.

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two-way communications equipment), and Washington State its business and
occupation tax (a gross receipts tax levied on business) on Internet access. The
Congressional Budget Office believes that several local jurisdictions in Colorado,
Ohio, South Dakota, Texas, Washington, and Wisconsin also are collecting taxes on
Internet access.6
The grandfathering protection was continued when the ITFA moratorium was
extended for two years in 2001 (through November 1, 2003). The act further
extended the grandfathering protection for pre-October 1998 taxes through
November 1, 2007. A second grandfathering issue arose in 2004 as states began to
tax Internet access provided through digital subscriber lines (DSL), a high-speed
telephone service. DSL is considered a telecommunication service and was exempt
from the original moratorium and thus taxable. ITFA grandfathered pre-November
2003 taxes (mostly taxes on DSL service) through November 1, 2005. The last
extension discontinued the grandfathering protection for grandfathered states that had
repealed or stopped enforcing collection of the sales tax on Internet access services.7
In its cost estimates for H.R. 49 and S. 150 in the 108th Congress, the
Congressional Budget Office (CBO) determined that eliminating the grandfathering
protection for Internet access taxes would impose an intergovernmental mandate as
defined in the Unfunded Mandates Reform Act (UMRA, 2 U.S.C. 1501-1571).8
According to CBO, the prohibition of taxes on Internet access that were then
collected in up to 10 states (in 2003, at the time of the CBO study, more states had
Internet access taxes) and a few local jurisdictions in six states, would cost these
jurisdictions approximately $80 million to $120 million per year. This estimate alone
exceeded the UMRA threshold of $59 million in 2003, in the case of H.R. 49, and
$64 million in 2007 (adjusted annually for inflation), in the case of S. 150. CBO
noted that additional state and local revenues could be lost if more
telecommunications services and information content were redefined as Internet
access.
Definitions
As noted earlier, the ITFA tax moratorium prohibits new taxes on Internet
access and multiple or discriminatory taxes on electronic commerce. The act’s
definitions of Internet access and of discriminatory tax, in particular, have been the
source of some concern and legal uncertainty for state and local governments,
providers of new-technology Internet access service, telecommunications companies
6 Congressional Budget Office, “Cost Estimate for S. 150, the Internet Tax
Nondiscrimination Act,” Sept. 9, 2003. Contained in U.S. Congress, Senate, Committee on
Commerce, Science, and Transportation, Internet Tax Non-discrimination Act of 2003,
Report on S. 150, 108th Cong., 1st sess., Report 108-155, Sept. 29, 2003 (Washington: GPO,
2003), p. 7. Cost estimate also available at [http://www.cbo.gov].
7 Sec. 6 of P.L. 110-108.
8 Congressional Budget Office, “Cost Estimate for H.R. 49, Internet Tax Nondiscrimination
Act,” as ordered reported by the House Committee on the Judiciary on July 16, 2003,
Washington, July 21, 2003; and “Cost Estimate for S. 150, the Internet Tax
Nondiscrimination Act.” Both available at [http://www.cbo.gov].

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offering bundled communications and information services, supporters of federal and
state universal service programs, and companies with “dot.com” subsidiaries.
Taxation of Internet Access. The taxation of Internet access most
commonly refers to the application of state and local sales and use taxes to the
monthly charges that retail subscribers pay for access to the Internet. These payments
may go to traditional dial-up Internet service providers (ISPs) or to the local
telephone or cable TV company. According to the Federation of Tax Administrators,
the tax may also take the form of a sales and use tax or excise tax levied specifically
on telecommunications, information services, or data processing services, the
definition of which encompasses “charges for Internet access.” P.L. 108-435
clarified that a “tax on Internet access” applies regardless of whether the tax is
imposed on a provider or buyer of Internet access.9 P.L. 110-108 further refined the
definition of Internet access to include “homepage, electronic mail and instant
messaging” services.10
Telecommunications Industry Concerns. Telecommunications carriers
were concerned that Internet access offered through primarily telecommunications
technologies, such as DSL or wireless services, might not be treated as exempt from
tax, while access offered over other technologies, such as cable modem, would be
exempt. In an attempt to address these concerns, both P.L. 110-108 and P.L. 108-435
provided that all forms of telecommunications services used to provide Internet
access would be exempt from state and local taxes under the moratorium.11
State and Local Government Concerns. Before enactment of P.L. 108-
435, state and local governments were concerned that the tax moratorium could be
interpreted to go far beyond retail Internet access. Ultimately, P.L. 108-435 made
explicit that the term “tax on Internet access” would not include a tax levied on net
income, capital stock, net worth, or property value. It extended the grandfather
protection for existing Internet access taxes until November 1, 2007, with the
exception of Wisconsin, where protection ended on November 1, 2006. It explicitly
protected the Texas municipal access line fee; this protects the ability of Texas
municipalities to collect franchise fees from telecommunications providers that use
public lands. P.L. 110-108 clarified further the types of taxes that were outside of the
moratorium.
In addition, state and local governments were concerned that with the growth
of Internet telephony (Voice over Internet Protocol, VoIP), there would be less
traditional telephone service or plain old telephone service (POTS) remaining in the
tax base. Currently, state and local taxes on voice telephone services produce $12
9 A recent GAO (op. cit. Jan. 2006, p. 23) report concluded that ISP acquired services are
not protected by the moratorium.
10 See Section 4(2) of P.L. 110-108.
11 For more information, see U.S. Congress, Senate Committee on Commerce, Science, and
Transportation, Internet Tax Non-discrimination Act of 2003, Report on S. 150,108th Cong.,
1st sess., S.Rept. 108-155, Sept. 29, 2003 (Washington: GPO, 2003).

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billion in annual revenues.12 P.L. 108-435 and P.L. 110-108 both clarified that the
tax moratorium does not apply to VoIP services, which may be taxed.13
Bundling of Services. The breadth of coverage in the first sentence of the
definition of Internet access shown above gives rise to concern on the part of state
and local revenue departments that the tax-protection of Internet access may extend
to “bundled” products and services that might otherwise be taxable if purchased on
their own. These could include data and information services, cable television,
books, magazines, games, music, and video on demand, for example. These types
of products and services can be offered online and sold as part of an Internet access
service.14
P.L. 108-435 included a new accounting rule which addressed the bundling
issue. Under this rule, Internet access service may be taxable if access fees are
aggregated with fees for otherwise-taxable telecommunications services. If the
Internet access provider can reasonably identify the charges for Internet access, then
the Internet access, however, is not taxable.
Funding Universal Service. Some Members of Congress were concerned
about protecting the financing source for the Universal Service Fund (USF).15 The
USF is administered by the Universal Service Administrative Company, an
independent not-for-profit organization operating under the auspices of the Federal
Communications Commission (FCC). The USF is financed by mandatory
contributions from interstate telecommunications carriers.16 A company’s USF
contribution is a percentage of its interstate and international end-user revenues.17
12 Michael Mazerov, “A Permanent Ban on Internet Access Taxation Risks Serious Erosion
of State and Local Telephone Tax Revenue as Phone Calls Migrate to the Internet,” Center
on Budget and Policy Priorities, Washington, DC, Feb. 11, 2004, p. 1. Available at
[http://www.cbpp.org/2-11-04sfp.pdf], visited July 7, 2008.
13 For objections to a tax prohibition on VoIP, see Michael Mazerov, “Proposed ‘Voice over
Internet Protocol Regulatory Freedom Act’ Threatens to Strip States and Localities of
Billions of Dollars in Annual Tax Revenues,” Center on Budget and Policy Priorities,
Washington, DC, July 20, 2004. Available at [http://www.cbpp.org/7-20-04tax.pdf], visited
July 7, 2008.
14 Harley Duncan and Matt Tomalis, “On the Internet Tax Freedom Act: The Forgotten First
Sentence,” State Tax Notes, March 29, 2004, pp. 1105-1108.
15 The USF subsidizes telephone service to low-income consumers and to high-cost rural and
insular areas. Through the E-rate or education-rate program instituted by the
Telecommunications Act of 1996, the USF also subsidizes telecommunications discounts
for schools and libraries. Also as a result of the 1996 act, the USF subsidizes
communications links between rural health care providers and urban medical centers. For
further information on the E-rate program, see CRS Report RL32018, The E-Rate Program:
Universal Service Fund Telecommunications Discounts for Schools, by Angele A. Gilroy.
16 All telecommunications providers that furnish service between states must contribute to
the USF. This includes long distance companies, local telephone companies, wireless
telephone companies, paging companies, and payphone providers.
17 The percentage, known as the contribution factor, is set quarterly, and varies depending
(continued...)

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Some states also levy charges on the intrastate retail revenues of telecommunications
carriers for their state’s universal service fund.18
Supporters of the universal service programs were concerned that efforts to
protect Internet access and associated telecommunications services should not reduce
the funding base for universal service. The moratorium does not prevent the federal
government or the states from imposing or collecting the fees or charges on
telecommunications that are used to finance the universal service program. Nor does
it prevent states or local governments from collecting fees or charges to support 911
or E-911 (emergency) services. Nor does it affect any federal or state regulatory
proceeding that is not related to taxation.
Multiple Taxes. The ban on multiple taxes prohibits more than one state, or
more than one local jurisdiction at the same level of government (i.e., more than one
county or one city), from imposing a tax on the same transaction, unless a credit is
offered for taxes paid to another jurisdiction. However, the state, county, and city in
which an electronic commerce transaction takes place could all levy their sales taxes
on the transaction.
Discriminatory Taxes. In practice, the ban on discriminatory taxes on
electronic commerce means that transactions arranged over the Internet are to be
taxed in the same manner as mail-order or telephone sales. Under the current judicial
interpretation of nexus as applied to mail-order sales, a state cannot require an out-of-
state seller to collect a use tax from the customer unless the seller has a physical
presence in the taxing state.19 (A use tax is the companion tax to the sales tax,
applicable to interstate sales.) Congress or the Supreme Court would need to act to
grant or approve the states’ ability to require out-of-state tax collection, whether the
transaction was arranged over the Internet or by mail order, telephone, or other
means.
The second part of the ITFA’s definition of discriminatory tax lists conditions
under which a remote seller’s use of a computer server, an Internet access service, or
online services does not establish nexus. These circumstances include the sole ability
to access a site on a remote seller’s out-of-state computer server; the display of a
remote seller’s information or content on the out-of-state computer server of a
provider of Internet access service or online services; and processing of orders
through the out-of-state computer server of a provider of Internet access service or
online services. Some businesses have taken advantage of these nexus limits in the
ITFA’s definition of discriminatory tax to establish what are referred to as Internet
17 (...continued)
on the financing needs of the universal service programs. The proposed contribution factor
for the third quarter of 2008 is 0.114 or 11.4%. Federal Communications Commission,
Contribution Factors and Quarterly Filings, available at [http://www.fcc.gov/omd/
contribution-factor.html], visited June 23, 2008.
18 State charges are typically levied on the intrastate retail revenues of wireline carriers and,
in some states, wireless carriers as well.
19 For additional discussion, see CRS Report RS21537, State Sales Taxation of Internet
Transactions, by John R. Luckey.

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kiosks or dot-com subsidiaries. The businesses claim that these Internet-based
operations are free from sales and use tax collection requirements. Critics object that
these methods of business organization are an abuse of the definition of
discriminatory tax.
Streamlined Sales Taxes and Remote Collection Authority
In earlier Congresses, the debate surrounding legislation to extend the Internet
tax moratorium was linked to the states’ quest for sales and use tax collection
authority. The issue continues to be whether Congress is willing to grant states the
authority to require remote (out-of-state) sellers to collect use taxes on interstate sales
conditioned on a simplification of state and local sales and use tax systems. Bills
were introduced in conjunction with an extension of the moratorium that enumerated
criteria for a simplified sales and use tax system, and procedures for Congress to
grant tax collection authority. In contrast, in the 108th Congress and continuing into
the 109th and 110th Congress, the sales tax issue has been pursued separately from the
moratorium.
Remote Collection Issue. Under current law, a vendor with substantial
nexus (usually defined as physical presence) in its customer’s state collects the state
(and local) sales tax on sales arranged over the Internet (or by telephone, mail order,
or other means). In contrast, an out-of-state vendor without substantial nexus in the
customer’s state is not required to collect the sales tax.20 Technically, the customer
is required to remit a “use” tax to his or her state of residence.21 In practice, however,
use tax compliance by non-business purchasers is low. Because of this low
compliance, many states have long wanted to require out-of-state vendors without
physical presence in the respective states (referred to as remote sellers) to collect the
use tax from the customer. This would apply to all interstate sales, whether arranged
over the Internet or by mail-order catalog, telephone, or other means.
The Streamlined Sales and Use Tax Agreement (SSUTA).
Acknowledging administrative complexity as a major obstacle to remote collection
authority, the states began a concerted effort to simplify state and local sales and use
tax through the Streamlined Sales Tax Project (SSTP).22 The project commenced in
March 2000, midway through the initial ITFA moratorium (October 1998 - October
2001). As of February 27, 2008, 17 states were designated as “full” members for
having approved a model interstate agreement to simplify their sales tax systems,
20 In 1967 and again in 1992, the Supreme Court invited the Congress to take action on this
issue. See the following decisions: National Bellas Hess, Inc. v. Illinois Department of
Revenue, 386 U.S. 753 (1967) and Quill Corp. v. North Dakota, 504 U.S. 298 (1992).
21 The use tax is the companion tax to the sales tax, created to ensure that cross-border
transactions are not favored in the state tax code.
22 For more on the Streamlined Sales and Use Tax Agreement, see CRS Report RL34211,
State and Local Taxes and the Streamlined Sales and Use Tax Agreement, by Steven
Maguire.

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known as the Streamlined Sales and Use Tax Agreement (SSUTA).23 The agreement
establishes uniform definitions for taxable goods and services and requires that a
participating state and local government have only one statewide tax rate for each
type of product. Another five states are “associate” members for partially complying
with the SSUTA. Each state would retain the power to define which products are
taxable and establish its tax rate.
In the 110th Congress, S. 34 (Enzi) and H.R. 3396 (Delahunt) would grant states
that comply with the SSUTA the authority to require remote sellers to collect state
and local use taxes on interstate sales.
Business Activity Tax (BAT) Nexus Standards
The possibility that states could be authorized to require remote vendors to
collect sales and use taxes on interstate sales raised concerns that states would then
attempt to impose income and other business taxes on those vendors. In response,
some multistate businesses asked Congress to clarify nexus standards for state and
local business activity taxes (BATs).24 Past court decisions and the landmark P.L.
86-272, enacted in 1959 (15 U.S.C. 381 et seq.), clarified nexus by identifying those
activities which would not establish nexus. Generally, soliciting the sale of tangible
goods in a state for shipment by common carrier from locations outside the state
would not be sufficient to trigger nexus.
Proponents of federally defined nexus standards contend that current federal law
does not sufficiently define substantial nexus. The issue before Congress is whether
to codify nexus rules for intangible property and services, not just tangible goods as
provided for in P.L. 86-272. Currently, each state independently implements rules
that establish nexus for economic activities that are not covered by P.L. 86-272.
Although state rules are very similar for many services and activities, there is still
significant variation among states on the threshold for establishing nexus. In theory,
Congress could establish uniform federal standards for imposing state business
activity taxes on out-of-state businesses.
Some representatives of state and local governments, however, are concerned
that enacting federal nexus guidelines could restrict their ability to levy corporate
income taxes or other BATs on business activities conducted in their state. For
example, if Congress implemented thresholds at the midpoint level of all existing
state nexus rules, by definition, many states would lose taxpayers that did not meet
23 The states are: Arkansas, Indiana, Iowa, Kansas, Kentucky, Michigan, Minnesota,
Nebraska, New Jersey, North Carolina, North Dakota, Oklahoma, Rhode Island, South
Dakota, Vermont, West Virginia, and Wyomi ng. Avai l abl e at :
[http://www.streamlinedsalestax.org/Legislation_status/Index.html], visited June 30, 2008.
24 Business activity taxes are commonly thought of as corporate income taxes, but may also
include franchise taxes, business license taxes, business and occupation taxes, a tax on gross
receipts, gross income or gross profits, value-added taxes, single business taxes, and capital
stock taxes. They do not include taxes on transactions, like sales and use taxes or excise
taxes. For more on state corporate income taxes, see CRS Report RL32297, State Corporate
Income Taxes: A Description and Analysis, by Steven Maguire.

CRS-11
the new standard for substantial nexus. The states with the lowest nexus thresholds
would fare the worst under such a scenario. Perhaps more importantly,”bright line”
legislation would expand the definition of economic activity beyond tangible goods
to include intangible goods and services.
The remote collection authority bills offered in earlier Congresses typically
provided that out-of-state vendors that collected sales and use taxes would not then
be subject to business activity taxes by virtue of their tax collection for the state.25
In the 110th Congress, the BAT nexus issue had been kept separate from both the
extension of the Internet tax moratorium and the sales tax simplification issue.
Action in the 110th Congress
Internet Tax Moratorium Legislation
On October 31, 2007, P.L. 110-108, the Internet Tax Freedom Act Amendments
Act of 2007, was passed extending the moratorium through November 1, 2014.
Generally, taxes on Internet access that have continued in place since before October
1, 1998, are protected by a grandfather clause.
Internet-Commerce-Related Legislation
SSUTA. In the Senate, S. 34 (Senator Enzi) and H.R. 3396 (Senator Delahunt)
would grant states that comply with the Streamlined Sales and Use Tax Agreement
the authority to require remote sellers to collect state and local taxes on interstate
sales. H.R. 3396 has 10 cosponsors and S. 34 has three cosponsors.
BAT Nexus. A proposal to address state business activity taxation has also
been introduced in the 110th Congress. S. 1726 (Senator Schumer and Senator
Crapo) and its companion H.R. 5267 (Representative Boucher and Representative
Goodlatte) would establish a physical presence standard for business activity taxes
and expand the test to include intangible goods and services. More specifically, they
would (1) amend P.L. 86-272 to extend to all sales (not just tangible personal
property) and to other state and local business activity taxes (not just net income
taxes) the protection from taxation on interstate commerce if the only activity within
a state was soliciting orders for sales; (2) establish physical presence as the nexus
standard for levying state and local business activity taxes on interstate commerce;
and (3) generally require use of employees or property in a state for more than a
combined 15 days per calendar year to establish nexus. In addition, the legislation
would provide a de minimus standard for firms whose physical presence is “limited
or transient.”26
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25 For more on state BATs, see CRS Report RL32297, State Corporate Income Taxes: A
Description and Analysis, by Steven Maguire.
26 Sec. 3(b)(2).