by Lowell L. Kalapa, Tax Foundation of Hawaii

For years lawmakers in state houses across the land have yearned for ways that they could collect their respective state sales taxes on purchases by their constituents from out-of-state vendors who did not have a storefront in their state.

Initially, the issue focused on catalogue sales and then sales by telephone and, more recently, sales made over the Internet. In the latter case, purchases literally exploded as the ease of making Internet purchases made out-of-state vendors much more accessible to consumers. It is this explosion in e-commerce that set off the bells and whistles of state lawmakers across the land as Main Street businesses began to complain of the unfair competition because out-of-state vendors’ prices were not bridled with the state sales tax.

States where a vendor has presence, or what is called nexus, have no problem in getting those vendors to collect and remit the state’s sales tax on goods delivered across state lines. The problem arises for those vendors who do have a physical presence in a state where customers have placed orders for goods to be shipped to them. The courts found that forcing vendors to collect state sales taxes on purchases made by customers located in a state where the vendor has no physical presence imposed a hardship on those vendors and infringed on the Interstate Commerce Clause.

With the growth of interstate sales via e-commerce, lawmakers could only imagine the huge loss of sales tax revenues. The issue of lost revenues became even more acute in recent years when state governments were dealt a blow with the downturn in the economy and the loss of revenues from the variety of taxes they impose, from sales to income taxes to real property taxes as workers lost their jobs or businesses closed.

Although the National Conference of State Legislatures undertook an effort discussed last week called the “Streamlined Sales Tax Project,” it has been fraught with disagreements and issues that still need to be resolved. Further, the project would require legislation at the federal level to be approved by Congress to address the issue of the infringement of the “Interstate Commerce Clause.” While the delay in Congressional action certainly is a result of the lack of a compromised proposal, the likelihood that Congress will ever approve such an authorization grows dimmer by the day as the federal government is faced with its own financial challenges.

For Hawaii, the key issue in the pursuit of taxing interstate sales is much more complex because basically, Hawaii does not have a retail sales tax found in some forty other states. Hawaii’s general excise tax is a tax on gross income and it is levied on both retail and at wholesale transactions. Further, unlike the retail sales tax, the general excise tax is levied on both goods and services. Again, because it is a tax on gross income, the rate is levied on every penny that is placed in the cash drawer including any amount that may have shown out as the “sales tax” imposed on the transaction.

Hawaii’s general excise tax is based on the philosophy that the tax is imposed for the privilege of doing business in Hawaii. Thus, any locally based vendor selling goods or services in Hawaii pays for the “privilege” by paying the general excise tax. Recognizing that resident consumers may make purchases from vendors who have no physical presence in Hawaii, a complementary “use” tax is imposed on the recipient of good or services purchased from an out-of-state vendor. However, aside from large ticket items such automobiles which must be registered with the local DMV and prefabricated structures that need a county building permit, monitoring individual purchases and enforcing the state’s use tax is difficult.

However, recently some creative lawmakers have come up with a solution to the problem by redefining “physical presence” that extends “nexus” to these out-of-state vendors. Inasmuch as the largest target of these efforts has been the Internet giant Amazon.com, the proposal has been nicknamed the Amazon bill.

The beauty of the bill is that it does not make any structural changes to a state’s sales tax, or in the case of Hawaii, it does not alter the general excise tax at all. Several state have already enacted the legislation beginning with New York which has now been collecting its sales tax on such cross-state sales since 2008. And California will soon follow suit by early fall of this year.

The time has come to level the playing field for local businesses and collect the taxes that are due the state of Hawaii. State lawmakers need to seriously consider enactment of the Amazon bill this year.

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