Why an Internet Sales Tax Would Be Ineffective

May 7, 2013

Because Internet sales are not currently subject to sales tax, brick-and-mortar sellers have claimed that Internet businesses have an unfair advantage. The ensuing debate has brought forth the differences between two economic views: the traditional view for policies that promote neutrality and the elimination of economic distortions caused by tax policies, and an opposing view held by public finance economists who believe the budget is affected by the tax system. The traditional view would lead to Internet taxation but would only serve to transfer wealth, says Benjamin Zycher, a visiting scholar at the American Enterprise Institute.

  • The traditional view believes the government budget -- both its size and composition -- is not affected by taxes and should be financed at the lowest possible economic cost.
  • The public choice analysis of government behavior claims that alternative tax regimes lead to different spending outcomes and the government's desire to transfer wealth.
  • Imposing Internet taxation would not correctly assess the value of delivering a public service involved in an Internet transaction.

The Internet tax would distort voluntary market transactions, meaning that the traditional view would have to discuss the values of the public service being offered. Brick-and-mortar sellers demand local government services -- like police and fire protection -- that distant Internet sellers do not demand.

  • Proponents of the traditional view argue that the deductibility of state taxes from federal income taxes and the imposition of an Internet sales tax would reduce distortion.
  • However, this fails to account for the fact that both taxes impose the costs of state government services on individuals not demanding those services.
  • The result of these taxes would weaken the relationship between tax prices and the value of public services as perceived by taxpayers.

The central question is whether or not distortions can be evaluated without analysis of the relationship between the burdens of the respective taxes and the demands for government services from those bearing the taxes. While some claim that adding an Internet sales tax would allow for reductions in state marginal income tax rates, the reality is that a new tax would likely lead to more government spending that would not necessarily go to providing benefits to the taxpayers.

Source: Benjamin Zycher, "Increasing Distortions and Feeding Leviathan: The Internet Sales Tax," The American, April 30, 2013.

 

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