While the State of California enjoys a budget surplus because of strong income tax collection, local governments and local schools see a rising gap between the cost of services and the unrestricted revenues available from the taxes they rely on - sales tax (cities) and property tax (cities, counties, and schools).
For cities, the trend in untaxed Internet sales could mean a future of more reliance on property taxes. For schools and for cities, voter passage of Propositions 13 and 218 limited funds available. It also shifted the tax burden by effectively decreasing the percentage of tax paid on business property and increasing the share paid by new homeowners. The current controversy over taxing the Internet offers a unique opportunity to re-think the way California funds local government and local schools.
Existing law requires that Internet sales be taxed according to the sales tax regulations of the purchaser’s locality. (Remember the multi-state sales tax tables in your old Sears Roebuck catalogue?) However, states find the law difficult to enforce, in the case of catalogue sales as well as Internet sales, so there is currently a very high level of noncompliance - especially with the Internet.
A Federal Advisory Commission on Electronic Commerce, established by Congress in 1998, brought together eight business representatives, eight state and local government representatives, and three federal government appointees, to address the issue of internet taxation. While local governments were inclined to ask for a national sales tax, the business representatives wanted to exclude the Internet from existing taxation. As a result, the commission was unable to approve, by the two-thirds vote required, any recommendation.
Recently, the majority did issue a report, which was immediately denounced by The Local Government Finance Officers, National League of Cities, National Conference of State Legislatures, and others, as being favorable to special interests and unfavorable to taxpayers and to state and local governments.
While Congress and the presidential candidates continue to debate this issue, California State Senator John Vasconcellos has introduced legislation to address the Internet taxation problem. SB1933, as originally proposed, would have required that the State Board of Equalization meet with other states to develop a way to develop a multi-state sales and use tax collection system.
As amended, it establish a Commission on Tax Policy in the New Economy, for the purpose of conducting a year long study and series of public hearings, to address changes in tax policy. The bill specifically states the intent of removing inconsistencies and inefficiencies; addressing equity and fairness concerns; improving administration, and considering base-broadening measures.
While the State of California should not give up on the idea of enforcing the existing sales tax laws, it may be time to consider replacing local governments’ reliance on sales tax, and schools’ reliance on property tax, with a system of increased state income tax revenues.
The sales tax is already a regressive tax. That is, poor people pay a much higher percentage of their income when they pay sales tax. Online shopping makes the tax even more regressive: shoppers with access to computers and credit cards are avoiding taxes that those who shop in stores continue to pay.
While property taxes are not as regressive as sales tax, they are notable, in California, for inconsistencies in impact, as a result of Proposition 13. Because residential property is re-sold more frequently than commercial property, more taxes are paid by homeowners than by businesses. The highest taxes are paid by first-time homebuyers.
In addition, the State has shifted more of the property tax revenues away from localities and towards its own coffers. According to the California Budget Project’s Budget Watch, part of the State’s budget surplus is due to property tax shifts in 1992 and 1993, which transferred $3.9 billion of property tax revenues from counties, cities, and special districts to schools, but also reduced the state’s required contribution to K-14 education. Only $1.7 billion of this loss was offset by the half percent sales tax increase, and the state profited by $2.2 billion from this transaction.
Local communities find that tax dollars returned to the community by the State and the Federal government come back with strings attached. A school may have insufficient dollars for teacher salaries, but money to pay for programs it lacks the staff to implement. A city may spend valuable resources chasing state and federal dollars, and fail to deal with basic financial or physical infrastructure issues.
The threat to local revenues posed by e-commerce brings with it a rare opportunity. It is time to take a good, hard look at our convoluted and inequitable system of paying for schools and local services. We can do better. Senator Vasconcellos’ bill is a first step in the right direction.
Ann-Marie Hogan was elected City Auditor of the City of Berkeley in December of 1995.