The Current State Of Sales Tax On Digital Products

Rice University Baker Institute for Public Policy, The Current State of Sales Tax on Digital Products:

Recent technological advancements have transformed how people conduct their daily activities. These changes are not only affecting how people live and work, but they are also redefining how people entertain and learn. Today, it is common to remotely access files stored in Dropbox, read e-books downloaded on Kindle, watch TV shows streamed from Netflix or Hulu, and listen to music through Spotify. These technological developments are making state tax authorities assess the taxability of digital products. This report reviews the current landscape of state sales tax on digital products, court cases, administrative actions, congressional proposals, and potential future developments in the taxation of digital products. ...

Conclusion. The digital economy has experienced unprecedented growth that has not gone unnoticed by state and local governments in search of sustainable tax revenue. There are many parallels between the ongoing development of digital goods taxation and the seemingly settled taxation of online sales, such as how antiquated state laws should evolve to tax the digital economy and what the best method is to alleviate the undue burden for small businesses.

However, one issue surrounding digital goods taxation is more complex than the debate involving online merchants: in Wayfair, the main challenge centers on how different states define nexus. For digital goods, the complexity is multiplied by more granular variations in terms of the products, delivery methods, or even differences in the length of ownership. In addition, digital products and services increasingly incorporate a wider range of components that are not easily distinguishable from a taxability perspective, which means that the complexity will only increase over time.

The future is clear: more states are going to tax digital products at a much broader level. The consequences for the lack of consistency in state tax laws and the absence of national guidelines are also clear: state governments would experience reduced compliance and decreased revenue. Federal guidance is unlikely, so states should address issues related to the taxability of digital goods through legislative actions instead of simply fitting new products and services into outdated rules. State revenue agencies can supplement the process through administrative actions, such as letter rulings, administrative notices, or audits. States attempting to impose such a digital goods tax without clear legislative support are sure to encounter long legal battles.