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NTU Testifies on Internet Taxes
May 23, 2007
Statement of Jeff Dircksen, Director of Congressional Analysis
Chairman Inouye, Vice Chairman Stevens, and Members of the Committee, my name is Jeff Dircksen, and I am the Director of Congressional Analysis for National Taxpayers Union Foundation, the education and research arm of the National Taxpayers Union (NTU). NTU is America's oldest and largest grassroots taxpayer organization with over 362,000 members in all 50 states. You can learn more about NTU and NTUF online at www.ntu.org.
I appreciate the opportunity to testify on the topic of communications, taxation, and federalism. This hearing addresses some of the most important technological and economic issues facing America. I am here on behalf of NTU and its membership to urge you to extend the Internet Tax Moratorium and to ensure that the Internet and online transactions remain free from predatory taxes.
Today, I want to share three taxpayer concerns regarding taxing Internet usage and the application of additional taxes or fees to Internet access or transactions. In addition, I will suggest policy alternatives that would be both pro-free market and pro-taxpayer in their orientation. First, state and local governments already place sizeable taxes, fees, and other charges on taxpayers who subscribe to various telecommunications services, whether wired, wireless, or online. Second, allowing governmental entities to increase this burden would be counterproductive for consumers and telecommunications providers. Third, the Supreme Court's 1992 Quill ruling has protected taxpayers by ensuring tax competition among state and local governments who might otherwise engage in round after round of tax hikes in a "race to the top."
Finally, on behalf of our members, I would urge you to consider how taxpayers would be better served by low-tax, pro-free market policies that encourage economic growth and innovation in the telecommunications sector (in contrast to higher taxes, fees, and additional regulation).
(1.) Taxpayers already face sizeable taxes, fees, and other charges for telecommunications services.
In 2000, the National Conference of State Legislatures estimated that there were nearly 11,000 state and local governmental entities that could levy taxes or fees on telecommunication activities, including franchise taxes, utility taxes, line access and right-of-way charges, 911 fees, relay charges, and maintenance surcharges. Research shows that over time, the users of telecommunication services have consistently shouldered higher tax burdens on telecommunications products when compared to taxes on other goods and services. A Council on State Taxation (COST) report released in 1999 found that consumers faced an effective state and local tax rate of 13.74 percent, which was more than double the 6 percent rate that imposed on other taxable goods. A 2005 update to that report found that the effective rate confronting taxpayers had risen to 14.17 percent, while general business taxes had increased to 6.12 percent from 6 percent.
While a recent report produced by the Heartland Institute and the Beacon Hill Institute at Suffolk University found a slightly lower tax rate than the COST study, it did estimate that the average tax rate for telecommunications services was either 13.52 percent or 11.04 percent, depending upon whether Internet access taxes were included or not. Table 1 below summarizes the average monthly bill, tax paid, and tax rate that consumers face. That rate is still double the average general sales tax, which was 6.61 percent in the study. Please bear in mind also that Heartland/Beacon Hill's findings reflect adjustments to the methodology for which COST's study was criticized by self-interested local officials. Using the average annual taxes and fees paid on cable TV and telephone services (both wired and wireless), the authors estimate that the total annual tax bill paid by consumers is $37 billion. The estimate does not include "losses due to reduced investment, productivity, and consumption."
Lowering the taxes on telecommunications to even the average sales tax rate would put some money in the pockets of consumers. The authors of the Heartland and Beacon Hill Institute study observe, "The average household would save $125.76 a year if taxes and fees on cable television and phone calls were the same as the average general sales tax on clothing, sporting goods, and household products." The savings may not appear to be significant to those of us living in the Washington metro area, but for consumers in other areas of the country the amount might not be a paltry matter. (Of course, the savings could be even more substantial if the tax rates were reduced to zero for the communications services.) I make this point because when I had the opportunity to testify on these issues in 2001, I mentioned that I had just learned that my brother-in-law was planning to stop farming near Gann Valley, South Dakota, and start working for a local Internet service provider. For some potential Internet or telecommunications customers in Gann Valley, Woonsocket, or Viborg, South Dakota, those savings might make the difference between connecting to a world outside of the Great Plains or not.
(2.) Additional taxes on telecommunications services would be counterproductive for consumers and service providers.
Additional taxes on Internet access or other telecommunications services may further slow the adoption of broadband technologies in the U.S. According to data from the Organisation for Economic Co-operation and Development (OECD), as of December 2006, the U.S. ranks 15th out of 30 OECD countries for broadband subscribers per 100 inhabitants. Table 2 below shows that the U.S. trails countries such as Denmark and Canada, but also Luxembourg.
Broadband technologies are highly price-elastic, meaning that consumers are sensitive to changes in price, including the imposition of additional taxes and fees. Steve Titch, a policy analyst with the Reason Foundation, points out that a 1 percent hike in the price of wireless service leads to a 1.29 percent drop in demand. The demand for cable TV falls three percent in response to a one percent rise in the price of the service. Titch concludes, "This elasticity also is why legislators should avoid the temptation to 'simplify' telecom taxes by raising them all to match the service taxed at the highest rate. In addition to being simplified, telecom taxes must be lowered."
Such taxes can cause consumers to alter their decision-making processes and to select services based on taxes rather than on the true cost or quality of what is being offered. Producers may decide to forego an investment that they might have made in the absence of the tax structure. These economically inefficient decisions lead to a loss of both consumer and producer surpluses, resulting in what economists would call a "deadweight loss." The annual deadweight loss due from taxes and fees on cable has been estimated to be as high as $2.6 billion annually.  The economic loss to the country from wireless taxes and fees is even larger – $8.8 billion a year. A 2006 analysis by economist Austan Goolsbee found that if taxes had been levied on broadband technologies in 1998 that the resulting deadweight loss would have slowed the entry of broadband suppliers into some marginal markets. According to Goolsbee, "[T]he deadweight loss adjustment associated with the impact of taxes on diffusion, $70 million, exceeds the conventional deadweight loss by a factor of 2 (raising the total [deadweight loss] from around 180 percent of revenue to 434 percent of revenue.)"
Rather than aggravating these economic losses with new or higher taxes, Congress should adopt a policy that bans new taxes and repeals those already in place (or at least lowers them). NTU has supported the temporary extensions of the Internet tax moratorium, while urging a permanent ban on access taxes and other telecommunications fees. Such a ban would remove the economic inefficiencies and uncertainties associated with temporary moratoriums, thereby sending a strong and clear signal to taxpayers and service providers: namely, that broadband and wireless are technologies that will be allowed to grow and innovate without the specter of the "tax man" lurking in the shadows.
(3.) The Quill ruling has protected taxpayers by ensuring tax competition among state and local governments.
Any scheme that intends to simplify, streamline, or make sales taxes "fairer" online is just one step away from trampling the Supreme Court's 1992 Quill ruling. Consumers should be wary of this backdoor attempt to run roughshod over the Court's restrictions on taxing phone and catalog sales. If such a system of extraterritorial collection is allowed, Congress will have opened the door to any number of potential tax cartels that will eventually harm rather than help taxpayers.
Forty-five states and the District of Columbia impose some type of a broad-based retail sales and use tax.  The Federation of Tax Administrators calculates the median state sales tax rate to be 5.5 percent. The sales taxes levied on consumers is likely higher, however, since local governments in 34 states are also allowed to levy a sales tax. Consequently, there are an estimated 7,458 governmental entities that can impose a sales or use tax.
In almost every case, the taxes imposed by local governments are "add-ons," or taxes that are in addition to the state's base sales tax rate. One must ask whether it is reasonable to believe that local elected officials would be willing to eliminate these "add-ons" in the name of simplification. Instead, taxpayers are likely to see an escalation of rates – a "race to the top" – especially when politicians can hide behind the cloak of "simplification" and "harmonization." In reality, such actions would essentially kill tax competition among states. Elected officials would have little incentive to keep tax rates – or government expenditures – in check. The current sales tax structure authorizes states and localities to determine taxing priorities, allowing tax bases and rates to vary as legislative bodies see fit. NTU frequently receives letters and email messages from individuals who are considering relocating their families and businesses and want to find information on state and local tax burdens. These individuals see tax competition among states as extremely beneficial.
(4.) Pro-taxpayer, pro-market policy suggestions that encourage economic growth and innovation in the telecommunications sector.
The following is a list of recommendations that would benefit taxpayers through lower taxes and economic expansion, as well as through innovation in the quality and delivery of telecommunication services.
Given the potentially destructive impact that expanding or raising Internet and telecommunications taxes could have on this important economic sector, the remedy could not be clearer: Congress and the states should declare this tax territory permanently "off limits." Again, I appreciate the opportunity to testify here today, Mr. Chairman. Our membership is grateful that the voices of taxpayers are being heard as well as recognized. I look forward to your questions.
 Scott Mackey, "Telecommunications and the Tangle of Taxes," State Legislatures, February 2000, www.ncsl.org.
 Scott R. Mackey, Testimony before the House Committee on the Judiciary, Subcommittee on Commercial and Administrative Law, Oversight Hearing on State Taxation of Internet Telecommunications Services, June 13, 2006.
 David Tuerck et al., "Taxes and Fees on Communication Services," The Heartland Institute, Policy Study #113, May 2007, www.heartland.org, p. 22.
 David Tuerck et al.
 Organisation for Economic Co-operation and Development, "OECD Broadband Statistics to December 2006," www.oecd.org/sti/ict/broadband.
 Steve Titch, "The $37 Billion Telecom Tax Burden," www.reason.org, May 1, 2007.
 Jerry Ellig and James Nicholas Taylor, "The Consumer Costs of Wireless Taxes and Surcharges," Working Paper in Regulatory Studies, Mercatus Center, March 2006, cited in David Tuerck et al.
 Austan Goolsbee, "The Value of Broadband and the Deadweight Loss of Taxing New Technology," Contributions to Economic Analysis & Policy, Vol. 5, Issue 1, 2006.
 Austan Goolsbee, pp. 19-20.
 Harley T. Duncan, "State and Local Retail Sales Taxes, Submitted to the President's Advisory Panel on Federal Tax Reform," Federation of Tax Administrators, April 2005.
 Federation of Tax Administrators, "State Sales Tax Rates and Vendor Discounts," January 1, 2006, www.taxadmin.org/fta/rate/vendor.pdf.
 United States Government Accountability Office, "Internet Access Tax Moratorium: Revenue Impacts Will Vary by State," January 2006, Highlights.