Friday, April 29, 2011

Commentary: Time to Pay More (Tax) Attention?

I’ve recently been recalling a seminar I attended in Columbus, Ohio back in the mid-80s. One of the speakers there discussed the notion that in the near future we were going to have the ability to purchase merchandise electronically. By sitting down in front of a computer, connecting with the outside world using something called “the internet”, and communicating with a retail entity, we would actually be able to complete a transaction, after which we would receive said merchandise at home without having to enter a store at all.

She went on to say that cyber-shopping would change the way consumers shop forever - and would significantly reduce the need for physical retail space. I’m not sure if I had even heard of the internet at the time. I couldn’t imagine the masses owning their own computers, which were relatively expensive back then, and I actually thought something like, “What has this woman been smoking?” Well, she may have been a little ahead of her time, but…wonders never cease!

Today, while total retail sales plod along with low single-digit gains, e-commerce sales continue to grow annually by double-digits. In 1995, electronic shopping and mail order sales accounted for a mere 2.8% of total retail and food service sales (based on US Census annual retail sales data). By 2005, that sales ratio nearly doubled to 5.5%. Last year electronic shopping represented 7.5% of total retail and food service sales. North American sales at Amazon alone jumped to $18.7 billion in FY 2010, a 45.8% increase from the prior year. Amazon‘s worldwide sales reached $34.2 billion in 2010.

The relentless rise of online retailing has long been perceived as a major contributor to the collapse of Circuit City, Borders, specialty music stores such as Tower records, and a score of other retail casualties. However, while the impact has been significant, there have been other forces at play. Specialty music stores were likely impacted more by retailers such as Wal-Mart and Target using CDs as loss leaders, making it virtually impossible for smaller specialty units to compete effectively on price. In addition there’s the huge electronics market share those two major discounters (and to some degree the wholesale clubs) diverted from Circuit City and every other electronics specialty store. Of course both Borders and Circuit City had their shares of internal problems quite apart from the rise in internet sales, which only accelerated the eventual, inevitable bankruptcy filings. But it’s more than fair to say that online shopping, as that speaker in Columbus, Ohio predicted so long ago, has forever altered the way we shop, and where.

There’s something else that has been profoundly altered by the rise in online commerce, something which as been talked about quite a bit before, but has lately taken on a particular urgency in the face of huge government budget shortfalls – and may conceivably have significance to the future survival of brick-and-mortar retailers.

If I walk to the shopping center down the street and make a purchase, I’ll pay a state sales tax on that purchase, as I’m sure you would, too. But what if I go online and purchase the same item? A 1992 Supreme Court ruling prevents states from collecting sales tax from an online retailer if that retailer has no physical presence in that state. Technically consumers are required to pay the applicable state sales tax, via the honor system, in the form of a “use” tax – which we all do scrupulously, correct? I didn’t think so.

Assuming an average 5% sales tax across the nation, total electronic shopping and mail-order house sales of $272 billion would generate tax revenue of $13.6 billion. That’s a great deal of lost revenue – revenue that lawmakers and others are gearing up to claim.

According to a recent Rasmussen poll, approximately 64% of consumers oppose an online tax. In spite of that sentiment, a number of states are trying to work around the Supreme Court ruling, and are implementing new laws that require online companies to apply the appropriate sales tax to online purchases if the online retailer has a physical presence in that state or is affiliated with a company conducting business in that state. The State of Texas recently sent Amazon a $269 million sales tax bill because it operates a fulfillment center there. Sen. Dick Durbin (D ILL) will reportedly propose legislation as early as this week to tax all online purchases.

As I’ve already noted, a change in online sale tax laws probably wouldn’t have helped Circuit City or Borders. Their troubles ran deeper. But a host of other brick-and-mortar retailers, who have seen their stores used as “showrooms” for purchases later consummated online, and who have long argued that the sales tax situation constitutes an extremely unfair advantage for online retailers, have to be pleased that lawmakers are finally paying more (tax) attention.

Bob Sheehan, Vice President of Research

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