The Mises Institute monthly, free with membership
April 2000
Volume 18, Number 4
The End of Sales Tax
by David Laband and Richard Ault
The Virginia legislature has been toying with the idea of curbing or even abolishing sales taxes.
The idea comes in response to merchants who fear that they are losing because of the availability
of untaxed goods purchased over the web. Whether big changes in the tax code happen this year
or five years from now, clearly the battle over net taxation has just begun.
Proponents of taxing the net argue that retail stores will lose business and be at a disadvantage if
they are taxed and e-commerce is not. This is indisputably correct. Opponents respond that
taxation would restrict web-based sales and stunt the economy's growth. This is also correct.
What is really important is that in all likelihood, e-commerce will sound the death knell for sales
taxes.
Although Wal-Mart is headquartered in Arkansas, patrons pay sales tax on their purchases at the
rate established by the state in which they reside. The sales tax is collected at the point of
purchase and paid by the retailer to the state government. But the net changes this situation
dramatically-the retailer no longer has a fixed location, and it is not very costly for the
consumer to observe merchandise locally but to purchase over the net.
The consequences of net tax freedom are not hard to imagine. Consumers get a discount on
goods bought from a virtual store over the net as compared to purchasing the exact same items in
a real store. The size of this discount equals the sales tax rate prevailing in their state. This
realized price-tax savings surely has played a major role in the explosive growth of e-commerce.
Some people believe that there is a natural limit to the proportion of sales that can be handled
through e-commerce because of the expense or impracticality of shipping certain items and
because of a lack of customer access to the web. In truth, neither shipping costs nor lack of
access will prove to be an impediment to growth in web-based sales.
In those states where groceries are subject to state sales taxation, grocers will have an incentive
to restructure the checkout. Customers at a particular store will place their orders over the net and
be instructed to pick up their merchandise at their local store. This means that net shopping will
not be limited to customers who have personal access to the net. Stores will provide access to all
customers.
Vendors of heavily taxed items like gasoline will have an especially powerful incentive to
structure sales. Oil companies can sell coupons tax-free over the web that purchasers can redeem
at any affiliated station. The implied tax savings to customers (and tax revenue losses to states)
will be enormous. But taxing e-commerce leads inexorably to the same results: shriveling sales
tax revenues.
Why? Because now that they can shop electronically, it is virtually costless for consumers to
"flee" to low-tax states for their purchases. Firms conducting e-commerce from states with
relatively low state sales tax rates will have an advantage over those from high-tax states.
Competition will induce companies to migrate to low-tax states. Wal-Mart can create an Internet
sales location anywhere in the United States for a few dollars.
Can states maintain viable sales taxes at any tax rate greater than zero? It seems doubtful, for two
reasons. First, states might attempt to enter into an agreement under which they would all agree
to a common sales tax rate. However, as with any cartel, each and every state would have an
incentive to "cheat" by lowering their sales tax rate in an effort to attract commerce with the
associated tax revenues. Second, even if sales tax rates were uniform across states, consumers
would be able to "migrate" to locations based in Mexico, Jamaica, and a host of other foreign
locations that, by definition, are not burdened with U.S. sales taxes. Duty-free shopping no
longer will require you to travel to Barbados; it will be as easy as clicking a mouse in your home
anywhere in the United States.
The development of web shopping provides consumers with extraordinary shopping mobility,
which, in due course, renders sales taxes incapable of being a reliable source of substantial tax
revenues. We should not be wasting our time arguing over whether or not to tax e-commerce; the
sales tax is dead either way.
David Laband and Richard Ault teach economics at Auburn University.
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