The U.S. Senate recently passed a bill that would allow states to require Internet retailers to collect sales taxes on behalf of local governments. This bill has flaws, but they could be fixed in the House. It should be passed.

I don't like the idea of the state and local governments collecting more taxes — they know no limits to their capacity to tax and squander our hard-earned dollars — but the current situation is unfair and bad economic policy. (Also, Marylanders stand to gain from this legislation in another way, because of a state law that will reduce future increases in gasoline taxes if taxing Internet sales is allowed.)


In 1992, the Supreme Court held that states did not have the power to levy taxes on online sales, unless the retailer has a physical presence in their state. Large retailers, like L.L. Bean, routinely charge the appropriate state taxes where they have a store or warehouse but not on sales in states where they do not.

Main Street retailers complain this places them at an unfair disadvantage, and they are absolutely correct. No local business would like the government giving a 5 percent price advantage to out-of-state competitors.

However, small retailers behave as if requiring Internet retailers to charge sales tax would be a salvation for their flagging fortunes. It wouldn't be.

Most local retailers, competing with Internet businesses and big box stores, lack the scale to offer the variety of products an increasingly diverse American population demands, and the scale to get favorable prices at wholesale.

Taxing Internet sales would make this problem worse by consolidating online competitors. The online bookstore in Tuscaloosa, Ala., is much less menacing to the small bookstore in Boston than However, the Senate bill, as currently written, would drive out the Alabama retailer and enlarge giants like

The Senate bill would allow states to require all retailers with more than $1 million in sales to collect and remit sales taxes to state and local jurisdictions. That would require coding each sale by ZIP Code and remitting to the states the appropriate taxes (those often vary not just by state but also city and county, and by products covered).

In the end, local vendors would have to rely on software or services comparable to the payroll services that now cut paychecks and remit withholding taxes on income, Social Security and unemployment insurance to state and local governments.

As anyone owning a small business knows, those services are far from perfect. Many have received erroneous assessments and penalties, owing to mistakes made by payroll services, and those take some considerable time and effort to resolve.

For payroll purposes, small businesses must deal with their home state and a few neighboring jurisdictions, but for the purposes of sales taxes the potential expands to more than 5,000 state, city and county governments. Imagine running a rare books store in Boston with an online presence and receiving a few hundred erroneous notices of assessment from jurisdictions as far away as Alaska.

Not surprisingly, is in favor of the legislation. It could handle these issues with relative ease; its small competitors could not. Paying sales taxes in all 50 states adds to its costs, but the benefits to its bottom line of driving out small competitors easily makes up the difference — with a big profit.

The Senate bill excludes retailers with annual sales of less than $1 million, but that is a pittance in retailing and bears no parallel to definitions of small business in other federal legislation. (For example, local restaurants and other businesses with fewer than 50 employees are exempt from Obamacare mandates to provide employee health insurance, and supporting 50 employees can easily require sales north of $10 million).

Although it is far from a perfect solution, raising the threshold for retailers that must collect sales taxes outside their jurisdiction to $10 million would do a lot to more to preserve small businesses — including brick and mortar retailers — than requiring virtually all retailers to comply.

Peter Morici, an economist and professor at the University of Maryland's Robert H. Smith School of Business, is a widely published columnist. His email is Twitter: @pmorici1.