[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]


 
                       INTERNET TAX FREEDOM ACT: 
                        INTERNET TAX MORATORIUM

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
                   COMMERCIAL AND ADMINISTRATIVE LAW

                                 OF THE

                       COMMITTEE ON THE JUDICIARY
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                               __________

                              MAY 22, 2007

                               __________

                           Serial No. 110-70

                               __________

         Printed for the use of the Committee on the Judiciary


      Available via the World Wide Web: http://judiciary.house.gov


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                       COMMITTEE ON THE JUDICIARY

                 JOHN CONYERS, Jr., Michigan, Chairman
HOWARD L. BERMAN, California         LAMAR SMITH, Texas
RICK BOUCHER, Virginia               F. JAMES SENSENBRENNER, Jr., 
JERROLD NADLER, New York                 Wisconsin
ROBERT C. SCOTT, Virginia            HOWARD COBLE, North Carolina
MELVIN L. WATT, North Carolina       ELTON GALLEGLY, California
ZOE LOFGREN, California              BOB GOODLATTE, Virginia
SHEILA JACKSON LEE, Texas            STEVE CHABOT, Ohio
MAXINE WATERS, California            DANIEL E. LUNGREN, California
MARTIN T. MEEHAN, Massachusetts      CHRIS CANNON, Utah
WILLIAM D. DELAHUNT, Massachusetts   RIC KELLER, Florida
ROBERT WEXLER, Florida               DARRELL ISSA, California
LINDA T. SANCHEZ, California         MIKE PENCE, Indiana
STEVE COHEN, Tennessee               J. RANDY FORBES, Virginia
HANK JOHNSON, Georgia                STEVE KING, Iowa
LUIS V. GUTIERREZ, Illinois          TOM FEENEY, Florida
BRAD SHERMAN, California             TRENT FRANKS, Arizona
TAMMY BALDWIN, Wisconsin             LOUIE GOHMERT, Texas
ANTHONY D. WEINER, New York          JIM JORDAN, Ohio
ADAM B. SCHIFF, California
ARTUR DAVIS, Alabama
DEBBIE WASSERMAN SCHULTZ, Florida
KEITH ELLISON, Minnesota

            Perry Apelbaum, Staff Director and Chief Counsel
                 Joseph Gibson, Minority Chief Counsel
                                 ------                                

           Subcommittee on Commercial and Administrative Law

                LINDA T. SANCHEZ, California, Chairwoman

JOHN CONYERS, Jr., Michigan          CHRIS CANNON, Utah
HANK JOHNSON, Georgia                JIM JORDAN, Ohio
ZOE LOFGREN, California              RIC KELLER, Florida
WILLIAM D. DELAHUNT, Massachusetts   TOM FEENEY, Florida
MELVIN L. WATT, North Carolina       TRENT FRANKS, Arizona
STEVE COHEN, Tennessee

                     Michone Johnson, Chief Counsel

                    Daniel Flores, Minority Counsel


                            C O N T E N T S

                              ----------                              

                              MAY 22, 2007

                                                                   Page

                           OPENING STATEMENTS

The Honorable Linda T. Sanchez, a Representative in Congress from 
  the State of California, and Chairwoman, Subcommittee on 
  Commercial and Administrative Law..............................     1
The Honorable Chris Cannon, a Representative in Congress from the 
  State of Utah, and Ranking Member, Subcommittee on Commercial 
  and Administrative Law.........................................     2

                               WITNESSES

Mr. David C. Quam, National Governors Association, Washington, DC
  Oral Testimony.................................................     5
  Prepared Statement.............................................     7
Mr. Scott Mackey, Kimbell Sherman Ellis, Montpelier, VT
  Oral Testimony.................................................    15
  Prepared Statement.............................................    16
Mr. Jerry Johnson, Oklahoma Tax Commission, Oklahoma City, OK
  Oral Testimony.................................................    19
  Prepared Statement.............................................    20
Mr. John Rutledge, The Heartland Institute, Chicago, IL
  Oral Testimony.................................................    23
  Prepared Statement.............................................    26
Mr. Mark Murphy, American Federation of State, County and 
  Municipal Employees (AFSCME), Washington, DC
  Oral Testimony.................................................    78
  Prepared Statement.............................................    79

                                APPENDIX
               Material Submitted for the Hearing Record

Post-Hearing Questions submitted by the Subcommittee on 
  Commercial and Administrative Law..............................    92
Post-Hearing Questions submitted by the Minority Office..........    94
Response to Post-Hearing Questions from David C. Quam, National 
  Governors Association, Washington, DC..........................    97
Response to Post-Hearing Questions from Scott Mackey, Kimbell 
  Sherman Ellis, Montpelier, VT..................................   101
Response to Post-Hearing Questions from Jerry Johnson, Oklahoma 
  Tax Commission, Oklahoma City, OK..............................   107
Response to Post-Hearing Questions from Mark Murphy, American 
  Federation of State, County and Municipal Employees (AFSCME), 
  Washington, DC.................................................   109
Article submitted by the Honorable Chris Cannon, a Representative 
  in Congress from the State of Utah, and Ranking Member, 
  Subcommittee on Commercial and Administrative Law..............   112


                       INTERNET TAX FREEDOM ACT: 
                        INTERNET TAX MORATORIUM

                              ----------                              


                         TUESDAY, MAY 22, 2007

              House of Representatives,    
                     Subcommittee on Commercial    
                            and Administrative Law,
                                Committee on the Judiciary,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 2:29 p.m., in 
Room 2141, Rayburn House Office Building, the Honorable Linda 
Sanchez (Chairwoman of the Subcommittee) presiding.
    Present: Representatives Sanchez, Johnson, Delahunt, Watt, 
Cannon, and Jordan.
    Ms. Sanchez. This hearing of the Committee on the 
Judiciary's Subcommittee on Commercial and Administrative Law 
will now come to order.
    I will now recognize myself for a short statement.
    In 2000, 2 years after the Internet Tax Freedom Act was 
first enacted, total e-commerce sales were estimated at $25.8 
billion. In 2006, total e-commerce sales exploded to an 
estimated $108.7 billion. This astounding expansion of Internet 
commerce has changed our world.
    Congress must now carefully consider Internet taxation so 
as to support the continued growth of e-commerce, while at the 
same time taking into account the revenue needs of State and 
local government.
    During today's hearing, we will hear from a variety of 
experts with differing views on how Congress should address the 
quickly approaching expiration of the Internet tax moratorium 
on November 1, 2007.
    The Internet Tax Freedom Act prevents State and local 
taxation of Internet access, ensures that multiple 
jurisdictions do not tax the same e-commerce transaction and 
protects e-commerce from discriminatory tax treatment.
    Although commonly misunderstood as a moratorium on all 
taxes related to an Internet transaction, the Internet Tax 
Freedom Act does not prohibit States from requiring in-state 
consumers to pay sales and use taxes on goods purchased online, 
nor does it prevent States from requiring out-of-state sellers 
with a substantial physical presence in the State to collect 
and remit sales and use taxes.
    As we consider different legislative approaches before the 
expiration of the moratorium, we must gain a deeper 
understanding of the critical issues in this debate. Congress 
must decide whether to extend the moratorium permanently or 
temporarily, or to simply let it lapse.
    If Congress does extend the moratorium, it should also 
consider whether to continue granting grandfather protection to 
certain States and localities that have imposed taxes on 
Internet access before the moratorium was enacted.
    Furthermore, Congress could consider the current 
definitions in the Internet Tax Freedom Act that have been the 
source of some apprehension and legal uncertainty for State and 
local governments, Internet access service providers, 
telecommunications companies and other interested entities.
    Specifically, the current definition of Internet access and 
the second clause of the definition of discriminatory tax have 
been subject to differing interpretations. Congress must also 
consider whether the rationales that justified passage of the 
Internet Tax Freedom Act in 1998 still hold true today.
    One of those rationales was that the moratorium would 
protect the fledging Internet and e-commerce industry while 
accelerating the building of the Internet infrastructure into 
poor and rural communities.
    To help us explore these issues, we have a distinguished 
witness panel with us this afternoon. We are pleased to have 
Dave Quam, director of Federal relations at the National 
Governors Association; Scott Mackey, a partner at Kimbell 
Sherman Ellis; Jerry Johnson, vice chairman of the Oklahoma Tax 
Commission; John Rutledge, senior fellow at The Heartland 
Institute; and Mark Murphy, a fiscal policy analyst for the 
American Federation of State, County and Municipal Employees.
    Welcome to our witness panel.
    I want to emphasize that today's oversight hearing is just 
the beginning of our consideration of issues related to State 
and local taxation of interstate commerce. While today we will 
only be generally discussing the Internet tax moratorium, the 
Subcommittee does plan to have a legislative hearing on the 
bills concerning this issue.
    The challenge in our work is not just to determine the 
impact of the Internet moratorium up to now, but also its 
potential impact on the future. We have every reason to believe 
that this great age of innovation has many, many more years 
ahead.
    Accordingly, I look forward to hearing today's testimony.
    And at this time, I would now like to recognize my 
colleague, Mr. Cannon, the distinguished Ranking Member of the 
Subcommittee, for his opening remarks.
    Mr. Cannon. Thank you, Madam Chair.
    Today, we are considering the implications of extending the 
Internet tax moratorium. Almost 10 years ago, Congress made the 
decision to protect Internet access and trade from 
discriminatory taxes. That was a wise decision that has led to 
a prospering of e-commerce beyond what anyone could have 
imagined.
    Now we have to ask ourselves whether it makes sense to 
continue that prosperity indefinitely. There are two bills, 
H.R. 743 and H.R. 1077, that would remove the sunset provisions 
of the Internet tax moratorium and forever prohibit States and 
localities from imposing discriminatory taxes on e-commerce.
    Our witnesses today will help answer whether Congress 
should make these provisions permanent. Several of them will 
agree with me that a permanent end to the discriminatory taxes 
will only help ensure America's place as a leader of Internet 
commerce in the global economy.
    I suspect other witnesses will disagree with that 
proposition and I look forward to hearing their views on how 
discriminatory taxes will improve America's competitiveness. 
Both of those would allow grandfather exceptions to the 
Internet moratorium to expire. One of those bills, H.R. 1077, 
would go further by eliminating the grandfather exceptions from 
the law entirely.
    Should we allow these grandfather provisions to expire? 
Have the States that have taken advantage of these provisions 
had sufficient time to wean themselves from the revenue that 
their discriminatory Internet taxes bring? I imagine that many 
here on the dais--of course, we don't have them really on the 
dais, do we? An issue much more important than the presence on 
the dais would suggest.
    And also on the witness panel believe that the answer to 
both of these questions is yes, but I suspect that we will hear 
differently from some of our witnesses. I also look forward to 
hearing these witnesses' testimony on the efforts of some 
States to impose taxes on some form of Internet access, 
notwithstanding the clear intent of Congress to the contrary.
    I think it is important to learn whether Congress needs to 
amend the Internet Tax Freedom Act to make this point even 
clearer.
    Madam Chair, keeping Internet commerce and access free from 
discriminatory taxes has been good for the American economy. I 
very much appreciate your efforts to hold this hearing today. 
However, given the importance of this issue and the fact that 
the current moratorium is expiring in just over 5 months, I 
hope that we can move quickly to address these issues in a 
markup.
    I look forward to hearing from our witnesses.
    Thank you, and I yield back.
    Ms. Sanchez. Thank you. I thank the gentleman for his 
statement.
    And, without objection, other Members' opening statements 
will be included in the record.
    Without objection, the Chair will be authorized to declare 
a recess of the hearing.
    And I would like to introduce our witnesses now, if we can.
    We have just been called to vote. I do apologize. We have 
no control over the voting schedule. I will try to do your 
introductions, we will step across the street for votes, and 
then we will come back and go straight into the testimony. I 
know you have been very patient in waiting.
    Our first witness is David Quam, director of the Office of 
Federal Relations for the National Governors Association. Mr. 
Quam manages NGA's legal and advocacy efforts, working closely 
with governors, Washington, DC, representatives, and NGA's 
standing committees to advance the association's legislative 
priorities. Prior to working at NGA, Mr. Quam served as counsel 
on the U.S. Senate Subcommittee on the Constitution, Federalism 
and Property Rights for the Committee on the Judiciary.
    Welcome.
    Our second witness is Scott Mackey. Mr. Mackey is a partner 
at Kimbell Sherman Ellis and assists clients in designing and 
implementing successful strategies in State capitals. Prior to 
joining KSE, Mr. Mackey was the National Conference of State 
Legislators' chief economist.
    Welcome to you.
    Our third witness is Jerry Johnson, vice chairman of the 
Oklahoma Tax Commission. Mr. Johnson was appointed vice 
chairman of the Oklahoma Tax Commission in August 1997 and 
reappointed to serve until his term expires on January 12, 
2009. Mr. Johnson is also the first vice president of the 
Federation of Tax Administrators.
    Our fourth witness is John Rutledge, senior fellow for 
economic growth and technology for The Heartland Institute. Mr. 
Rutledge is also a board member of the Progress and Freedom 
Foundation and a senior fellow at the Pacific Research 
Institute. Additionally, he is the chairman of Rutledge 
Capital, a private equity investment firm.
    Our final witness is Mark Murphy, a fiscal policy analyst 
for the American Federation of State, County and Municipal 
Employees. Mr. Murphy analyzes State and local budget and tax 
policies, focusing on tax expenditures, contracting, revenue 
adequacy issues and the responses to budget deficits. 
Additionally, Mr. Murphy conducts financial analysis of State 
and local governments for collective bargaining.
    Welcome to all of our panelists. We appreciate your 
willingness to participate in today's hearing.
    Without objection, your written statements will be placed 
into the record, and we would ask that you limit your oral 
remarks to 5 minutes.
    You will note that in front of you you have a lighting 
system. You will get the green light when your testimony 
begins. At 4 minutes, you will get a yellow light, which will 
warn you that you have got 1 minute left, and then you will get 
the red light. If you happen to notice that the red light is 
on, please try to summarize and wrap up your last sentence so 
we can move on to the next witness.
    After each witness has presented his or her testimony, 
Subcommittee Members will be permitted to ask questions, 
subject to the 5-minute limit. And depending upon the number of 
questions that are asked, we may go to a second round of 
questioning as well.
    With that, I think this is a natural place to break so that 
we can get across the street to vote, and when we come back we 
will jump straight into the testimony. So, thank you.
    [Recess.]
    Ms. Sanchez. The Committee will come to order. As I stated, 
we have Members trickling back from across the street, but we 
are going to go ahead and resume our hearing.
    And, with that, I would like to invite Mr. Quam to begin 
his testimony.

  TESTIMONY OF DAVID C. QUAM, NATIONAL GOVERNORS ASSOCIATION, 
                         WASHINGTON, DC

    Mr. Quam. Thank you, Madam Chairwoman, Mr. Cannon, Members 
of the Subcommittee. Thank you for inviting the National 
Governors Association to testify today.
    My name is David Quam, and I am the director of Federal 
relations for the NGA. I am pleased to be here on behalf of the 
Nation's governors to discuss the organization's perspective on 
the Internet Tax Freedom Act, which expires this November 1st.
    The bottom line for NGA is this: Although governors 
generally oppose Federal interference with State authority to 
develop and manage their revenue systems, NGA supports a 
temporary extension of the Internet Tax Freedom Act that 
clarifies the definition of Internet access and does not 
further limit State authority or revenues.
    Since this is an oversight hearing, and as I heard you say 
there would be several hearings on this issue, or other 
hearings on this issue, NGA would urge the Committee to follow 
a few guidelines when looking at this issue.
    First and foremost, be clear. Definitions matter. Because 
this is a bill that interferes with State and local revenues, 
it should be carefully tailored to meet a specific purpose. 
Second, remain flexible. A temporary solution is better than 
permanent confusion. Third, do no harm. Any extension of the 
moratorium should preserve existing State and local revenues.
    I will address each of those in turn with regard to the 
current moratorium. First, be clear. The definition of Internet 
access is one of the top issues for the Nation's governors. 
That is because the definition was written back in 1998, a time 
I think everyone would agree when the Internet was much 
different than it is today.
    The definition reads, the term Internet access means a 
service that enables users to access content, information, 
electronic mail or other services offered over the Internet. It 
continues by saying, and may also include access to proprietary 
content, information and other services as part of a package of 
services offered to users.
    The definition is a problem really because of the second 
phrase. Exactly what does it mean to be able to package other 
services? Are there limits on what Congress meant by that 
phrase? Certainly in 1998, in a time of dial-up, the number of 
services and goods and products coming over the Internet was 
much different than it is today.
    Today, services can be and will be delivered in an 
increasing fashion over the Internet, both telecommunications, 
television, other entertainment services, goods and products. 
In 2007, retail sales over the Internet are expected to exceed 
$252 billion. This is a much different Internet than 1998.
    NGA believes that the unlimited ability of providers to 
bundle together content and other services into a single tax-
free offering represents a loophole in the definition that 
Congress should close. Again, on the definitions, be clear.
    Congress should be specific as to what is included. It is 
our position that Congress did not intend that just because a 
service is offered over the Internet that it should be tax-
free. Rather, it is Internet access, the ability of a user to 
get to the Internet, that is the key provision.
    Second, stay flexible. Any extension should be temporary. 
This is obviously a very big issue. This law has been extended 
several times, but since 1998 and in every extension, the 
Internet has evolved and grown into something that was not 
considered during the last extension of this moratorium.
    In 2004, the key issue was telecommunications, how to 
create parity between DSL and cable when there was not parity 
from a taxing standpoint. That bill addressed that issue. 
However, on the horizon with VOIP service, would voiceover 
Internet replace telecommunications, and could it be bundled 
under the definition and the loophole that we described?
    Ultimately, Congress decided to exempt VOIP to address that 
issue. However, it has not solved the problem of the 
definition. A temporary moratorium allows Congress, industry 
and State and local governments another opportunity to review 
where this industry stands, how has the Internet developed and 
how is it being used?
    This is one of the most dynamic industries in the United 
States. It is succeeding beyond anyone's imagination. The 
moratorium itself is not the cause of that growth. Rather, it 
is the innovation that comes with a new medium that is causing 
such explosive use of the Internet. Also, if a moratorium is 
made permanent, there is a slippery slope where other 
industries, seeking to preempt State and local taxes, will seek 
their own moratoriums, with their own preemptions of State 
laws.
    It is very easy to try to come to Congress and ask for a 
one-stop shopping to preempt the States rather than going and 
dealing with those who have to make the decisions, State and 
local governments and local officials regarding the revenue 
systems.
    Ms. Sanchez. Mr. Quam, I am sorry, but your time has 
expired. It goes quickly, I know.
    Mr. Quam. That is fine. Thank you.
    [The prepared statement of Mr. Quam follows:]

                  Prepared Statement of David C. Quam

















    Ms. Sanchez. We will get at some of those issues, I am 
sure, in the questioning.
    Mr. Mackey, would you please begin your testimony?

                  TESTIMONY OF SCOTT MACKEY, 
             KIMBELL SHERMAN ELLIS, MONTPELIER, VT

    Mr. Mackey. Thank you, Madam Chair, Mr. Cannon and Members 
of the Committee. My name is Scott Mackey. I have been working 
with the telecommunications companies, wireless companies, for 
the past 7 years at the State and local level to work on 
elimination and rolling back of some of the discriminatory 
taxes on telecommunications services.
    Today, I am here to talk primarily about three things, 
first of all, the permanent extension of the moratorium's 
beneficial impact on investment; secondly, a permanent 
moratorium and its beneficial impact on continued efforts to 
try to close the digital divide and make sure we keep Internet 
access affordable and don't burden some of our lower-income 
families with excessive taxes; and, third, I would like to make 
a couple of comments about the 2004 amendments and what the 
intent was and what some of the results have been in the 
States, as some States have interpreted what Congress did back 
in 2004.
    On the first issue of the impact on investment, I am not 
going to spend much time on it, because Dr. Rutledge is here 
and he knows a lot more about this than any of us in the room. 
Just a couple of quick points. The Internet tax moratorium, the 
success of that legislation and Congress's foresight really 
speaks for itself.
    The U.S. has been a global leader in attracting 
investments, spurring high technology and innovation, both with 
applications providers and with the Internet backbone itself. 
And I guess the takeaway is that taxes do matter. You are going 
to hear that taxes don't matter, and I think that taxes do 
matter, and the other thing that matters, and the other reason 
why a permanent moratorium would be good for the U.S. economy 
is that stability matters to investors.
    Investors need to know what the time horizon is going to 
be, and they need to know that there is going to be a stable 
tax policy going forward when they decide how to invest. And a 
permanent moratorium would provide that kind of stability and 
it would prevent the kind of thing that is happening, for 
instance, in Missouri, where local governments are coming after 
telecom providers and saying the tax that we have had for 50 
years on local exchange service, you should have been 
collecting that on wireless and you should have been collecting 
it on other services. And they are actually making them go 
backwards in trying to get them to pay taxes that were never 
intended to be on those services, and that is the kind of 
instability that really hurts investment.
    The second issue of the digital divide is one where we are 
finally seeing the benefits of competition bringing down prices 
for high-speed Internet access, and as a result we are seeing 
more and more lower-to moderate-income families being able to 
afford Internet access, which everyone is calling critical for 
our competitiveness in the 21st century.
    So at a time when we are finally starting to make some 
progress there, to allow a moratorium to expire and have new 
taxes be imposed on Internet access--and what we are talking 
about here are not just sales taxes. We are talking about the 
excessive and discriminatory taxes that States have been 
imposing on the telecommunications industries for years, 
accused of being a monopoly.
    There are ample examples of that happening, where States 
through interpretations in tax departments and through 
legislative decisionmaking could essentially impose these new 
discriminatory taxes on Internet access. And the studies that 
have been done in the late 1990's by The Heartland Institute 
show that those tax burdens are 2.5 times those imposed on 
sales taxes.
    So there is a real threat if the moratorium were to expire 
that you would see these excessive new taxes be imposed on 
Internet access. And these are regressive taxes that hit low-
income people the hardest. And, finally, let me just make a 
quick comment about the 2004 amendments where the Internet 
access definition was modernized to try to address really two 
issues.
    First was to try to bring parity between DSL and wireless 
Internet access on the one hand and cable modem service on the 
other, where because there was a telecommunications exclusion, 
those services were being subject to tax by some States, where 
cable modem service wasn't. And I think that issue has 
primarily been addressed, but there was a second thing that 
Congress was trying to do by adding that language to the 
exclusion, and basically that is try to stop States from 
saying, okay, we are not going to tax the end user, we are 
going to essentially levy a backdoor tax on the wholesale 
Internet telecommunications services that are purchased, used 
or sold to provide Internet access.
    And, therefore, the consumer wouldn't see a tax on his 
bill, but nonetheless they were being forced to pay and it was 
embedded in the price. And we think Congress intended to stop 
that. There are a handful of States who I think have 
interpreted it the way Congress intended, but there are a 
larger number of States who are interpreting as saying that we 
can still tax that telecommunications that is purchased, used 
or sold.
    So I look forward to the question-and-answer. That is what 
I concentrated my prepared remarks on, and I again appreciate 
the opportunity to testify today. Thank you.
    [The prepared statement of Mr. Mackey follows:]

                   Prepared Statement of Scott Mackey

    Chairwoman Sanchez, Representative Cannon, and members of the 
subcommittee, thank you for this opportunity to testify on an issue of 
real importance to millions of consumers and businesses across the 
United States.
    My name is Scott Mackey and I am an economist and partner at 
Kimbell Sherman Ellis LLP. Over the past seven years, I have worked as 
a consultant to major wireless telecommunications providers seeking to 
reduce or eliminate excessive and discriminatory taxes on 
communications services at the state and local level. I appear today on 
behalf of a broader coalition of Internet service providers, Internet 
``backbone'' providers, and Internet application and content 
providers--the ``Don't Tax Our Web'' coalition--to support a permanent 
extension of the Internet tax moratorium.
    Unless Congress acts, the Internet Tax Freedom Act will expire on 
November 1, 2007. I will focus on three important reasons why Congress 
should make the Internet tax moratorium permanent:
    * First, at a time when state and local economic development 
experts are touting broadband as critical to economic competitiveness, 
new taxes on Internet access could have a chilling effect on broadband 
investment.

          Second, now that competition between different types 
        of Internet access providers is lowering prices for consumers 
        and making high-speed Internet access more accessible and 
        affordable to lower income households, regressive new taxes on 
        Internet access would create a new obstacle in efforts to close 
        the ``digital divide.''

          Finally a number of states and localities are 
        ignoring the will of Congress and Congress therefore needs to 
        make it clear once and for all that the transport underlying 
        the provision of Internet access and high speed Internet access 
        is covered by the moratorium on taxes on Internet access 
        service. Otherwise, the record is clear that states and 
        localities will seek to avoid the moratorium on Internet access 
        taxes by imposing taxes on the underlying transport and high 
        speed Internet access. Recent studies of the taxation of 
        telecommunications services suggest that such transport taxes 
        could be excessive and discriminatory.

(1) Taxes on Internet access could have a chilling effect on investment 
        in broadband networks.

    The Internet Tax Freedom Act was adopted by the Congress and signed 
into law by President Clinton in 1998 to promote the availability of 
Internet access services by avoiding excessive and inconsistent 
taxation of these services. Congress was rightly concerned that high 
taxes and the administrative burdens of filing in thousands of taxing 
jurisdictions would impose undue burdens on consumers and impose a 
barrier to competitors and innovation.
    The moratorium, by preventing the imposition of excessive 
telecommunications and other taxes on Internet access, has been 
instrumental in promoting the rapid development of high speed broadband 
networks and the web-based applications that use these networks. 
Congress' foresight in adopting the moratorium has benefited the entire 
US economy by improving the productivity of American businesses and 
lowering prices for consumers through competition.
    For example, a recent study by the international technology 
consulting firm Ovum and Indepen found that as much as 80% of the 
productivity growth in the entire economy in 2003 and 2004 was due to 
just two sectors: communications and information technology.\1\
---------------------------------------------------------------------------
    \1\ Lewin, David and Roger Entner. ``Impact of the US Wireless 
Telecom Industry on the US Economy,'' Ovum and Indepen, Boston, MA, 
September 2005.
---------------------------------------------------------------------------
    Economists strongly discourage policymakers from imposing taxes on 
investment. However, in the case of investments in the communications 
networks that make up the backbone of the Internet, tax policies that 
discourage investment are especially problematic because of the network 
benefits of advanced investments in the telecommunications 
infrastructure. Network benefits are the economic benefits provided by 
infrastructure investments--benefits that extend beyond the direct 
impact on the affected industry and enhance growth throughout the 
entire economy.
    The data are clear: investments that increase the speed and reach 
of communications networks improve the productivity of the businesses 
that use these networks to conduct business every day. For this reason, 
tax policies that have the effect of reducing investment in 
telecommunications networks have negative consequences that extend far 
beyond the firms directly hit with the new taxes.
    New taxes on Internet access, or discriminatory taxes on electronic 
commerce, would impose significant new costs on purchasers of Internet 
access and purchasers of goods and services that are delivered over the 
Internet. Higher prices for such services would reduce sales, reduce 
company revenues, and thus lower the rate of return on investments in 
communications networks and the applications provided over them. In 
addition, new taxes would increase the cost of doing business for US 
firms that increasingly rely on Internet-based applications and 
services as part of their operations.
    Much has been written in the last few years about the investments 
that our economic competitors in China, India, and other nations are 
making in their communications networks. They recognize that broadband 
networks are crucial components of a successful strategy to compete in 
a global economy.
    Here at home, the Congress, our governors, state legislators, and 
local officials also recognize the importance of broadband networks in 
an overall economic development strategy. In my home state of Vermont, 
the General Assembly has just agreed to a new program to borrow 
millions of dollars to expand broadband and wireless coverage statewide 
by 2010.
    Unfortunately, in many states, state economic development policy 
and tax policy are not aligned. On the one hand, states subsidize 
broadband deployment while on the other hand they impose excessive 
property and sales taxes on the equipment necessary to provide 
broadband service. A review of current state tax policy suggests that, 
notwithstanding the good intentions of state and local governments, 
economic development priorities alone are not enough to prevent state 
and local governments from pursuing tax policies that are 
counterproductive to economic growth.
    Congressional approval of a permanent moratorium would send a clear 
signal to the markets that long-term investment decisions will not be 
undermined by the imposition of new taxes on Internet access or 
discriminatory taxes on electronic commerce. Such a strong, pro-
investment signal from the Congress would help ensure that these 
investments--which have had such an important role in US economic 
growth and productivity over the last decade--will continue to be 
encouraged and rewarded. It will send a signal to the markets to invest 
here, not abroad.

(2) Regressive new taxes on Internet access would hurt efforts to close 
        the ``digital divide.''

    The ``convergence'' that many in the industry have been touting for 
years is finally here. In more and more areas of the country, consumers 
have choices. They can get high-speed Internet access from a cable 
provider, DSL from a telecommunications company, or WIFI or ``3G'' 
service from a wireless provider. Other technologies on the horizon may 
provide even more competitive choices. The key to this consumer choice 
is the availability of competing networks that reach the consumer.
    As a result of competition, the price of broadband Internet access 
service has fallen in many markets. In those areas that still lack 
competition, the key to bringing down prices for consumers is to get 
competing networks built and operating.
    At the very time that the benefits of competition are coming to 
low- and moderate-income households, the imposition of new taxes on 
Internet access would increase prices and make broadband access less 
affordable. This would be especially problematic if excessive state and 
local telecommunications taxes were imposed on the service.

(3) Congress should act to ensure that the moratorium is not undermined 
        by state and local taxation

    The Internet Tax Freedom Act's moratorium on state and local taxes 
covers the transport purchased, used, and sold by Internet access 
service providers to provide Internet access and high speed Internet 
access. Nonetheless, some states and localities have persisted in 
imposing taxes on Internet transport and high speed Internet access. If 
left unchecked, such activities will undermine the moratorium. From an 
economic standpoint, taxes on the transport component of Internet 
access are indistinguishable from taxes on Internet access services. 
Both put the same upward pressure on end user rates, deterring the 
growth of Internet access subscribership.
    The willingness of states and localities to tax communications 
services at excessive and discriminatory rates highlight the risk to 
consumers of indiscriminate new taxes if the moratorium is not extended 
and its applicability to Internet transport is not clarified once and 
for all.
    In 1999, the Committee on State Taxation released a comprehensive 
study of the state and local tax burden on telecommunications 
services.\2\ The study found that consumers of telecommunications 
services paid effective state/local tax rates that were more than twice 
those imposed on taxable goods sold by general business (13.74% vs. 
6%). Including federal taxes, the tax burden was nearly three times 
higher than general business. In addition, due to the sheer number of 
different state and local taxes imposed in many jurisdictions, the 
typical communications service provider was required to file seven to 
eight times as many tax returns compared to those filed by typical 
businesses (63,879 vs. 8,951 annually).
---------------------------------------------------------------------------
    \2\ Committee on State Taxation, ``50-State Study and Report on 
Telecommunications Taxation.'' Washington, DC, 1999.
---------------------------------------------------------------------------
    Unfortunately, with the exception of Virginia, states with 
excessive and discriminatory taxes on telecommunications service have 
not reformed their taxes to reduce the level of taxation imposed on 
these services to the same level imposed on other competitive goods and 
services. The Heartland Institute released a new report this month that 
found that consumers of cable TV, wireless and wireline phone service 
paid an average of 13.5% in taxes, more than two times the 6.6% average 
sales tax rate. The study found that the average household would pay 
$125 less in taxes per year if excessive taxes on cable TV and 
telecommunications were lowered to the sales tax rate. The failure of 
most State and local governments over the past decade to reduce 
excessive and discriminatory taxes on telecommunications services and 
the efforts by some states and localities to circumvent the moratorium 
by taxing telecommunications transport in blatant disregard of the 
moratorium heightens the risk that, absent the moratorium, these 
excessive and discriminatory could be extended to Internet access. The 
moratorium was enacted to prevent this from happening, and this threat 
is as real in 2007 as it was in 1998. It is time to make the moratorium 
permanent and to end the state grandfather clauses.
    There is widespread agreement that, given the critical importance 
of education in the global economy, broadband access is not a luxury 
but a necessity for American families. Making the moratorium permanent 
and clarifying the scope of its applicability would ensure that 
regressive state and local taxes do not impose another obstacle on the 
ability of low-income families to prepare for and participate in the 
global economy, particularly since only 16 states specifically exempt 
Internet access from their sales or communications taxes.\3\
---------------------------------------------------------------------------
    \3\ AL, AZ, CO, CT, DC, FL, IA, MD, MA, MI, MO, NY, NC, PA, UT, VA.
---------------------------------------------------------------------------
    To summarize, making the Internet tax moratorium permanent will 
provide important social and economic benefits for American consumers 
and businesses. A permanent moratorium will send a strong, pro-
investment signal to those entrepreneurs that are looking to improve 
communications and commerce over the Internet. It will prevent the 
imposition of expensive new taxes and administrative burdens on 
businesses that conduct interstate commerce over the Internet. It will 
ensure that regressive new tax burdens are not imposed on lower-income 
American families seeking to ensure that their kids are prepared for 
the global economy.
    Madame Chair and members of the subcommittee, thank you again for 
the opportunity to testify on this important subject, and I 
respectfully urge you to pass a permanent extension of the moratorium.

    Ms. Sanchez. Thank you. You came in right at the 5-minute 
mark. Very good.
    Mr. Johnson, please begin.

 TESTIMONY OF JERRY JOHNSON, OKLAHOMA TAX COMMISSION, OKLAHOMA 
                            CITY, OK

    Mr. Johnson. Thank you, Madam Chairwoman and Mr. Cannon.
    My name is Jerry Johnson. I am the vice chairman of the 
Oklahoma Tax Commission. I am here today on behalf of the 
Federation of Tax Administrators. FTA is an organization that 
represents revenue departments in the 50 States, the District 
of Columbia, Puerto Rico and New York City.
    The main point that I want to get across this afternoon is 
that we would urge this Committee to use extreme caution 
whenever you take action that infringes upon the rights of 
States to set their own tax policy. In the state of Oklahoma, I 
have served in a couple of capacities. For the past 10 years, I 
have been a member of the tax commission, and prior to that I 
worked for the appropriations staff of the State senate.
    And, during my time working for the appropriations staff, I 
developed an appreciation for the demands that are placed on 
State government and local governments for providing services. 
And I know you are all aware of those demands at the Federal 
level, but those demands are growing at the State level. And my 
time on the tax commission, I have developed an appreciation 
for the demands placed on State revenue systems and the States' 
efforts to try to keep those systems fair and broad, but also 
for those systems to try to meet the needs of the services that 
are demanded in the States.
    In Oklahoma, our governor and legislature recently made 
long-term multiyear commitments to increase funding for 
education and increase funding for roads. I think that is a 
very important thing for our State, but it is also a very 
important thing for our country that States are able to make 
those types of investments if we are to compete.
    And a concern that the States have is if this definition 
and if this moratorium can be construed to greatly rolling back 
existing tax revenues that States won't have the revenues and 
the sources to make those kind of investments. In Oklahoma, for 
example, not only do we have a balanced budget amendment, but 
we have severe constitutional restrictions on the ability of 
the legislature to raise revenues.
    There are two kind of fiscal problems I think that face the 
States. One is we have economic upturns and downturns that mean 
revenues go up and down. And I think States have done a very 
good job of trying to deal with those. We have rainy day funds. 
We use other one-time revenues to try to address those. But, to 
me, the most significant problem facing the States is the long-
term erosion of the tax base.
    As the economy changes and things shift to services or 
things shift to the Internet or through Federal preemption, if 
our tax base is eroded, then our ability to meet those demands 
is greatly diminished.
    From the Federation perspective, as Congress continues the 
extension of the moratorium, we would ask you to consider three 
things: one, we believe that the definition needs to be 
revisited and reworked. We are very concerned that the 
definition goes beyond the original intent and that the 
definition could be construed to be much broader than intended 
and that would have serious consequences on the ability of 
State and local governments to fund necessary services.
    The second thing is we think it is very appropriate to have 
a temporary extension. In most instances when we are dealing 
with Federal tax law, we have the IRS there or we have an 
executive agency there to monitor the implementation of the 
law, to write rules. That doesn't exist in this case, and so we 
are concerned that there needs to be that monitoring, that re-
looking at the definition, and as technology changes that the 
definition be brought up to date to what was really intended by 
Congress.
    And we think it is very appropriate for Congress to take 
that oversight role and for Congress to come back and revisit 
the definition and make sure things are working the way you 
intended, and so that is why we feel it should be temporary.
    The third item is the grandfather clause. We think it is 
very important that the grandfather provision be retained 
because of possible other consequences on other taxes other 
than just access charges that relate to the grandfather clause.
    But, again, I thank you very much for the opportunity to be 
here and look forward to answering questions.
    [The prepared statement of Mr. Johnson follows:]

                  Prepared Statement of Jerry Johnson

    My name is Jerry Johnson. I am the Vice Chairman of the Oklahoma 
Tax Commission and am testifying today on behalf of the Federation of 
Tax Administrators of which I am First Vice President. The Federation 
is an association of the tax administration agencies in each of the 50 
states, the District of Columbia, Puerto Rico, and New York City. We 
are headquartered in Washington, D.C.
    The Federation urges the Congress to refrain from enacting measures 
that abrogate, disrupt or otherwise restrict states from imposing taxes 
that are otherwise lawful under the U.S. Constitution. The current 
prohibition on the imposition of taxes on charges for Internet access 
as contained in the Internet Tax Nondiscrimination Act (the moratorium) 
is the type of law that should be avoided, especially on a permanent 
basis.
                          summary of position
    The Federation urges Congress not to extend the Act because it is 
disruptive of and poses long-term dangers for state and local fiscal 
systems. Moreover, the General Accountability Office and other 
researchers have found that the moratorium is not effective in 
achieving its purported purpose of expanding the availability of 
Internet access to the American public and bridging what has been 
termed as the ``digital divide.''
    If, however, Congress believes the Act should be extended we 
believe there are three principles that should be followed:

          The definition of ``Internet access'' in current law 
        must be changed. As currently written, we believe that an 
        Internet service provider could bundle virtually all types of 
        Internet services, content and information (some of which may 
        be currently taxable) into a package of ``Internet access'' and 
        claim that the state would be preempted from taxing any part of 
        that package. The danger to state and local fiscal systems over 
        the long term from the current expansive definition is 
        considerable.

          Any extension of the Act should be temporary in 
        nature. The nature of the online world and the manner in which 
        the public accesses and uses that world continues to change 
        rapidly. The long-term impact on state and local finances is 
        still evolving. Given what everyone acknowledges will be 
        continuing rapid change, it seems only prudent that any 
        extension be temporary and that Congress revisit the policy and 
        its impact in a few years.

          The provision of the Act preserving those taxes on 
        Internet access that were ``generally imposed and actually 
        enforced'' prior to 1998 should be continued if the Act is 
        extended. The intent when the original Internet Tax Freedom Act 
        was passed in 1998 was not to disrupt existing practices and 
        that commitment should be maintained.
                        impact of the moratorium
    Congress was responding to several concerns when it originally 
passed the Internet Tax Freedom Act in 1998. Among these was that the 
Internet and electronic commerce were ``fledgling industries'' that 
should be protected from state and local taxation for fear that the 
taxes would be burdensome and complex and somehow prevent the growth 
and survival of the industry. In addition, there was a belief that 
preempting state and local taxation of charges for Internet access 
would provide a financial incentive to U.S. households to subscribe to 
Internet services and would encourage the Internet industry to deploy 
services to underserved areas.
    While the goals are laudable, the economic evidence is that state 
taxation of Internet access charges has little or nothing to do with 
the adoption of Internet services by consumers or the deployment of 
services by industry. The Government Accountability Office (GAO) was 
required to perform a study on the deployment of broadband service in 
the United States when the Moratorium was last extended.\1\ The key 
findings regarding taxes in their report reads as follows:
---------------------------------------------------------------------------
    \1\ Government Accountability Office, ``Telecommunications--
Broadband Deployment is Extensive throughout the United States, but It 
Is Difficult to Assess the Extent of Deployment Gaps in Rural Areas'' 
(GAO-06-426). In the GAO study, the term ``deployment'' refers to the 
offering of broadband services by various types of providers and the 
term ``adoption'' refers to the use of broadband services by consumers.

          ``Finally, using our econometric model, we found that 
        imposition of taxes was not a statistically significant factor 
---------------------------------------------------------------------------
        influencing the deployment of broadband.''

          ``Using our model, we found that the imposition of 
        the tax was not a statistically significant factor influencing 
        the adoption [by consumers] of broadband service at the 5 
        percent level. It was statistically significant at the 10 
        percent level, perhaps suggesting that it was weakly 
        significant factor. However, giving the nature of our model, it 
        is unclear whether this finding is related to the tax or other 
        characteristics of the states in which the households 
        resided.''

    GAO found that factors such as the education level of the head of a 
household and the income of the household influenced the purchase of 
broadband services. A household headed by a college graduate was 12 
percentage points more likely to purchase broadband than those headed 
by a person who did not graduate from college. High-income households 
were 39 percent more likely to adopt broadband than lower-income 
households.
    A study by economists at the University of Tennessee likewise found 
that taxation of Internet access had ``no empirical evidence that 
Internet access rates are lower in state that have levied a tax on 
Internet access, all else being equal.'' \2\
---------------------------------------------------------------------------
    \2\ See also Donald Bruce, John Deskins and William F. Fox, ``Has 
Internet Access Taxation Affected Internet Use,'' State Tax Notes, May 
17, 2004, pp. 519-526.
---------------------------------------------------------------------------
    Concern about the moratorium and its extension should not be 
interpreted as suggesting that states and localities do not recognize 
the importance of the Internet industry and the benefits improved 
service and utilization can provide to the citizens. The GAO report 
referenced earlier highlighted several examples of state and local 
programs aimed a providing assistance and incentives for the deployment 
of Internet technologies, including:

          The Texas Telecommunication Infrastructure Fund begun 
        in 1996 that committed to spend $1 billion on 
        telecommunications infrastructure.

          Connect Kentucky's an alliance of technology-focused 
        businesses, government entities, and universities that work 
        together to accelerate broadband deployment.

          Virginia Tobacco Indemnification and Community 
        Revitalization Commission is designed to stimulate economic 
        development opportunities by encouraging the creation of new 
        technology-based business and industry.
                     definition of internet access
    The current definition of Internet access was devised in large part 
in 1998 with ``dial-up Internet access'' in mind. It has not kept pace 
with the manner in which Internet technology and services and 
electronic commerce have evolved. While changes enacted in 2004 did 
much to remove discrimination among various types of Internet access 
providers, they did nothing to avoid a potential unintended erosion of 
state tax bases.
    The current definition of ``Internet access'' \3\ effectively 
allows a broad range of content, information and services to be bundled 
with Internet access and potentially be considered as protected under 
the prohibition on the imposition of taxes on Internet access. This 
results because the term ``access'' can be interpreted to mean a 
``right to use,'' meaning a ``right to use'' all the information, 
services and content on the Internet as part of a package of access. 
The range of content and service that can be bundled with Internet 
access is virtually unlimited. It includes all manner of electronic 
books, movies, music, photographs, services, databases, information 
services and the like.\4\
---------------------------------------------------------------------------
    \3\ Section 1105(5) of the original Internet Tax Freedom Act, at 47 
U.S.C.A. Sec. 1105(5), provides: ``The term `Internet access' means a 
service that enables users to access content, information, electronic 
mail, or other services offered over the Internet, and may also include 
access to proprietary content, information, and other services as part 
of a package of services offered to users. The term `Internet access' 
does not include telecommunications services, except to the extent such 
services are purchased, used, or sold by a provider of Internet access 
to provide Internet access.''
    \4\ The Moratorium's accounting rule for separating individual fees 
would not come into play because all of the bundled content would be 
considered ``Internet access.''
---------------------------------------------------------------------------
    The current definition allows a growing proportion of the state and 
local tax base to be effectively put ``off limits'' by federal 
legislation with such a broad definition of Internet access. We do not 
believe this was the intent of Congress when it originally passed the 
Internet Tax Freedom Act nearly nine years ago.
    If the current moratorium with the current definition of Internet 
access is made permanent it would lead widespread tax avoidance and 
litigation that today does not occur because it is temporary. The 
temporary nature of the moratorium deprives companies of the long-term 
financial inducements to ``push the edge of the envelope'' in 
interpreting the law to maximize their competitive advantage over 
``bricks and mortar'' businesses. If the current definition of Internet 
access were made permanent there would be a considerable opportunity to 
gain a long-term competitive advantage over traditional businesses that 
cannot be realistically denied.
    The current definition of Internet access poses an issue not only 
for state and local governments, but also for significant segments of 
the private sector. Firms that are providing content, video, or other 
services that compete with those provided by Internet service providers 
will face a discriminatory and unfair competitive situation if those 
services when provided as part of Internet access are protected from 
state and local taxation, but services provided outside a bundle that 
includes access are subject to state and local taxes. The convergence 
of technologies and the consolidation in the communications industry 
suggest that this discrimination will be a real issue ``sooner rather 
than later.''
    The Federation has worked and continues to work to develop a 
definition of Internet access that is acceptable to all parties and 
that is consistent with what we believe all parties actually understand 
the ``intent'' of the original bill to be. Our intent is to craft 
language that will allow Internet access packages consistent with those 
now offered to continue to be subject to the moratorium, but to avoid 
the bundling of other products and services into the package.
    We have worked with Committee staff and have reached out to the 
Internet industry to develop such language. We look forward to 
continuing that effort if an extension of the moratorium moves forward.
                          temporary extension
    If the Act is to be extended, it should be done on a temporary, 
short-term basis--even if the definition of Internet access is amended. 
A short-term extension would insure that the Moratorium's impact on 
state and local revenues is examined periodically and that unintended 
consequences are not occurring. This is necessary because of the 
continuing expansion of Internet availability and the expanding array 
of activities conducted on the Internet, which make it very difficult 
to predict the impact of restrictions. It is also desirable to insure 
that the industry has not changed in ways that somehow causes the 
moratorium to discriminate among Internet service providers. It was 
this sort of discrimination among providers that was, in fact, among 
the most contentious issues when the Act was last considered in 2003-
2004. Finally, presuming a change in the definition of Internet access, 
it would be advisable to review the impact of that change in the near- 
to medium-term to insure that it is performing as intended.
     preservation of taxes on internet access imposed prior to 1998
    Any extension of the Act should preserve the ability of those 
states currently imposing a tax on charges for Internet access to 
continue to do so if they so choose. The stated intent when the 
original Internet Tax Freedom Act was passed in 1998 was not to disrupt 
existing practices. Given the economic evidence that taxation of 
charges for Internet access has not impact on the availability or use 
of Internet access by households in these states, we see no reason that 
commitment should not be maintained.
    Nine states currently impose taxes that are protected--Hawaii, New 
Hampshire, New Mexico, North Dakota, Ohio, South Dakota, Texas, 
Washington and Wisconsin. The Congressional Budget Office estimated 
that in 2003, these states collected on the order of $120 million from 
their taxes on charges for Internet access. Repealing the 
grandfathering protection would disrupt the revenue stream of these 
states--each of which must maintain a balanced budget. Repealing the 
preemption would constitute an intergovernmental mandate under the 
Unfunded Mandate Reform Act.
    Preservation of the grandfather for pre-1998 taxes is an issue that 
is important not only to these states. The grandfather also covers a 
variety of general business taxes that may be imposed on a wide range 
of businesses (e.g., state and local gross receipts taxes, unemployment 
taxes, taxes on machinery and equipment purchases, real estate transfer 
taxes, etc.) that are not generally considered ``taxes on Internet 
access'' but would be subject to challenge under the Act if the 
grandfather clause is repealed.
                               conclusion
    We submit that the ``fledgling industry'' argument for Internet 
services in the United States is no longer relevant. Electronic 
commerce is a mature and important part of the U.S. and international 
economy. The continued moratorium on taxing charges for Internet access 
should be evaluated. In our estimation, there has been no showing that 
the purchase or supply of Internet access services in those states that 
tax the services has been adversely affected. Neither has there been a 
showing of an undue compliance burden on Internet service providers 
that would justify the preemption. Continuing the preemption simply 
provides a special position for this particular communications medium 
and unfairly shifts the burden of taxation on to other activities.
    If the preferential treatment of Internet access continues, three 
matters should be addressed:

          The scope of the preferential tax treatment 
        (definition of Internet access) needs to be limited to protect 
        businesses that compete with Internet companies;

          The Act should be made temporary to insure periodic 
        review of the Act and its consequences; and

          The original commitment to those states imposing 
        taxes on Internet access should be continued.

    Ms. Sanchez. Thank you, Mr. Johnson.
    Mr. Rutledge?

                  TESTIMONY OF JOHN RUTLEDGE, 
              THE HEARTLAND INSTITUTE, CHICAGO, IL

    Mr. Rutledge. I will have to talk even faster.
    Madam Chairwoman, Representative Cannon, Members of the 
Committee, thank you for having me here to testify on this 
important issue.
    My name is John Rutledge. I am an economist, chairman of 
Rutledge Capital, private equity investor in Greenwich, 
Connecticut. I am a senior research fellow at Heartland 
Institute and a number of other think tanks. I am also a 
professor at the Chinese Academy of Sciences and chief adviser 
to the governor of Haidian, which is China's Silicon Valley.
    I was one of the authors of the U.S. Chamber of Commerce 
study on telecom reform year before last, and I am one of the 
authors of a study Heartland Institute released earlier this 
month on taxes and fees on communications services, which I 
have appended to my testimony.
    Today, I want to focus on three simple things. First is 
that this issue is important for productivity and jobs and 
growth, second, that the key to jobs and growth is capital 
stock and the quality of the communications network and, third, 
that communications network capital is already heavily taxed. I 
will end up suggesting that the extension is a good idea, that 
permanent taxes are always better than temporary taxes, 
including this situation, that grandfather clauses be removed 
over time----
    Ms. Sanchez. Pardon me, did you say permanent taxes or 
permanent moratoriums?
    Mr. Rutledge. Permanent taxes, permanent moratoriums, the 
same, but a permanent moratorium is better. And that suggests 
when the question comes up, what to tax, tax things that won't 
leave after you tax them. And what not to tax is the capital 
stock.
    The communications network is not just a sector, it is the 
central nervous system for all the other businesses in the 
economy. It is what allows the workers to be productive and 
earn paychecks. America is the most productive economy in the 
world.
    Three-quarters of the enormous productivity gains since 
1995 are attributable to information technology and 
communication network investments, based on numerous studies. 
They all point to growth in jobs, incomes, productivity, from 
these investments, to lower costs that have helped keep 
inflation and interest rates in line, which helps people also 
buying homes and buying cars.
    As an illustration we did for the U.S. Chamber of Commerce 
study, telecom reform, which in general is what has happened 
over the last year and a half, our results were that it would 
generate about $50 billion of capital spending, which is about 
what we have gotten in the last 18 months, 212,000 jobs and 
$600 billion worth of new GDP.
    Modern communications networks are also the key to 
competitiveness. We all know there is a Chinese delegation in 
town today, led by Vice Premier Wu Yi. They are here to talk 
about trade and competitiveness issues, but fighting over trade 
numbers, currencies and exports and imports of physical goods 
is yesterday's battle.
    Today's battle is energy. There is not enough of it to feed 
the growing world economy. Tomorrow's battle is going to be 
technology. It will be fought with communications networks and 
information technology. The Internet tax moratorium has been a 
very positive influence on capital spending on networks.
    It is important that we now make it permanent in order to 
keep investments in I.T. growing. Other countries are working 
hard on this issue. China, for example, has just released a 
plan that suggests that they can no longer deliver the 8 to 10 
percent growth their people demand with manufacturing, so they 
are switching their investments over to information technology, 
communications equipment, software, advanced education, and 
they are doing a big job on it.
    Communications and information technology is the only way 
countries can improve productivity and raise pay without 
fighting over energy. In the U.S., the sector is very heavily 
taxed. As you will see in the study from Heartland, the average 
family pays $250 a year of taxes. Tax rates on 
telecommunications and cable TV services are twice normal sales 
tax rates.
    Tax rates vary widely across regions, across technologies 
and in some cases are higher than sin taxes, beer, alcohol, 
liquor, tobacco taxes. All of these happen during a period when 
the moratorium's been in place, so if you release the 
moratorium, I think you are going to have very major tax 
increases and I think that is something that would be 
detrimental to productivity and growth.
    Thank you.
    [The prepared statement of Mr. Rutledge follows:]

                  Prepared Statement of John Rutledge









































































































    Ms. Sanchez. Thank you, Mr. Rutledge.
    Mr. Murphy, will you please begin your testimony?

TESTIMONY OF MARK MURPHY, AMERICAN FEDERATION OF STATE, COUNTY 
        AND MUNICIPAL EMPLOYEES (AFSCME), WASHINGTON, DC

    Mr. Murphy. Good afternoon, Madam Chair and Ranking Member 
Cannon and Members of the Subcommittee. My name is Mark Murphy. 
I am a fiscal policy analyst with the American Federation of 
State, County and Municipal Employees, and we are pleased to 
offer our testimony on this subject of the Internet access tax 
ban.
    We have worked on this issue for nearly a decade, a decade 
or more, perhaps, and our views are representative of many 
unions with public employee interests, including the AFL-CIO, 
the National Education Association, the American Federation of 
Teachers and Firefighters.
    We have three key concerns that I will talk about here 
today.
    First, a permanent ban would have a negative impact on 
State and local government. The costs of congressional action 
on this issue is going to be borne entirely by State and local 
governments and are not paid for by the Federal Government.
    These jurisdictions, as was mentioned earlier, they balance 
their budgets every year, and they face revenue shortfalls and 
budget deficits with every recession, and so the loss of 
revenue capacity is certain to negatively impact their ability 
to provide services and will negatively impact tax burdens. 
They will be forced to raise other taxes.
    Just to give you a sense of the scale of the problem, for 
every $1 billion in lost local and State revenues, that could 
pay the salaries of 24,000 schoolteachers or 19,000 police 
officers or 19,000 firefighters or 27,000 hospital workers.
    The second problem we see is that there is a distinct lack 
of evidence that a permanent ban would be an effective and 
cost-effective way to pursue the worthy goals that we all share 
of seeing the Internet grow and develop and affect productivity 
for the entire economy. We just don't see the evidence that a 
moratorium or a ban, particularly a permanent ban, would have 
that effect.
    In fact, we have seen evidence to the contrary. The 
Government Accountability Office has studied the issue and 
found no discernible effect. Also, economists at the University 
of Tennessee studied the issue and compared States that had the 
tax on Internet access to those that don't and found no 
discernible effect of a tax on the ability of people to have 
Internet access.
    When the moratorium was imposed in 1998, it was intended to 
be a temporary pause to allow a system, a fair system, of 
taxation to develop, and unfortunately that fair system has not 
been developed. Instead, we have seen an effort to transform 
what was supposed to be a temporary moratorium into a permanent 
ban.
    At the time, Congress also wanted to foster growth in a new 
technology, and I think the growth of the Internet and its 
status today cannot be debated. It is well-established, its 
widespread, and whether you attribute that to a ban on taxation 
or a moratorium on taxation or not, I think that it is beyond 
debate that it is now widespread. And so a permanent ban cannot 
be justified as a needed stimulus.
    The third and final concern we have with a permanent ban is 
that it would have a negative influence on tax policy. When 
Congress preempts State and local taxation and taxing authority 
it narrows the tax base and raises rates, as was mentioned in 
previous testimony.
    That is the opposite of what jurisdictions need to do to 
minimize the economic distortions that taxes have on private 
activity, and so preemption should be something Congress should 
consider very carefully before they step into State and local 
taxing authority. Also mentioned earlier, in previous 
testimony, was that granting one industry a complete and total 
exemption would be a very dangerous precedent, that other 
industries that can also make very valid claims toward having 
contributing benefits to society will step forward as well and 
ask for their exemption.
    I believe that this impulse to wall off all new 
technologies and services is a harmful one, even if it is 
motivated by good intentions, because as society progresses, 
more and more economic activity is going to be innovative and 
advanced. It is by definition. It cannot all be made tax 
exempt, and we did not take this approach earlier in our 
history by exempting manufactured goods, the automobile and 
gasoline and airline service and calling them tax-free zones.
    If we had, we would have left agriculture as the only 
industry to bear the entire Nation's tax burden. If we exempt 
future technological breakthroughs, we are going to further 
limit that tax base and concentrate it more narrowly on today's 
industries. We think that will have a very deleterious impact 
on consumers of vital public services.
    Thank you.
    [The prepared statement of Mr. Murphy follows:]

                   Prepared Statement of Mark Murphy

    Good afternoon, Madam Chairwoman and members of the Subcommittee. 
My name is Mark Murphy. I am a Fiscal Policy Analyst for the American 
Federation of State, County and Municipal Employees (AFSCME). I am 
pleased to offer testimony on behalf of AFSCME on the subject of the 
Internet Access Tax Ban. We have worked on this issue for nearly a 
decade now and our views are representative of many unions with public 
employee interests.
    I would like to address four key points today regarding a permanent 
ban on state and local Internet access taxes. Those are:

          What would a permanent ban cost?

          What benefits would be gained?

          What are the potential unintended consequences? And

          What are the tax policy implications?
          what would a permanent ban on internet access cost?
    A permanent ban on Internet access taxes would immediately cost 
state and local governments an estimated $120 million per year if the 
grandfathered taxes are eliminated.\1\ This immediate impact would 
quickly multiply into the billions if, as we expect, additional goods 
delivered over the Internet are considered tax-exempt, or the scope of 
prohibited taxes expands, consequences I will elaborate on later in my 
testimony. While the range of estimates is necessarily broad, I cite it 
because we should be mindful of both the long-term complications that a 
permanent ban will produce, as well as the short-term impact.
---------------------------------------------------------------------------
    \1\ Government Accountability Office, ``Internet Access Tax 
Moratorium: Revenue Impacts Will Vary By State,'' GAO 06-273. GAO cites 
Congressional Budget Office estimates of the revenue impact.
---------------------------------------------------------------------------
    The Government Accountability Office (GAO) notes that it is 
difficult to predict how many states and local governments would have 
levied taxes on Internet access without enactment of the first 
moratorium in 1998. At the time of the first moratorium, only 20 
percent of Americans had an Internet connection in the home, compared 
to 50 percent just six years later. The increased penetration of the 
Internet in the population and its growth as a component of economic 
activity suggests that the immediate cost on grandfathered states and 
local governments represents only a fraction of the medium- and long-
term fiscal impact on all states.
    No matter what the actual revenue loss of a permanent Internet 
access tax ban would be or may become, it is important to keep in mind 
that the costs of Congressional action would be borne entirely by 
states and local governments. Congress recently reformed its budget 
rules to require a pay-as-you-go approach to federal tax cuts. If the 
Internet access tax ban affected federal revenues, then other spending 
cuts or revenue increases would be necessary to compensate for the lost 
revenue. Instead, the ban imposes revenue losses and a loss of revenue 
capacity on states and local governments, and is not paid for. As such 
it is an unfunded mandate.\2\ These jurisdictions must balance their 
budgets every year, and face revenue shortfalls and budget deficits on 
a cyclical basis. Therefore, the loss of revenue capacity is certain to 
negatively impact local constituent services and tax burdens. To get a 
sense of the harm this would do, consider that each $1 billion in lost 
state and local revenue would pay the salaries of more than 24,000 
school teachers, or 19,000 police, or 19,000 firefighters, or 27,000 
hospital workers, according to estimates by the Multistate Tax 
Commission.\3\
---------------------------------------------------------------------------
    \2\ Michael Mazerov, ``Making the Internet Tax Freedom Act 
Permanent in the Form Currently Proposed Would Lead to a Substantial 
Revenue Loss for States and Localities,'' Center on Budget and Policy 
Priorities, October 20, 2003; Congressional Budget Office, ``Cost 
Estimate: S. 150, Internet Tax Nondiscrimination Act,'' September 9, 
2003.
    \3\ Elliott Dubin, Multistate Tax Commission, email correspondence, 
May 16, 2007.
---------------------------------------------------------------------------
                 what would a permanent ban accomplish?
    The policy rationale for barring state and local taxation of 
Internet access has shifted over time, from establishing a fair system 
of taxation on the new medium, to fostering growth of an innovative 
technology, to closing the digital divide, to preserving an incentive 
for even more widespread Internet adoption.\4\ Are these realistic 
arguments, or should we be skeptical of the effectiveness and cost-
effectiveness of the ban in achieving these goals?
---------------------------------------------------------------------------
    \4\ Mazerov, op. cit. p. 24.
---------------------------------------------------------------------------
    The argument that taxation reduces Internet adoption rests on the 
assumption that Internet access consumers are sensitive to relatively 
small cost increases. However, there is no reliable evidence that this 
is the case. In fact, economists at the University of Tennessee 
conducted a regression analysis to determine the impact of the existing 
state and local Internet access taxes on Internet access. These 
researchers found that ``Internet access taxation has no statistically 
discernable effect.'' \5\
---------------------------------------------------------------------------
    \5\ Donald Bruce, John Deskins, and William F. Fox, ``Has Internet 
Access Taxation Affected Internet Use?,'' State Tax Notes, May 17, 
2004, p. 519.
---------------------------------------------------------------------------
    The growth in popularity of broadband also points to the negligible 
effect that a state and local tax ban has on Internet access. Broadband 
Internet adoption has grown at a rapid pace over the last five years, 
even as the total number of Internet users has leveled off. A Pew 
Internet Center survey conducted last year found that 57 percent of 
broadband Internet users chose it for greater speed, while only 4 
percent cited any price factor, such as a discounted introductory rate, 
in their decision.\6\ With broadband access prices averaging $36 per 
month, compared to $18 for dial-up service, the growth of broadband 
offers compelling evidence to counter the assumption of high price 
sensitivity among Internet access consumers.
---------------------------------------------------------------------------
    \6\ John B. Horrigan, ``Home Broadband Adoption 2006,'' Pew 
Internet & American Life Project, May 28, 2006  accessed May 
16, 2007.
---------------------------------------------------------------------------
    Banning states from levying Internet access taxes similarly is 
unlikely to have a measurable impact on the digital divide. The cost of 
a computer alone may be the single greatest financial barrier to 
Internet access for those of low and moderate incomes, followed by 
subscription requirements that often require a credit card.\7\ Internet 
access charges themselves are small compared to these impediments; tax 
levies on those charges are smaller still.
---------------------------------------------------------------------------
    \7\ Mazerov, op. cit., p. 27.
---------------------------------------------------------------------------
    So far, the debate over permanent extension of the Internet access 
tax ban is proceeding very differently from the typical examination of 
other government initiatives. Consider some major domestic programs, 
such as Head Start, State Children's Health Insurance, and the 
Workforce Investment Act, just to name a few. During reauthorizations 
and appropriations, these programs are subject to regular oversight, 
monitoring and even rigorous, scientific program evaluations designed 
to isolate the effects of the program from other factors, to truly 
determine the effectiveness and value of the government's investment in 
the program. The Government Performance and Review, as well as the 
Administration's Program Assessment Rating Tool, are employed in an 
effort to identify ineffective or wasteful programs to shrink or 
eliminate. In sharp contrast, proponents of permanent extension of the 
Internet access tax ban have provided shifting rationales for the ban, 
yet have not adequately demonstrated its effectiveness and value. We 
are left to conclude that the drumbeat for the ban may be motivated 
more by the desire to enhance corporate profits than the pursuit of 
more laudable societal goals.
               unintended consequences of a permanent ban
    Permanent extension of the Internet access tax ban presents a 
number of potentially harmful unintended consequences. These concerns 
are based on our experience with the ban over nearly a full decade, and 
include properly defining Internet access and eliminating the 
grandfathered state and local taxes.
    The definition of ``Internet access'' has been and remains 
problematic. Past issues included the taxable status of voice-over-IP 
telephone and components of DSL services, as well as which parts of the 
Internet ``backbone'' are taxable.\8\ Today's debate centers around 
audio and video content bundled with Internet service. These are 
complex issues that usually take a number of years to resolve. What new 
products and services will be developed in the future and how will 
providers arrange and package them? We cannot know that today, but if a 
permanent ban is put into place that includes an existing or future 
loophole, content providers will certainly migrate to that channel. 
Such an arrangement would give much favored status to one particular 
industry over many others. For these reasons, any moratorium on 
Internet access taxes must be temporary, to allow for clarifications, 
updates and adjustments to the definition and scope of the ban.
---------------------------------------------------------------------------
    \8\ GAO, op. cit., p. 43; Mazerov, op. cit., pp. 8, 13, 18.
---------------------------------------------------------------------------
    Eliminating the grandfathered state and local taxes would have 
direct revenue impacts on those jurisdictions ($120 million, as noted 
above), but may also put at risk other state and local taxes that are 
not intended to be covered by the ban but are not protected by the 
exception for corporate income, capital stock, net worth and property 
taxes. Such additional taxes could include payroll taxes, workers' 
compensation taxes, sales taxes on inputs, excise taxes on inputs, and 
potentially others. An elimination of the grandfather clause would put 
at risk a number of these levies solely because they would apply to 
entities that happen to provide Internet access. Newly enacted state 
and local taxes that apply to Internet access providers also may be at 
risk, even if they do not single out these entities or charge them 
higher tax rates.\9\
---------------------------------------------------------------------------
    \9\ Mazerov, op. cit., pp. 15, 19.
---------------------------------------------------------------------------
        what are the tax policy implications of a permanent ban?
    The tax policy implications of making the Internet a ``tax-free 
zone'' are huge and far-reaching. Any time a legislature closes off 
economic activity from taxation, it narrows the scope of remaining 
economic activity and societal wealth that may be tapped for public 
purposes. In the case of Internet access, banning state and local 
taxation effectively limits a tax base that already faces significant 
challenges, for example, from remote sales and tax planning by multi-
state corporations. Consequently, states and local governments will be 
forced to consider undesirable choices, such as raising other taxes or 
reducing the level of service to their citizens.
    Exempting the entire category of Internet access services--whether 
or not that includes bundled content or other goods--also violates the 
horizontal equity principle of tax policy. Horizontal equity is the 
principle that tax laws should attempt to avoid imposing a higher 
burden on one taxpayer than on another similarly situated taxpayer. 
Providing one industry with such generous tax treatment--a complete ban 
on state and local taxation--makes it more difficult for firms in other 
industries to accept their tax burden. This will undoubtedly lead to 
calls for special treatment from other industries that can make 
compelling claims that they contribute benefits to society at large.
    The impulse to wall off newly developed technologies and services 
from taxation is a harmful one, even if it is motivated by good 
intentions. As our economy and society evolves, by definition more and 
more economic activity will be innovative and advanced. It cannot all 
be made tax-exempt. One can imagine that if this approach to tax policy 
had been taken earlier in our history, then manufactured goods, or the 
automobile and gasoline, or airline service would be ``tax free,'' 
while only agriculture would be left to bear the tax burden. But a 
greater concern is what happens in the future with the next 
technological breakthrough? Will we make all fuel-efficient vehicles 
permanently tax-exempt? Will we ban taxes on advanced textiles, 
innovative consumer services and new entertainments?
    What will be left in the taxable sector if we do this? What will be 
the impact on the consumers of vital public services? How will we 
invest in the public institutions and initiatives that helped to 
develop so many of our technological and social advances, including the 
Internet itself?
    In conclusion, I want to reiterate our overall concern with a 
permanent ban on Internet access taxation. It is costly to state and 
local governments and of questionable value to the greater public, it 
risks unintended consequences for a broad range of state and local 
revenue sources, and it poses troubling tax policy problems for all 
levels of government.
    Madam Chairwoman and members of the Subcommittee, I thank you for 
the opportunity to offer testimony today and I am happy to answer any 
questions you may have.

    Ms. Sanchez. Thank you, Mr. Murphy.
    We are now going to begin the question-and-answer part of 
the hearing, and I will recognize myself for 5 minutes of 
questioning.
    Mr. Quam, my first question is for you. If a permanent 
moratorium were to be imposed, what single recommendation would 
you make to protect State and local governments?
    Mr. Quam. The priority, really, is the definition of 
Internet access. A bad definition, a 1998 definition, just does 
not meet the demands of today's Internet. While governors are 
not calling for a permanent, they call for a temporary as a 
very important safety device, frankly, to make sure that we 
review any changes, the definition is the most problematic.
    We believe that the ability to bundle any service with 
Internet access and make it tax-free subjects State and local 
governments to a lot of uncertainty going forward as the 
Internet develops, so addressing the definition should be a top 
priority.
    Ms. Sanchez. Thank you.
    Mr. Rutledge, why should Congress simply not impose a 
temporary moratorium? I am interested.
    Mr. Rutledge. The benefits of permanent tax rates are that 
you can make investment plans with them. People talk about the 
stock market as if it is a short-term game, but if you value 
the S&P 500 using projected free cash flows, which is what 
investors get, there is a number called the duration you would 
calculate, which says how long would you have to wait to get 
back half of the value of the money you spent on the stock, and 
the number is 28 years.
    And so when you put capital in the ground, you have to be 
able to see 20, 30 or even 40 years in the future in terms of 
the environment you are going to be facing. So whether the tax 
is high or low, a permanent tax and a permanent structure is 
better than a temporary one for people who have to make capital 
decisions.
    Ms. Sanchez. Thank you.
    Mr. Murphy, what effect does the moratorium have on the 
members of AFSCME?
    Mr. Murphy. Thank you, Madam Chair.
    AFSCME members work in a wide variety of public services, 
primarily at the State and local level, and also in healthcare. 
The numbers I gave earlier are about the number of salaries you 
could pay for with $1 billion of revenue loss, kind of give you 
the idea of just how important these revenues are and the 
capacity to raise revenues, particularly in recessions and 
budget downturns, we believe that we would see, as we have 
already seen in previous economic downturns and budget 
shortfalls, State and local jurisdictions trying to get by with 
unfilled vacancies, seeing corrections officers who are working 
with less staff to patrol the same number of inmates in a 
prison, for example, because they just don't have the money to 
fill those vacancies.
    Ms. Sanchez. Thank you.
    Mr. Johnson, if there is a moratorium, should the 
grandfather protection continue and, if so, why?
    Mr. Johnson. I think to the States the grandfather 
protection is very important. It is our view that as part of 
the original moratorium there was a desire to keep States 
harmless and not reduce the existing taxes on the States that 
at that time levied the tax on Internet access. So we do think 
it is important for that reason to keep that commitment.
    We also think it is important to make sure that the scope 
of the moratorium isn't expanded to other tax types, and we 
think that the grandfather clause is helpful in being clear 
that it does not do that.
    Ms. Sanchez. Okay.
    And, Mr. Mackey, in light of the February 2006 GAO report 
concluding that the taxation of Internet access has no 
statistically significant effect on the deployment of broadband 
Internet access, how can we believe that taxing Internet access 
creates a barrier to individuals accessing the Internet?
    Mr. Mackey. I think the report did show that there was a 
statistical correlation. But the issue of whether or not taxes 
matter, if you will, on broadband penetration, there are a lot 
of factors. Taxes are just one. There is a lot of factors that 
go into how broadband has penetrated down to lower-income 
families, the wealth, how much competition is available.
    I think clearly taxes and prices do matter, because when we 
have seen the explosion in the growth of broadband penetration, 
it has been when competition has driven down prices to certain 
price points, below which some of our low-and moderate-income 
consumers are able to afford broadband access.
    And we have seen that time and time again, when a second 
competitor comes into a marketplace, the competition drives 
down prices and you have much more broadband penetration. So, 
as an economist, I have to believe that taxes do matter. 
Whether a statistical correlation can be found, you really need 
to look at a number of different factors, but clearly taxes and 
prices do matter to consumers for any product sold in the 
economy.
    Ms. Sanchez. Thank you.
    I would now recognize our distinguished Ranking Member for 
5 minutes of questioning.
    Mr. Cannon. Thank you, Madam Chair.
    And thank you all for being here today. This is an 
extraordinarily difficult issue. It is one of the very first 
issues I dealt with when I came to Congress 10 years ago, more 
than that now, and it is an environment that is dynamic, so we 
appreciate your impact on these issues.
    Let me start, Mr. Quam, how long do you think the temporary 
moratorium should be extended? What should the next bill cover, 
what period of time?
    Mr. Quam. That is a tough recommendation. The other 
extensions have been, first one was for 2 years, the last one 
was I believe for 4. Two or 4 years, probably 4 years an 
extension gives the Internet time to, again, evolve.
    Four years ago, the issue, as I said, was VOIP. And at the 
time it was being debated, VOIP was not really commercially 
available. During that debate, that changed.
    Mr. Cannon. Isn't that amazing?
    Mr. Quam. It is absolutely amazing.
    Mr. Cannon. We have much, much, much cheaper service at 
vastly better quality and more variety.
    Mr. Murphy, how long do you think it should be extended?
    Mr. Murphy. Thank you, Mr. Cannon.
    We support the temporary extension of the same reasons as 
Mr. Quam stated----
    Mr. Cannon. But how long?
    Mr. Murphy. For 2 to 4 years.
    Mr. Cannon. Two to 4 years. Again, thank you.
    Mr. Rutledge, somewhere you suggested that families in the 
lowest quintile of earnings pay 10 times as much as families in 
the highest quintile as a percentage of their income for 
telecommunications taxes. Is that correct?
    Mr. Rutledge. Yes, that is one of the calculations in this 
Heartland study.
    Mr. Cannon. That is actually, in some ways, a little 
misleading, because people who are very wealthy pay rent or pay 
a mortgage or own a house. They have some kind of cost of 
capital in that. People who are very poor pay for rent or 
mortgage or whatever they do for their house. Everybody buys 
groceries.
    So if you take the income of a person who is relatively 
poor and take out the things that those families have to pay 
for, their marginal income is much, much smaller, is it not? 
And therefore that 10 times might be 100 times.
    Mr. Rutledge. Of discretionary income, absolutely, after 
essentials, yes. And it is also true in terms of the impact of 
broadband services on education, education costs, which is also 
a very regressive impact.
    Mr. Cannon. So the people who need it most, the people who 
are on the margin, people whose kids have the ability to use 
access to the Internet and move up in life, are the people who 
you are hitting hardest with taxes.
    Mr. Rutledge. Yes, and those are the kids that should have 
the highest return to education, as well.
    Mr. Cannon. And then, of course, education is evolving, 
even as we speak. I am not going to give my lecture here, 
although I would love to. There are dramatic things. We finally 
got to the tipping point in education, and communications is a 
big, big part of that. So never has there been a society where 
people have had the ability to move from one level of society 
to another with more ease, based upon personal merit and 
education than we have today, and yet we have these taxes that 
are sort of in the way of the process.
    Could you describe, Mr. Rutledge, or maybe Mr. Mackey, the 
role of telecommunication companies in collecting taxes for 
States?
    Mr. Mackey. Because they were formerly monopolies, 
telecommunications companies are subject to many, many State 
and local taxes, and States vary, but clearly if you look 
overall at where telecommunications companies rank in terms of 
what share of the services is taxable and these taxes are of 
course pushed onto consumers, it is somewhere in the study that 
John Rutledge did, it was about 31.5 percent of the average 
communications service tax, and that includes cable TV, 
wireless and wireline, was paid in taxes.
    So, for instance, Mr. Cannon, if you were to impose that 
13.5 percent on Internet access, which the average price in the 
study, it was found to be $36.50 a month, that would mean 
essentially an additional $5 a month in taxes on families that 
are already paying approximately $250 a year in taxes on their 
communications bill.
    So it is not an insignificant amount of money when you 
consider that a $5 reduction when competing providers are out 
there trying to sell service and they tout that they are 
selling it for $5 less than their competition can provide 
significant new market opportunities for them. It is not an 
insignificant amount of money, particularly to low-income 
families.
    Mr. Cannon. Thank you. Will we have a second round?
    Ms. Sanchez. [Off-mike.]
    Mr. Cannon. Why don't we have a second round? I think we 
have time.
    Thank you. I would very much like to get a little more in 
depth here, and so I will yield back on the hopes that we will 
have a separate round of questioning. Thank you.
    Ms. Sanchez. Mr. Johnson, the gentleman from Georgia, is 
recognized for 5 minutes.
    Mr. Johnson of Georgia. Thank you.
    I don't think I will have 5 minutes' worth of questions, 
but I do want to know, if we could liken the Internet to a 
mall, a place where you can go in and purchase goods and 
services, and also liken it to a library, a place where you can 
go and pull a book, pull a resource and obtain some 
information, why would we tax a person upon entering the mall? 
Or why would we tax a person upon entering the library?
    Is there anyone who would care to answer that from a public 
policy standpoint? Why would we do that?
    Mr. Quam. Sir, to take that question just a little 
differently, your example with regard to the mall, if the 
moratorium is allowed to expand and cover more and more 
services that are coming over the Internet, you are actually 
creating a disparity between the goods being sold in the mall 
and those being sold online, so that you are actually not 
creating equal treatment of your retailers who are in your 
community selling the book and somebody who is selling it 
online.
    Moratoriums actually distort the tax base and create fewer 
opportunities for States to do what many telecommunications 
companies would love to see States do, which is reform 
telecommunications taxes, something that, frankly, States will 
have to do because of the changing nature of that technology.
    The Internet is a means to get there. It is a service that 
traditionally may be subject to sales tax.
    Mr. Johnson of Georgia. Well, certainly, goods and services 
purchased over the Internet would be subject to taxation, but 
just the entry onto the premises, if you will.
    Mr. Quam. Well, and that is one of the reasons NGA is 
supporting an extension of the moratorium. Governors are 
saying, we don't need to tax that access. You are absolutely 
correct. That can remain tax-free, but we have to get the 
definitions right, less the distortion occur within the mall 
and between the mall and somebody selling online.
    And so the moratorium, we are calling for an extension of 
the moratorium to prevent happening exactly what you are 
saying.
    Mr. Johnson of Georgia. I understand that, but I am just 
wondering, why would we at the end of the moratorium consider 
charging someone to just enter the mall or enter the library?
    Mr. Mackey. Mr. Johnson, I think your example is a very 
good one, and I think in terms of the issue that was raised 
about whether the definition of Internet access needs to be 
narrowed so that, for instance, abuses don't occur and anything 
that is sold with Internet access can be swept in. The report 
that the GAO did said that based on their reading of the 
statute that that was unlikely and they didn't read it that 
way.
    Secondly, there was a bundling provision added, which made 
clear that if services are sold with taxable Internet access, 
the whole bundle would be taxed unless specifically the 
Internet access portion could be separated out in books and 
records.
    Also, we haven't seen any real-world examples that I am 
aware of of companies trying to use this ``loophole'' to try to 
sneak things in and say they are Internet access as part of a 
package. So, for those reasons, I think, while we are certainly 
happy to look at the language, we think the 2004 amendments 
already added some protections.
    As Mr. Quam said, the VOIP specifically carved out the 
bundling language, and I know this is technical, but I do think 
there are provisions to protect from, as you said in your 
example, sir, the things in the mall being swept in with taxing 
the entrance to the mall.
    And I think you raised a very good point as to why access 
is so important. You are providing access to be able to shop 
and do business over the Internet, without necessarily taxing 
or not taxing the other items that are already covered 
differently under State sales tax law.
    Mr. Murphy. I wonder if I might add something to that 
question. I think it is a good question, but I think what would 
be a better analogy is if the owners of the mall charged access 
to the mall----
    Mr. Johnson of Georgia. That would be different than 
government charging access, though, right?
    Mr. Murphy. Well, in this case, the companies that provide 
Internet access are charging consumers for Internet access and 
the State and local governments may or may not charge a tax on 
that charge to access the Internet.
    If there were a case such as the mall I go to, Pentagon 
City Mall, they charge for parking, I think it would be 
perfectly appropriate for a State or a local government to 
charge a tax, a regular sales tax, on a parking charge. That 
would be the analogy that I would think would be most 
appropriate.
    Ms. Sanchez. The time of the gentleman has expired.
    Mr. Jordan is recognized for 5 minutes.
    Mr. Jordan. We were meeting with our Ranking Member on 
immigration issues, and I didn't catch everyone's testimony, 
and I apologize.
    But I did hear Mr. Quam's testimony. He mentioned that the 
moratorium on the taxes on the Internet had really no impact on 
the phenomenal growth we have seen in this industry.
    I would like the rest of your reaction to that. Because 
taxes always impact everything else in our economy, every other 
industry, and I would assume they have had a major impact in 
this area, as well.
    So maybe some thoughts in that area from our panel. And we 
will go with the guy I referenced first.
    Mr. Quam. The reference I was making was something Mr. 
Mackey had been talking about, both a GAO report and there is 
also a University of Tennessee report, which basically found no 
statistical correlation between tax on Internet access and 
broadband penetration.
    Those two were not linked, and they were able to study that 
because you have certain grandfather States who have taxes 
remaining on Internet access that go back to 1998. Broadband 
penetration was no different in those States than the others. 
Those two studies started to indicate that a tax on Internet 
access was really not relevant to broadband.
    The growth of the Internet, although the tax ban has been 
in place, there are times when it has lapsed, and during those 
lapses the Internet certainly did not fail, did not fall and 
did not falter. It is a very dynamic industry that is growing. 
The price points and competition continue to increase the 
number of goods and services that can be offered, continue to 
grow.
    Mr. Jordan. Mr. Mackey?
    Mr. Mackey. Thank you.
    No, I agree. I think that taxes do matter. I mean, as an 
economist, we just have to believe that taxes do matter.
    Now, in a specific situation, in a given timeframe, when 
you are comparing a grandfathered State versus a non-
grandfathered State, there are going to be other factors 
besides just the moratorium or no moratorium, what is the 
wealth of the State? Is broadband widely available? How broad 
is it available to the public? Is it a rural State, is it an 
urban State?
    So I think there are many factors, and I don't think anyone 
would claim that taxes are the sole factor driving broadband 
penetration. I certainly wouldn't make that claim. But it is 
one of a number of factors that people look at.
    In terms of the lapsing of the moratorium, Mr. Quam is 
right, it did lapse, but I do think there was an expectation 
that the moratorium was going to be extended. And, as Mr. 
Rutledge said, when we are talking about investors and 
investments where you have to have a long time horizon, those 
brief lapses in time weren't going to make any difference in 
terms of impact----
    Mr. Jordan. I mean, would a tax on the Internet, would that 
be largely regressive?
    Mr. Mackey. Absolutely, as Mr. Rutledge said before, yes, 
the burden would be 10 times higher on the lower quintile of 
the population than the upper. And if you are looking at just 
discretionary income, the impact would be even greater.
    Mr. Jordan. That is what I figured.
    Mr. Johnson. I would just like to say, I don't disagree 
with Scott's comment that taxes matter. I think they matter 
both on the end of people who pay them, but they also matter on 
they are there to provide services to people. And so I think we 
would all like to pay no taxes or to pay very little taxes, but 
we all recognize the need for revenues to carry on essential 
government services.
    I would also say that I think the studies do show that the 
impact of the incremental level of taxation hasn't been a 
significant factor on whether or not broadband service is 
available to people.
    So I do think the studies do support the idea that the 
level of taxation that we are talking about has not hindered 
the ability of people to have access to those services.
    Mr. Rutledge. In a boardroom when you are making an 
investment decision, taxes matter a lot, and you wouldn't make 
them if you didn't know the tax rates applied. The reason these 
studies don't show much impact is they happened during a time 
when the rules were changing and the business regarding the 
ownership of telecom assets, including property rights, the 
ability to price your assets, regulations and so forth. So they 
are washed away by these giant tidal waves.
    But believe it that taxes are passed onto consumers. If you 
pass them on to consumers, it will raise the price 1 percent, 
consumers will buy about 1.5 percent less of the stuff you are 
selling, so it is very important for consumers.
    Mr. Murphy. I would like to say that both studies did show 
no statistical relationship between the tax burdens that are 
imposed in those States that have them and the penetration of 
either broadband or Internet access.
    And I think the question is whether the Congress is going 
to set a precedent of exempting an entire industry based on 
something where there hasn't been any evidence. I think that 
that would be outside of experience when it comes to Congress 
acting on either appropriated programs or tax issues.
    Ms. Sanchez. The time of the gentleman has expired, and we 
are getting called to our next vote.
    I do, however, think that we can conclude the hearing today 
by recognizing Mr. Delahunt for 5 minutes of questioning, and 
at the close of that, we will wrap up the hearing.
    Mr. Delahunt. I thank the gentlelady.
    Putting definitions aside, I am sure that there is the 
possibility of constant tweaking there. I think to suggest that 
taxation as it has been, particularly in those grandfathered 
States, has had a significant, as opposed to a minimal, impact 
really doesn't hold water when you take a look at the evidence, 
voiceover for example.
    I mean, can you give to me the statistics in terms of the 
growth of e-commerce in the course of the past 5 years?
    Mr. Quam?
    Mr. Quam. E-commerce has grown considerably. In 2007, I 
believe the number is expected to hit $252 billion.
    Mr. Delahunt. And what was it 3 or 4 years ago, if you are 
aware, or if anybody has that?
    Mr. Quam. I do. It was $176 billion just in 2005, $220 
billion in 2006.
    Mr. Delahunt. I think you have answered my question. The 
evidence is this is a dynamic, growing, prosperous market.
    Now, I understand all that, but let me again speak to the 
issue of the States and tax revenue. How much, collectively, in 
the aggregate, did the grandfathered States receive from the 
existing taxes back in the 1998 taxes?
    Mr. Quam. CBO estimates if the grandfather clause went 
away, those States lose between $80 million and $120 million.
    Mr. Delahunt. Okay, between $80 million and $120 million.
    How much do they lose in terms of sales tax revenue?
    You should know that answer, Mr. Quam.
    Mr. Quam. In terms of sales tax revenue from----
    Mr. Delahunt. In a single year. I mean, why do we have this 
streamlined sales tax initiative?
    Mr. Quam. Under streamline, the estimates are that States 
are not collecting anywhere from $15 million to $22 million per 
year.
    Mr. Delahunt. So we are talking $15 million to $22 million 
as opposed to $80 million to $120 million. I mean, what we are 
talking here is chump change when we talk about the revenue 
sources for the States.
    I think this is a very--I welcome this hearing, I think it 
is very informative, but I will be filing legislation come July 
that hopefully will deal with the issue of the SST, because we 
are really putting at risk revenue sources for our States to 
fund all of the service that the public demands.
    And my own position is we ought to have a temporary 
moratorium until we finally resolve the issue of how the States 
are going to support public services with an eroding tax base, 
predicated on the growth of e-commerce. I think that is really 
kind of simple.
    Why should we have a permanent ban until we can be assured 
that the States and political subdivisions are going to be so 
limited in terms of their tax revenues that they will go to 
extremely regressive forms of taxation?
    Mr. Cannon. Will the gentleman yield?
    Mr. Delahunt. I yield to my friend.
    Mr. Cannon. Just for the record, Mr. Quam, would you mind 
supplying us with the numbers that you just gave about the 
sales tax that has been missed based upon what the sales are? 
Just doing a rough calculation in my mind, I suspect that was a 
little high, so I would love to see those numbers if you have a 
study to that effect.
    Mr. Quam. We do.
    Mr. Cannon. Thank you.
    Ms. Sanchez. Does the gentleman yield back?
    Mr. Delahunt. Well, I think somebody has a need to answer.
    Mr. Mackey. Just very briefly.
    Ms. Sanchez. You have 40 seconds.
    Mr. Delahunt. It will be a 40-second response.
    Mr. Mackey. Just very briefly, it is very easy to quantify 
the revenue loss by measuring how much the grandfathered States 
are collecting on Internet access.
    What is very difficult to quantify are the benefits to the 
States of the productivity enhancements that Dr. Rutledge was 
talking about, of the low interest rates that are raising 
property values for local governments, and all the other 
benefits that this high-tech and information technology-
boosting productivity provides to the States.
    And I think one of the reasons States are so flush with 
revenue right now is because of the strong economy that is due 
in part to the growth in e-commerce.
    Ms. Sanchez. The time of the gentleman has expired.
    I want to thank again the witnesses for your testimony 
today and for being so patient with us.
    Without objection, Members will have 5 legislative days to 
submit any other additional written questions, which we will 
forward to the witnesses and ask that you answer as promptly as 
you can, to be made part of the record.
    Without objection, the record will remain open for 5 
legislative days for the submission of any other additional 
materials.
    Again, thank you for your time and your patience.
    And this hearing of the Subcommittee on Commercial and 
Administrative Law is adjourned.
    [Whereupon, at 4 p.m., the Subcommittee was adjourned.]


                            A P P E N D I X

                              ----------                              


               Material Submitted for the Hearing Record

        Post-Hearing Questions submitted by the Subcommittee on 
                   Commercial and Administrative Law





                                

        Post-Hearing Questions submitted by the Minority Office







                                

    Response to Post-Hearing Questions from David C. Quam, National 
                 Governors Association, Washington, DC









                                

         Response to Post-Hearing Questions from Scott Mackey, 
                 Kimbell Sherman Ellis, Montpelier, VT













                                

        Response to Post-Hearing Questions from Jerry Johnson, 
               Oklahoma Tax Commission, Oklahoma City, OK




                                

     Response to Post-Hearing Questions from Mark Murphy, American 
     Federation of State, County and Municipal Employees (AFSCME), 
                             Washington, DC






                                

 Article submitted by the Honorable Chris Cannon, a Representative in 
 Congress from the State of Utah, and Ranking Member, Subcommittee on 
                   Commercial and Administrative Law





                                 
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