Online Sales Tax Bill Could Help Chains With Taxes, Too

Online sales taxes are marching toward reality much faster than anyone would have expected even a month ago. The "Marketplace Fairness Act," which would allow states to collect sales taxes through online retailers even if the merchants don't have physical operations in those states, is being debated in the U.S. Senate this week after being fast-tracked to avoid the Senate Finance Committee, where every previous version of the bill since 2001 has died.

One key element of the bill that won't relieve the tax pinch but should simplify the implementation: A state can't start requiring collection of the taxes until it provides free software that nails down all the complexities of that state's sales tax structure, including automatic calculation of what rates are owed on which products for any location in the state.

On Monday (April 22), the Senate voted 74-20 to begin floor debate on the bill. That margin suggests the bill will eventually be passed by the full Senate, though possibly with some amendments. A final Senate vote could come as soon as the end of this week.

The bill, S. 743, would exempt online merchants with less than $1 million in out-of-state sales that would be subject to sales tax. That $1 million number is one of the most likely details of the bill to change. Some opponents—including eBay (NASDAQ:EBAY), which e-mailed 40 million of its users and sellers starting last Sunday (April 21), lobbying for an exemption for sellers with less than $10 million in sales or fewer than 50 employees.

The other key limit for each state is technical, in the IT sense: No state can require the tax collection until it provides free software for merchants that calculates sales tax due on each transaction, files sales tax returns, and is updated to reflect rate changes. Using the free software—or software from a provider the state has certified—will relieve the seller from liability or penalties if the seller didn't remit the tax due to buggy software or incorrect information provided by the state.

States will also have to provide 90 days' notice of all changes in tax rates, and have a single place where the sales taxes are to be paid. In other words, if Podunk raises its local sales tax, it's the state—not the online retailer—who has to keep track and collect the tax, and can only start requiring it will 90-days' notice.

And states will have to detail what products are covered and how tax boundaries are drawn.And states will have to provide—and keep updated—the databases the software uses to identify which products and services are subject to the taxes, as well as how the boundaries are drawn. In short, if a merchant uses the state's software and database, the merchant is off the hook for any errors—and the software should handle most of the complexities.

That's actually a much better deal than most big chains (or small retailers, for that matter) currently get from their state sales-tax authorities. Since the bill also specifies that out-of-state "remote" retailers can't be required to collect taxes differently than in-state stores, brick-and-mortar chains would be crazy to pass up the opportunity to get access to those databases—and to the centralized tax filing that the bill also requires—both for their own in-state online commerce and for physical stores.

Unfortunately, the bill requires that states provide the software and databases if it wants remote sellers to collect sales tax for them. It doesn't specify anything else. That means there's a good chance that some states, at least, will provide buggy software that only runs under its own operating system, while others may port the aging minicomputer application they use at the Bureau of Equalization to MS-DOS and claim that's enough.

What would be much smarter—though harder for large retailers to integrate—would be something cloud-based, so the state wouldn't have to push out updates to every E-tailer across the country. Ordinarily doing something like that wouldn't be likely, especially since states aren't known for cutting-edge systems.

But there's potentially a lot of money on the table from better sales-tax collection, and states are only able to require collection from remote merchants under a federal law. If one merchant thinks a state hasn't fulfilled the requirements of the law, the place to go is federal court—and losing there might mean a state would have to somehow refund all the taxes it collected from remote retailers. In that light, spending a little more on a clean IT solution to the tax-software problem might be worth it.

And considering that so many unhappy E-tailers really were hoping out-of-state collection of online sales taxes would die in committee again, this will almost certainly will end up in court anyway at the first hint of an excuse. That being the case, unusable software isn't an excuse any state should want to offer.