Jeff Bezos Axel Springer/Business Insider

The Supreme Court this week ruled that states can compel retailers to collect sales taxes even if they don't have a physical presence in the states.

It's good news for consumers.

It will ultimately lead to a fairer and more rational tax system, even if it means missing out on deals from time to time.



President Donald Trump says the Supreme Court decision in Wayfair vs. South Dakota is a "great victory for consumers and retailers."

He happens to be right, even if the real reason he likes this decision is he thinks it’s bad for Amazon and Jeff Bezos.

The decision reverses two Supreme Court rulings from decades ago, which said states couldn’t require retailers to collect and remit sales taxes if those retailers weren’t physically located in the taxing state.

In pre-internet times, there was a certain logic to this: Offline tax collection was complex and burdensome — especially since sales tax is often levied not just by states but by municipalities — and consumers did the vast majority of their shopping at brick-and-mortar stores anyway.

But as online retail proliferated and technology made tax compliance somewhat simpler, these decisions created an odd and growing tax loophole: Shop at your corner store and you had to pay sales tax; buy online, and you often could avoid it.

This week's court decision lets states close that loophole and will ultimately lead to a more rational tax system — which will be good for the public, even if it means missing out on deals from time to time.

Technically, these are taxes you’ve owed all along

Most sales taxes are called "sales and use tax," because consumers generally have a legal obligation to report and pay use tax when sales tax isn’t collected on a sale.

But except with regard to some big-ticket items like cars, enforcement of use tax is virtually impossible and consumers usually don’t even know they’re supposed to pay it. (Be honest: You've never paid it, have you?)

So as online retail has grown, states have sought increasingly clever ways to force out-of-state sellers to collect sales tax where they know their own residents are unlikely to pay use tax. Ohio has even asserted that online retailers have a "presence" in the state that obligates them to collect taxes if they put cookies on their customers' computers. (This claim has been tied up in court.)

Meanwhile, the biggest players like Amazon have had little choice but to establish true physical presences (warehouses and such) and start collecting tax in all or virtually all states.

But big gaps remained — for example, Amazon collected tax on its own sales but generally not on third-party sales through its marketplace. The whole system became a messy patchwork.

This week’s decision provides a way to clean up the patchwork: States may now require sellers to collect and remit sales tax, regardless of physical presence, so long as the states take certain steps to minimize the burden of compliance on out-of-state sellers.

This really is a win for consumers and most retailers

I get it: You liked not having to pay sales tax on some of the things you bought. But random loopholes are not the hallmark of a good tax code.

A sales tax is supposed to be a broad tax on consumption: You buy and use things, you pay tax. When you create a way for people to avoid the tax, you distort their behavior (pushing them to buy online when they might otherwise buy in a store) and you reduce tax collections.

That means the government either has to cut back on services or it has to raise taxes on something else.

We’ve seen that over the decades: Since 1970s, sales tax rates have gone up by a couple of points on average around the country, but sales tax collections have stayed about flat as a share of the economy. That’s because more and more of our spending has been on things that aren’t taxed — mostly because the economy is shifting away from taxed goods towards untaxed services, but also partly because of the online sales tax loophole.

This court decision will create a fairer playing field for retailers and make it easier for governments to continue financing themselves effectively through sales tax.

The decision does not create a free-for-all for states

Because of the Commerce Clause of the US Constitution, states are still subject to a requirement not to discriminate against or unduly burden out-of-state sellers. In upholding South Dakota’s sales tax law, the court identified several steps the state had taken to ensure it followed that requirement.

For example, South Dakota makes software available to out-of-state retailers, for free, to help them comply with its sales tax. It has one, centralized agency for tax collection — retailers don’t need to deal with individual city or county tax departments to remit local sales tax. And it is a member of the Streamlined Sales and Use Tax Agreement (SSTA), an interstate compact under which 21 states have agreed to adopt uniform rules about various aspects of their sales taxes.

Joe Henchman, who runs the state tax policy project at the Tax Foundation*, a conservative think-tank that supports the Wayfair decision, has been talking with officials from states who are looking to tax online sales in a way that complies with it.

“If you want to be absolutely sure that your statute is valid under these rules, you should try to emulate South Dakota as much as possible,” he says.

Only about half of states that levy sales tax are currently parties to the SSTA. Large states, in particular, have been reluctant to join, in part because of the flexibility they must give up in customizing their sales tax rules. But the promise of additional revenue from online sales taxes may push more states to join.

There is real revenue at stake here

You’ll see varying estimates going around of how much more sales tax revenue states might collect if they enact laws like South Dakota’s.

One estimate, from the economists Donald Bruce, William Fox and LeAnn Luna, put the figure at $17.4 billion annually, and rising, as of 2015. Henchman thinks the real figure is about half that, based on his analysis of states’ experience as they have succeeded in taxing a larger fraction of online sales over the last few years.

But even $8 billion nationally would be real money. As of 2015, states and localities collected $1.6 trillion in taxes, so closing the online sales tax loophole would be enough to boost that by about one-half of one percent. That would go a significant distance toward closing a budget gap of a few percentage points.

And, as more sales move online, the impact of closing the loophole will grow.

This decision can make our tax system a little less broken

It is important for a tax system to be adequate — that is, revenues should grow on pace with the economy, so the government can keep pace with the demand for services as the economy grows.

Over the decades, states have faced growing problems with tax adequacy. Sales taxes have suffered base erosion, as I discussed above. Property taxes have come under major political pressure: Taxpayers have revolted against increases in this inflexible tax, voting to impose caps that have in some states kept revenue growth well below economic growth.

These pressures have pushed states in two main directions: raising sales tax rates, and relying more on income taxes, especially (in recent years) on high earners.

Higher sales tax rates hurt the economy, and since sales taxes focus mostly on goods, they tend to take a larger bite out of low-income Americans’ wallets. Income taxes can be more progressive, but they also hurt the economy as rates rise, and income tax revenue volatility in recessions has worsened the severity of state budget crises.

This court decision makes it possible for states to raise somewhat more sales tax revenue without raising tax rates — an outcome that should be good for the economy and good for people who rely on services from state governments, which is all of us.

*Disclosure: I worked at the Tax Foundation from 2008 to 2009.