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Published on Friday, April 21, 2017

Impacts of State Marketplace Fairness Act on cities

One of the provisions of the House revenue bill HB 2186 includes a state version of long-time AWC federal legislative priority, a state version of “marketplace fairness.” This section of the legislation requires collection of sales tax by out-of-state retailers, or reporting on customers for use tax collection – “state marketplace fairness.” The Department of Revenue (DOR) estimates that this will result in $329 million for the state for 2017-19 ($974 million for 2017-21, effective date January 1, 2018) and $128.6 million for local governments for 2017-19 ($380.5 million for 2017-21). Based on DOR’s estimates, this would result in $38 million for cities for 2017-19, and would grow each year the trend of retail activity moving to the internet continues.

The House budget also assumes a suspension of the streamlined sales tax (SST) mitigation program in 2019-21 for all local entities that receive these distributions, except the public facilities districts that receive mitigation based on a sales tax credit.

The special session will create unique opportunities to connect with your legislators and for you to provide your city’s opinion on these proposals.

Messages to deliver:

  • Cities support the provisions of HB 2186 to implement marketplace fairness. It will help level the playing field between local brick and mortar businesses and out-of-state internet retailers in sales tax collections, a long-standing legislative priority for cities.
  • Updating sales tax collections to reflect the growing reliance on internet sales makes sense in Washington, the most sales-tax-dependent state. Sales tax revenues account for almost 50 percent of Washington’s revenues in the operating budget.
  • Washington is following a number of other states that have taken state action to address this issue since Congress has failed to take action on federal marketplace fairness legislation.
  • This is not a new tax. Instead, it is collection of a tax already due on retail sales and use.
  • The state should uphold the deal made in 2007 to provide mitigation to impacted jurisdictions when the Legislature implemented destination-based sourcing. SST mitigation funding should continue as was intended in the 2007 legislation. The mitigation formula is set to have mitigation end when an individual jurisdiction’s gains from voluntary and new out-of-state retailers exceed the losses from the shift to destination sourcing.

For more information on other provisions of HB 2186 and the impacts of budget proposals, see the Hot Sheet.

SST mitigation history

Washington State made changes to its sales tax system, including changing from an origin-based sales tax sourcing system to a destination-based sales tax sourcing in 2007 so that it could join the National Streamlined Sales Tax Agreement, a multi-state effort to streamline sales tax administration. This was intended as a step in implementing sales tax collection requirements on internet sales, convincing Congress to act on federal legislation requiring sales tax collection by internet retailers, and giving a voice to Washington on the governing board of the national agreement. Under the national agreement, companies can “voluntarily” join and collect tax on behalf of the member states in return for financial assistance in collection costs and liability protections for uncertain tax nexus status.

The sourcing change from original to destination resulted in cities, counties, and other local jurisdictions with negative and positive impacts, particularly negative impacts for those cities with large warehouses or a retail base that included delivery based items such as furniture that had previously sourced sales tax to those warehouse or store jurisdictions under origin-based sourcing.

As part of the agreement with impacted jurisdictions in implementing the change, the legislation included approximately $49 million per biennium in SST mitigation. The program mitigates actual sales tax losses based on 2008 data, reduced by actual voluntary compliance new revenues. The calculation would also include new revenues if Congress acted on mainstreet fairness to require collection by internet retailers. Mitigation was designed to end for jurisdictions when voluntary compliance new revenues exceeded losses. In 2009, 86 jurisdictions, including 55 cities, received mitigation. In the first quarter of 2017, 57 jurisdictions, including 49 cities, received mitigation. The largest mitigation recipient is King County Metro. For cities, the largest mitigation recipients are Kent, Auburn, Tukwila, Issaquah, Spokane Valley, Fife, Woodinville, Sumner, Everett, Lynnwood, and Pasco.

Based on initial impact estimates for HB 2186 state mainstreet fairness, for at least 11 of the mitigation jurisdictions, the new revenue resulting from new sales tax collections from out-of-state retailers in HB 2186 would not exceed their expected SST mitigation payments.

Legal challenges related to sales tax collection

In the 1992 case Quill Corp. v. North Dakota, the Court held that states cannot require retailers who do not have in-state physical presence to collect sale and use tax. As internet sales have increased, this case has become more problematic for states, and especially for Washington, which is almost 50 percent dependent on sales tax for general fund revenues.

In 2015, Justice Kennedy wrote a concurrence in Direct Marketing Association v. Brohl in a case involving Colorado information reporting requirements stating that the “legal system should find an appropriate case for this Court to reexamine Quill.”

The concurrence recognized the changed circumstances of the last 20 years of Quill has had on state and local governments due to:

  • Rise of internet purchases;
  • Congress’s failure to pass the Marketplace Fairness Act; and
  • States’ need to improve use tax collection.

Two states, South Dakota and Alabama, have enacted sales tax collection requirements that are moving through the local courts, with the expectation of review by the US Supreme Court as a “Quill challenge.”

Some states have taken other steps to improve collections by out of state businesses. Colorado, Oklahoma, South Dakota, and Vermont have enacted reporting requirements on remote sellers.

Several other states including Washington, Georgia, North Carolina, Illinois and New York have enacted click through or business-affiliate sales tax nexus requirements.

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