[Senate Hearing 110-1122]
[From the U.S. Government Publishing Office]



                                                       S. Hrg. 110-1122
 
                COMMUNICATIONS, TAXATION, AND FEDERALISM

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



                                HEARING

                               before the

                         COMMITTEE ON COMMERCE,

                      SCIENCE, AND TRANSPORTATION

                          UNITED STATES SENATE

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                               __________

                              MAY 23, 2007

                               __________

    Printed for the use of the Committee on Commerce, Science, and 
                             Transportation




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       SENATE COMMITTEE ON COMMERCE, SCIENCE, AND TRANSPORTATION

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                   DANIEL K. INOUYE, Hawaii, Chairman
JOHN D. ROCKEFELLER IV, West         TED STEVENS, Alaska, Vice Chairman
    Virginia                         JOHN McCAIN, Arizona
JOHN F. KERRY, Massachusetts         TRENT LOTT, Mississippi
BYRON L. DORGAN, North Dakota        KAY BAILEY HUTCHISON, Texas
BARBARA BOXER, California            OLYMPIA J. SNOWE, Maine
BILL NELSON, Florida                 GORDON H. SMITH, Oregon
MARIA CANTWELL, Washington           JOHN ENSIGN, Nevada
FRANK R. LAUTENBERG, New Jersey      JOHN E. SUNUNU, New Hampshire
MARK PRYOR, Arkansas                 JIM DeMINT, South Carolina
THOMAS R. CARPER, Delaware           DAVID VITTER, Louisiana
CLAIRE McCASKILL, Missouri           JOHN THUNE, South Dakota
AMY KLOBUCHAR, Minnesota
   Margaret L. Cummisky, Democratic Staff Director and Chief Counsel
Lila Harper Helms, Democratic Deputy Staff Director and Policy Director
   Christine D. Kurth, Republican Staff Director and General Counsel
Kenneth R. Nahigian, Republican Deputy Staff Director and Chief Counsel


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on May 23, 2007.....................................     1
Statement of Senator Carper......................................     2
Statement of Senator Dorgan......................................    58
Statement of Senator Inouye......................................     1
Statement of Senator Smith.......................................    56
Statement of Senator Stevens.....................................    49
    Prepared statement...........................................    50
Statement of Senator Sununu......................................     4


                               Witnesses

Canning, Esq., Annabelle, Vice President, State Tax Policy, 
  Verizon Communications.........................................    38
    Prepared statement...........................................    40
Dircksen, Jeff, Director, Congressional Analysis, National 
  Taxpayer Union Foundation......................................    43
    Prepared statement...........................................    45
Duncan, Harley T., Executive Director, Federation of Tax 
  Administrators.................................................    33
    Prepared statement...........................................    34
Enzi, Hon. Michael B., U.S. Senator from Wyoming.................     7
    Prepared statement...........................................     9
Eshoo, Hon. Anna G., U.S. Representative from California.........    10
Quam, David C., Director, Federal Relations, National Governors 
  Association....................................................    27
    Prepared statement...........................................    29
White, Dr. James R., Director, Tax Issues and Strategic Issues, 
  GAO............................................................    12
    Prepared statement...........................................    14
Wyden, Hon. Ron, U.S. Senator from Oregon........................     5

                                Appendix

Coalition for Rational and Fair Taxation, prepared statement.....    68
Cochetti, Roger J., Group Director--U.S. Public Policy, The 
  Computing Technology Industry Association (CompTIA), prepared 
  statement......................................................    66
Combined response to written questions submitted to Dr. James R. 
  White by Hon. Daniel K. Inouye, Hon. Byron L. Dorgan, and Hon. 
  Frank R. Lautenberg............................................    79
Goodlatte, Hon. Bob, U.S. Representative from Virginia, prepared 
  statement......................................................    63
Response to written questions submitted by Hon. Amy Klobuchar to 
  Dr. James R. White.............................................    82
Response to written questions submitted Annabelle Canning, Esq. 
  by:
    Hon. Byron L. Dorgan.........................................    89
    Hon. Daniel K. Inouye........................................    87
    Hon. Frank R. Lautenberg.....................................    91
Response to written questions submitted to Harley T. Duncan by:
    Hon. Byron L. Dorgan.........................................    84
    Hon. Daniel K. Inouye........................................    82
    Hon. Frank R. Lautenberg.....................................    86
    Hon. Amy Klobuchar...........................................    86
Thune, Hon. John, U.S. Senator from South Dakota, prepared 
  statement......................................................    63
Wagnon, Joan, Chair, Multistate Tax Commission, prepared 
  statement......................................................    64


                COMMUNICATIONS, TAXATION, AND FEDERALISM

                              ----------                              


                        WEDNESDAY, MAY 23, 2007

                                       U.S. Senate,
        Committee on Commerce, Science, and Transportation,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 10:01 a.m. in 
room SR-253, Russell Senate Office Building, Hon. Daniel K. 
Inouye, Chairman of the Committee, presiding.

          OPENING STATEMENT OF HON. DANIEL K. INOUYE, 
                    U.S. SENATOR FROM HAWAII

    The Chairman. Good morning.
    This morning's hearing, titled ``Communications, Taxation, 
and Federalism,'' explores the sometimes difficult intersection 
between our desire to encourage online commerce and our 
Constitutional responsibility to permit states and localities 
to manage their fiscal affairs.
    The most prominent issue before us is the pending 
expiration of the Internet access tax moratorium. Absent 
Congressional action, this law will sunset on November 1, 2007. 
However, as we consider legislation to extend this moratorium, 
either on a permanent or temporary basis, it is essential that 
we carefully examine the ambiguities existing in current law, 
in the hope of avoiding unintended consequences.
    Indeed, following our most recent extension, in 2004, a 
report conducted by the Government Accountability Office 
reveals that fundamental differences of opinion remain as to 
the interpretation of key terms in the current moratorium. 
Failing to address these ambiguities will only fuel, rather 
than resolve, ongoing confusion between industry and State and 
local governments as to the proper scope of services protected 
by the Internet access moratorium.
    The significance of these disputes is magnified by rapid 
changes occurring in the nature of Internet access services and 
the ease with which providers of Internet access might bundle 
Internet access with goods and services otherwise available for 
purchase online.
    In light of these potential developments, Congress should 
clarify its intent before permanently codifying such 
ambiguities, and similarly should ensure that any extension 
deals fairly with those State and local tax laws that have been 
expressly allowed since the adoption of the initial moratorium 
in 1998.
    Finally, our actions must consider the substantial 
interests of states and localities in managing their fiscal 
affairs.
    As Americans increasingly turn to the Internet to conduct 
transactions online, Main Street businesses will increasingly 
be placed at a competitive disadvantage. While many debate the 
size of the sales tax revenue currently lost from the growth in 
Internet commerce, most observers agree that the tax loss is 
significant, and will grow robustly over time.
    As pressures on State treasuries increase, the effects of 
such policies will increasingly be felt by teachers, 
firefighters, police, and others on the front lines of 
providing State services. As a result, it is important that we 
encourage ongoing efforts to simplify State tax codes in the 
hope that such action may facilitate further Congressional 
action that would permit states to treat online and offline 
sales transactions in a nondiscriminatory fashion.
    With that, let me welcome the panel assembled here this 
morning, and we look forward to your testimony.
    Do you wish to make a statement, sir?
    Senator Carper. If it's possible.
    The Chairman. Senator Carper?

              STATEMENT OF HON. THOMAS R. CARPER, 
                   U.S. SENATOR FROM DELAWARE

    Senator Carper. Thanks, Mr. Chairman. Let me just add to 
what you've said and to welcome our colleagues.
    This is, in a sense, a deja vu, looking out at this panel. 
And welcome, Representative Eshoo, to the Senate.
    This is an unlikely issue to provoke strong passions, but 
it seems to, on both sides. And I want to just take a moment 
and go back to the 1990s.
    The Internet was young, and I think the rest of us were 
younger. With the introduction and growth of the Internet, a 
number of State and local governments saw an opportunity to 
raise some of the revenues that they needed to run their 
schools, to run their hospitals, to help meet their police and 
fire service needs. Some of them passed laws to place a tax on 
consumer access to the Internet, and it was described as a tax 
on the time on people's AOL bills. But, as the number of states 
and cities grew doing that, so did the concerns that the tax 
burden that was being placed would become so great that the 
potential of the Internet could be snuffed out, or at the very 
least would be impeded. And, as a result, the Congress passed a 
law in 1998, grandfathering in State and local governments that 
already imposed a tax, but essentially saying to the rest, 
``Sorry, but you've missed your chance.''
    As it turns out, the growth of that infant, the Internet, 
continued unabated in all the states, even in states and 
localities that had imposed a tax on Internet access. And today 
I think most of us would say that the Net is doing just fine, 
our earlier concerns notwithstanding.
    Every few years since 1998, that original moratorium has 
been extended, as the Chairman mentioned, first in 2001, then 
again in 2004, after lapsing for a while in 2003. About 3 years 
ago, we had a donnybrook here in the Senate, and we ended up 
extending the moratorium through November of this year, 
although a majority of Congress voted to broaden the definition 
of what State and local governments could not tax. And, while 
states and local governments didn't like that change very much, 
they won at least a partial victory when Congress chose not to 
prevent them from raising revenues in conjunction with a new 
technology, called VoIP. At the time, it was being used, I 
think, by some 150,000 customers or subscribers.
    Three years later, VoIP is being used I'm told, by 18 
million subscribers to deliver largely telephone services, 
services which State and local governments have traditionally 
used to raise significant portions of the revenues that they 
need to provide further services to their residents.
    This year's VoIP is spelled IPTV, Internet Protocol 
Television, and dramatic IPTV growth is expected, so that by 
sometime in the next decade, I'm told that subscribers could 
number as many as 100 million. That's a lot. If IPTV is bundled 
by voice and Internet and other services, State and local 
governments that rely on cable taxes and fees could face what 
they describe as a ``financial tsunami.'' That's why as more 
and more products and services move to the Internet, I just 
think we need to be very careful before we extend tax exempt 
status at all levels of government for any business that 
bundles its services online.
    Let me just say, in closing, if I could, if you look at the 
Senators over here most involved in this issue over the past 6 
years on the side of the State and local governments, not 
surprisingly they used to run State and local governments. 
Senator Enzi was Mayor of Gillette. Dianne Feinstein was Mayor 
of San Francisco. Byron Dorgan was Commissioner of Revenues for 
North Dakota. George Voinovich was Mayor of Cleveland and 
Governor of Ohio. Lamar Alexander was Governor of Tennessee. I 
was privileged to be Governor of Delaware. None of us liked it 
very much when the Federal Government would come in and tell us 
how to spend money, but not give us the money to spend. A good 
example of that is ``No Child Left Behind.'' None of us liked 
very much the idea of the Federal Government coming in and 
taking away our ability to raise revenues, but not supplanting 
or replacing those revenues.
    We complained so much, in fact, that Congress passed a law, 
about a decade ago, called the Unfunded Mandates Law, that 
said, basically, ``We're not going to do that to the states. 
We're not going to tell them how to spend their money without 
giving them money. We're not going to tell them they can't 
raise money in certain ways, without replacing that money.'' 
But yet, we continue to try to nip at that, and chip away at 
that, through this matter.
    I'm pleased to be on this Committee, pleased to serve with 
you. In the end, I'm not interested in taxing access to the 
Internet any more than any of my colleagues are, and our 
friends in the House are. Today, Senator Alexander and I have 
introduced along with Senator Enzi and others, legislation that 
seeks to provide for a real clear definition of what we want to 
do. We don't want to tax access to the Internet. We don't want 
to tax people's access to e-mail, to instant messaging, that 
kind of thing. At the same time, we want to try to be fair to 
State and local governments as they face the burden of, how do 
they fund their schools? How do they pay for their hospitals? 
How do they provide for fire service? How do they provide for 
police service?--that we don't tie their hands for them. It's 
all well and good for us to say how we're going to raise 
Federal revenues, but I think we've got to be real careful when 
we turn to State and local governments and say, ``This is how 
you can raise yours, or how you cannot raise yours,'' 
particularly at a time when we don't have a sales tax in my 
State; and the states that do have State and local sales taxes, 
that money is going away. It is going away. Because what people 
are doing, is buying over the Internet. We do it. And, frankly, 
I guess most of the people in this room do that, as well. As 
that source of revenue is undermined for State and local 
governments, we've just got to be real careful that we don't 
somehow further damage the situation by the actions that we 
take here today.
    Thank you.
    The Chairman. Thank you.
    Senator Sununu?

               STATEMENT OF HON. JOHN E. SUNUNU, 
                U.S. SENATOR FROM NEW HAMPSHIRE

    Senator Sununu. Thank you very much, Mr. Chairman.
    And I welcome my colleagues. And, having been in that 
position before, it's never a lot of fun to have to listen to 
your colleagues speak before you get to offer your testimony, 
so I apologize. But I don't know how much I'm going to help you 
in that regard. I do want to make a few comments before we 
begin.
    Let me begin by emphasizing why we have this idea of a 
moratorium, or a ban, on Internet access taxes in the first 
place, and that's because we view the Internet in general as an 
interstate service. It's a national service, it's a global 
system. We do have a responsibility, at the Federal level, to 
try to reasonably protect interstate commercial activity, and 
interstate services, like this from either fragmented 
regulations or burdensome taxes. That's the idea here. The 
Internet has been an engine of economic growth, of productivity 
improvements across the entire country, across the entire 
world. And those, like Senator Wyden and like me, who support a 
prohibition on Internet taxes, are recognizing the value of 
this system as an engine of interstate national and global 
economic growth, and also recognizing a very basic principle: 
When you tax something, when you burden it with taxes, you're 
going to get less of it. I think that is a particularly 
important point in an environment where we hear legislators and 
public servants, Senators, House members, Governors, local 
representatives, talk about broadband deployment all the time, 
``We need better broadband deployment. Went need better 
penetration. We need better access to the Internet. And we need 
more high-speed access.'' And then, at the same time, they turn 
around and start talking about ending this ban on Internet 
access taxes, raising taxes on the Internet, which would have 
just the opposite effect, making it much more difficult to 
improve Internet access for high-cost areas, for rural areas.
    Senator Carper says, ``Well, we don't really have any--no 
interest in taxing Internet access.'' But if you stand in the 
way of a prohibition, then you're going to allow cities and 
towns and counties and others to tax Internet access. You might 
say, ``We have no interest in having taxes on e-mail,'' but if 
we allow the prohibition on Internet taxes to expire, then you 
open the door for cities and town and states to tax e-mail or 
other aspects of Internet access.
    So, I think we need to be, sort of, honest about what we're 
endorsing and what we're opposing. And I think it certainly 
makes sense, given the national and global nature of the 
Internet, to say, ``In this particular case, and with good, 
clear definition, that those cities, towns, and states cannot 
tax Internet access.''
    Senator Carper points out that we clarified the definitions 
with regard to voice service so that VoIP is treated the way 
other voice services are treated. And I think that was an 
appropriate approach that we took. But where access to the 
Internet, access to broadband is concerned, cities, towns, 
states shouldn't be imposing taxes that will discourage 
investment in innovation, raise prices for consumers, slow down 
the pace of deployment and access to those high-cost rural 
areas.
    This is a very important debate. I think, unfortunately, 
we're going to be talking about sales taxes, as well, in this 
debate, which is a separate issue, one that I think is very 
problematic, because it certainly penalizes states without a 
sales tax, because it creates an approach for the Federal 
Government to force small businesses in New Hampshire to 
collect taxes for other states. But we'll address those in the 
question and answer period.
    I thank you very much, Mr. Chairman, for holding the 
hearing on this important issue, because over the next couple 
of months, consumers are going to wake up to the fact that, 
unless we make this moratorium on Internet taxes permanent, 
then the Internet taxes are going to be imposed and start 
expanding across the country, November of this year.
    The Chairman. Now it's my privilege to call upon my 
distinguished colleagues.
    May I first call on Senator Ron Wyden.
    Senator Wyden?

                 STATEMENT OF HON. RON WYDEN, 
                    U.S. SENATOR FROM OREGON

    Senator Wyden. Thank you. Thank you very much, Mr. 
Chairman.
    Having given a lot of orations in this room on this 
particular subject, I thought I'd spare you, this morning and--
I'm just thrilled to be here with Senator Enzi, Representative 
Eshoo, Senator Sununu, all of you, to debate and just make a 
few comments.
    I'm always sad when I walk in the door, because I miss 
serving on this Committee so much, and being part of these 
debates. This is one of the great committees. And I know we can 
tackle this issue once again.
    When we started this discussion in this room, Congressman 
Cox and myself and Senator McCain, we tried to make clear that 
this was not about giving the Internet a free ride. Nobody 
should get a free ride. This has always been a question, 
because we all agree that we want the Internet, as an engine of 
so much good in our society, to keep that engine 
discrimination-free. The bill has always been about preventing 
discrimination on the Net.
    And let me give you the example we used, Mr. Chairman and 
colleagues, 10 years ago. We found, 10 years ago, that there 
were certain publications, at that time, that, if you bought 
the online edition, you paid a big tax, but if you bought the 
snail-mail edition, you paid no tax. We said, ``That's 
discrimination against technology. That's discrimination 
against the Net. We shouldn't allow it.'' And that has remained 
the bedrock principle of this whole debate for the last decade, 
that we should not allow discrimination.
    So, when our friend from Delaware--we've had this 
discussion many times--talks about not letting people generate 
revenue at the State and local level, all that this law has 
said for the last 10 years is that what you do online cannot be 
more punitive than what you do offline. I personally think we 
ought to make this permanent now. I'll come back here as long 
as the good people of Oregon are willing to let me serve in the 
Senate and keep working on this. Our ancestors were told the 
Spanish-American War phone tax was temporary, and I think it's 
time to take this out of temporary status and make it 
permanent, embed the principle that we don't want 
discrimination online.
    Now, if you want to figure out how much discriminatory 
taxes could be, the best reference is the phone bill, because 
taxes and government fees already add as much as another 20 
percent to people's phone bills.
    Here's the kind of scenario that we could have if you allow 
the Net to be opened up in this discriminatory way. Right now, 
if you take a gallon of milk to the checkout counter and pay 
tax on the purchase, the clerk can't turn around and charge you 
another tax if you're going to use the milk in your cereal and 
another tax if you're going to put milk in your coffee. But 
that's what can happen if you open up the Net to multiple 
taxes, and discriminatory taxes, and still pay all the phone 
taxes on digital subscriber lines, and all the franchise fees 
on cable, but, on top of those, you could pay even more taxes 
for the very same service.
    Now, the other point I wanted to mention, Mr. Chairman, is, 
nobody has been able to show harm as a result of this law. 
Nobody has been able to show how the failure to allow 
discriminatory taxes on the Net has hurt them. My hope now is 
that we can get beyond a few of the myths about this discussion 
and make this law permanent.
    The first myth is that in some way this law has kept State 
and local governments from taxing online sales. I've already 
made the point that the State and localities can do anything 
they want online, as long as the same thing happens offline. 
And the law specifically states that any sales tax that can be 
collected from an out-of-state phone or catalog order today can 
be collected from an Internet sale. The Act does not affect 
those abilities of states and localities.
    The second myth that has been out there is that the law 
somehow slows down a related project--not the same one, but a 
related project--called the State Streamlined Sales Tax 
Project. This is an effort by Senator Enzi. He's been doing 
good work. And certainly, I and others are willing to look at 
that whole effort.
    What this has largely been about--and former Governor 
Cellucci testified--I believe it was in this room, when we 
wrote the original law--is that states are not very comfortable 
forcing their citizens to pay taxes they owe on out-of-state 
purchases. And former Governor Cellucci testified before 
Congress that he just wasn't going to station State patrol 
officers at the New Hampshire border to search every returning 
Massachusetts car for items purchased in New Hampshire. That is 
the heart of the problem. And I don't understand why we should 
allow discriminatory taxes on the Net in order to deal with 
what is, to some extent, a question of political will.
    The Streamlined Sales Tax Project is going to consider--at 
some point, the Congress will decide whether to move from 7,500 
different taxing jurisdictions to 43,000 five-digit Zip Codes 
or 30 million nine-digit Zip Codes. We'll see if the Congress 
considers that simplification. But there is nothing in the 
Internet tax law that will in any way hinder the Streamlined 
Sales Tax Project.
    As Senator Carper said, and you touched on, Mr. Chairman, 
we all want broadband to be as available and widespread as we 
possibly can. But it just seems to me that to allow for 
multiple and discriminatory taxes online is going to make it 
harder for this Committee to go forward with its very 
constructive agenda to expand broadband into every nook and 
cranny of the country.
    Mr. Chairman, I thank you for the opportunity, and see a 
number of colleagues who have been involved in this debate over 
the years, and look forward to working with you on this.
    The Chairman. I thank you very much, sir.
    And I'm now pleased to recognize Senator Michael Enzi.

              STATEMENT OF HON. MICHAEL B. ENZI, 
                   U.S. SENATOR FROM WYOMING

    Senator Enzi. Thank you, Mr. Chairman. I appreciate you 
holding this hearing. It covers some extremely critical things, 
particularly to State and local governments. And I do intend to 
talk about both sales taxes and the moratorium on Internet 
access.
    I would ask that my whole statement be a part of the 
record.
    The Chairman. Without objection.
    Senator Enzi. Thank you.
    I've been working on the Streamlined Sales Tax Project and 
the sales tax fairness issue since joining the U.S. Senate in 
1997. As a former small business man, it's important to level 
the playing field for all retailers--in-store, catalog, and 
online--so an outdated rule for sales tax collection does not 
adversely impact small businesses and main-street retailers.
    Yesterday afternoon, I introduced the Sales Tax Fairness 
and Simplification Act, a bill that will treat all retailers in 
a similar fashion, so each retailer has the same sales tax 
collection responsibility. All businesses and their retail 
sales should be treated equally. By addressing this collection 
inequity, the bill will also help states ensure the viability 
of the sales tax as a major revenue source for State budgets by 
closing a growing loophole that encourages tax avoidance.
    My bill is not about new taxes. In fact, it is likely that 
states' dependency on Federal dollars could be offset by an 
increased collection at the State level. If Congress fails to 
authorize states to collect taxes on remote sales, and 
electronic commerce continues to grow as predicted, are we 
implicitly blessing a situation where states will be forced to 
raise other taxes, such as income or property taxes, to offset 
the growing loss of sales tax revenue? I do want to avoid that.
    The Sales Tax Fairness and Simplification Act accomplishes 
tax simplification in an unprecedented manner. It goes well 
beyond what Senator Wyden has mentioned. I won't go into all 
the details.
    The bill will help relieve the expensive burden by 
requiring states to meet the simplification standards outlined 
in the Streamlined Sales and Use Tax Agreement. Working with 
the business community, the states developed the Agreement to 
harmonize State sales tax rules, bring uniformity to definition 
of items in the sales tax base, significantly reduce the 
paperwork burden on retailers, and incorporate new technology 
to modernize many administrative procedures. This historic 
Agreement was approved by 34 states and the District of 
Columbia on November 12, 2002.
    Now, Senator Byron Dorgan of North Dakota, and I have 
worked tirelessly to assist sellers and State and local 
governments to find true simplification in almost every aspect 
of sales and use tax collection and administration. For the 
past 2 years, we worked with all interested parties to try to 
find a mutually agreeable legislative package to introduce. 
Many hours have been dedicated in trying to find the right 
solution to address all concerns, especially the small business 
exception. And we're still working on it. That's what we do.
    I'd also like to take this opportunity to briefly mention 
my support for Senators Carper and Alexander's bill, that it 
would extend the current Internet access tax moratorium. This 
legislation represents a commonsense approach to the extension 
of the Internet Tax Freedom Act, and recognizes that there may 
be changes in uniformity out there that we never anticipated. 
The first time that we discussed the--uniformity, we didn't 
talk about Voice over Internet Protocol. We have now.
    As the former Mayor of Gillette, Wyoming, and a former 
State legislator, I want to talk for a moment about the impact 
of this moratorium on State and local governments. I fully 
recognize the right of State and local governments to tax and 
collect revenue. State and local governments provide essential 
services to their communities, and they need to have revenue to 
pay for those services.
    While I agree that Internet access must remain tax-free, 
Congress must make sure that this definition of what 
constitutes Internet access is not expanded to unfairly limit 
the ability of State and local governments to provide essential 
services, such as police, firefighters, teachers, and road 
construction crews. You can't drink water from the Internet. 
You can't flush your toilet on the Internet. You can't drive 
your car on the Internet. Do you want to unfairly limit local 
government as they provide necessary services? I believe that 
Senators Carper and Alexander's legislation finds the right 
balance with the definition of ``Internet access.'' This bill 
makes sure that e-mail and instant messaging remains tax-free, 
while allowing states the ability to continue to collect 
revenue for essential services. It encourages increased use of 
the Internet, but still provides that future uses, if they have 
conflicts, can be resolved with future legislation.
    I urge my colleagues on this Committee to support the 
Internet Tax Freedom Extension Act of 2007. And I appreciate 
this opportunity to testify.
    [The prepared statement of Senator Enzi follows:]

 Prepared Statement of Hon. Michael B. Enzi, U.S. Senator from Wyoming
    Thank you, Chairman Inouye and Ranking Member Stevens, for allowing 
me to testify this morning about the importance of imposing uniformity, 
simplification, and fairness concerning the taxation of remote sales 
over the Internet. I also intend to briefly discuss the current 
moratorium on the Internet access tax.
    I have been working on the Streamlined Sales Tax Project and sales 
tax fairness issue since joining the U.S. Senate in 1997. As a former 
small business man, it is important to level the playing field for all 
retailers--in-store, catalog, and online--so an outdated rule for sales 
tax collection does not adversely impact small businesses and Main 
Street retailers. Yesterday afternoon, I introduced the Sales Tax 
Fairness and Simplification Act, a bill that will treat all retailers 
in a similar fashion so each retailer has the same sales tax collection 
responsibility. All businesses and their retail sales should be treated 
equally.
    By addressing this collection inequity, the bill will also help 
states ensure the viability of the sales tax as a major revenue source 
for state budgets by closing a growing loophole that encourages tax 
avoidance. It will help both consumers and states by reducing the 
burden on consumers and providing a mechanism that will allow states to 
systematically and fairly collect the taxes already owed to them. At a 
time when states are increasingly turning to the Federal Government for 
program funding, it is logical that Congress would instead authorize 
the states to collect their own revenue instead of raising the Federal 
tax burden to then distribute money back to the states.
    My bill is not about new taxes. In fact, it is likely that the 
states' dependency on Federal dollars could be offset by any increased 
collection at the state level. If Congress fails to authorize states to 
collect tax on remote sales, and electronic commerce continues to grow 
as predicted, are we implicitly blessing a situation where states will 
be forced to raise other taxes --such as income or property taxes--to 
offset the growing loss of sales tax revenue? I want to avoid that. 
That is why we need to implement a plan that will allow states to 
generate revenue using mechanisms already approved by their local 
leaders.
    The Sales Tax Fairness and Simplification Act accomplishes tax 
simplification in an unprecedented manner. As the Supreme Court 
identified in the Quill versus North Dakota decision in 1992, a 
multitude of complicated and diverse state sales tax rules made it too 
onerous to require retailers to collect sales taxes unless they had a 
physical presence in the state of the buyer. Local brick-and-mortar 
retailers collect sales taxes, while many online and catalog retailers 
are exempt from collecting the same taxes if they can argue that they 
do not have physical presence in the state. This is not only 
fundamentally unfair to Main Street retailers, most of whom are small 
businesses, but it is costing states and localities billions of dollars 
in lost revenue.
    The bill will help relieve the expensive burden by requiring states 
to meet the simplification standards outlined in the Streamlined Sales 
and Use Tax Agreement. Working with the business community, the states 
developed the Agreement to harmonize state sales tax rules, bring 
uniformity to definitions of items in the sales tax base, significantly 
reduce the paperwork burden on retailers, and incorporate new 
technology to modernize many administrative procedures. This historic 
Agreement was approved by 34 states and the District of Columbia on 
November 12, 2002.
    The states have made tremendous progress in changing their state 
tax laws to become compliant with the Agreement. Already, 19 states 
have enacted legislation to change their tax laws and implement the 
requirements of the Agreement and over 350 businesses have voluntarily 
signed up to begin collecting sales tax under the simplified set of 
rules.
    While the states have made great progress, the Quill decision held 
that allowing states to require collection is an issue that, ``Congress 
may be better qualified to resolve, and one that it has the ultimate 
power to resolve.'' The states have acted. It is now time for Congress 
to provide states that enact the Streamlined Sales and Use Tax 
Agreement with the authority to require remote retailers to collect 
sales taxes just as Main Street retailers do today.
    Senator Byron Dorgan of North Dakota and I have worked tirelessly 
to assist sellers and state and local governments to find true 
simplification in almost every aspect of sales and use tax collection 
and administration. For the past 2 years, we worked with all interested 
parties to try to find a mutually agreeable legislative package to 
introduce. Many hours have been dedicated in trying to find the right 
solution to address all concerns, especially the small business 
exception. Although I introduced the bill yesterday, I will continue to 
work with Senator Dorgan, my Congressional colleagues, and all 
interested parties to attempt to find compromise on all of the policy 
issues of concern to the stakeholders. Some of the outstanding policy 
issues we will attempt to address include modification of the small 
business exception, telecommunications services provisions, governance 
and judicial review, and the definition of sourcing. Bill introduction 
does not stop us from negotiating and working together to improve the 
final product that should be enacted into public law. It is how I 
always work.
    The Sales Tax Fairness and Simplification Act provides states that 
implement the Streamlined Sales and Use Tax Agreement with the 
authority to collect sales or use taxes equally from all retailers. 
Adoption of the Agreement and Congressional authorization will provide 
a level playing field for brick and mortar and remote retailers. I 
strongly urge my colleagues on this Committee to support the Sales Tax 
Fairness and Simplification Act.
    I would also like to take this opportunity to briefly mention my 
support for Senators Carper and Alexander's bill that would extend the 
current Internet access tax moratorium, also called the Internet Tax 
Freedom Extension Act of 2007. This legislation represents a common 
sense approach to the extension of the Internet Tax Freedom Act. 
Internet access provides countless opportunities for schools and 
businesses throughout our Nation, and I want to ensure that this access 
remains free from unfair and burdensome taxation. That is why I support 
this legislation to extend the moratorium on taxation for an additional 
4 years.
    As the former Mayor of Gillette, Wyoming and a former state 
legislator, I want to talk for a moment about the impact of this 
moratorium on local and state governments. I fully recognize the right 
of state and local governments to tax and collect revenue. State and 
local governments provide essential services to their communities and 
they need to have revenue to pay for these services.
    While I agree that Internet access must remain tax free, Congress 
must make sure that this definition of what constitutes Internet access 
is not expanded to unfairly limit the ability of state and local 
governments to provide essential services, such as police, 
firefighters, teachers, and road construction crews. You cannot drink 
water from the Internet. You cannot flush your toilet on the Internet. 
You cannot drive your car on the Internet. Do not unfairly limit local 
governments as they provide necessary services. I believe that Senators 
Carper and Alexander's legislation finds the right balance with its 
definition of Internet access. This bill makes sure that e-mail and 
instant messaging remains tax free while allowing states the ability to 
continue to collect revenue for essential services. I urge my 
colleagues on this Committee to support the Internet Tax Freedom 
Extension Act of 2007.
    Thank you again, Chairman Inouye and Ranking Member Stevens, for 
the opportunity to outline the importance of my bill, the Sales Tax 
Fairness and Simplification Act, and the Internet Tax Freedom Extension 
Act of 2007. I look forward to working with you, your staff, and the 
rest of the Commerce Committee on these two policy initiatives in the 
future to ensure swift passage of both bills later this year.

    The Chairman. I thank you very much.
    And now it's my pleasure to welcome our next witness to the 
Senate, the Honorable Anna Eshoo, Representative from the State 
of California.

               STATEMENT OF HON. ANNA G. ESHOO, 
              U.S. REPRESENTATIVE FROM CALIFORNIA

    Representative Eshoo. Good morning, Mr. Chairman and 
members of the Committee. Thank you for having me here to 
testify on legislation that I've introduced in the House, with 
Congressman Bob Goodlatte. And I hope he'll be able to join us 
this morning. He's been a great advocate for this.
    The bill is H.R. 743, the Permanent Internet Tax Freedom 
Act of 2007. It has a strong bipartisan support in the House, 
with 70 cosponsors to date.
    When this issue first came to prominence in the late 1990s, 
my Congressional district, which is home to Silicon Valley, was 
bustling with activity in the burgeoning Internet sector. From 
the end of 1997 to the end of 1998, in 1 short year, the number 
of Internet users more than doubled, from 70 million to 147 
million, and the 2 millionth domain name was registered in May 
1998. In September 1998, a small startup company was also 
incorporated in a garage in Menlo Park: Google, Inc.
    Congress and President Clinton recognized the promise of 
the Internet and the need to foster its growth and development 
by maintaining an open architecture, with limited barriers to 
entry and minimal regulatory and administrative burdens. Of 
particular concern was the potential for Internet access and 
services to become a target for government taxing authorities 
seeking new sources of revenue. We recognized, at that time, 
that it would not serve our country well to interfere with the 
growth of this exciting and invaluable tool for information, 
communications, and commerce, and we prohibited new and 
discriminatory taxes on the Internet.
    I think the moratorium has served our country well. The 
Internet is now an integral part of everyday life in our 
Nation. Americans utilize the Internet for communication, 
commerce, business, education, and research. So, I don't think 
now is the time to reverse this course and kill, essentially, 
``GoldenGoose.com.'' It's more critical now than at any time 
since the moratorium was established to protect the Internet 
from new taxes and fees.
    The country that invented the Internet no longer leads the 
world in Internet access and use. According to the most recent 
data, our country now ranks 15th in broadband penetration 
amongst all industrialized countries. I believe Congress should 
make a commitment to provide universal broadband access to all 
Americans. Universal broadband isn't just something we should 
do, it's something we must do if we're to remain competitive in 
the 21st century and the global economy. Broadband services are 
expanding, and more American consumers are subscribing to it, 
but we still lag behind most of our global competitors, 
particularly regarding true high-speed broadband service that 
will allow our country to remain a leader in communications 
strategies.
    Access to these high-speed services and applications will 
revolutionize business, healthcare, entertainment, and 
education in our country, but only if all Americans have access 
to advanced broadband service that's affordable. I can't think 
of a faster way to retreat from this important goal than to 
permit new taxes on Internet access and services. I think it 
will widen the breach of the digital divide.
    Some have argued that we should enact another temporary 
moratorium rather than establish the certainty that a permanent 
moratorium would provide. I think the basis for these arguments 
seems to be that State and local taxing authorities should be 
given time to streamline and simplify the various sales taxes 
assessed by the 7,500 taxing jurisdictions throughout the 
country. I don't think these arguments really hold water.
    First, nothing in this bill prohibits State and local 
governments from collecting use taxes from their residents on 
purchases made on the Internet, over the phone, or by mail 
order. It simply leaves in place the status quo, that distant 
businesses cannot be forced to calculate and collect these 
taxes for them.
    The promise of streamlining--and I thought there was 
promise for streamlining and simplification, but I think, 
today, it's illusory, most frankly--the discussions that have 
been underway--and I know Senator Enzi has done a great deal of 
work on it, but when you look at where we are now, the 
discussions have been underway for over a decade, and little or 
no progress is evident. In fact, the multi-state discussions on 
a simplified nationwide sales tax system have dwindled to 15 
states, and they don't even include any of the Nation's six 
most populous states--my State of California, Texas, New York, 
Florida, Illinois, and Pennsylvania. So, it's hard to see how 
these discussions will bear fruit, and it's difficult, I think, 
to justify tying the enactment of a permanent moratorium on new 
and discriminatory Internet taxes to this debate.
    So, I think it's important for Congress--I think it's 
critical for Congress--to do three things: reflect our 
commitment to universal broadband in America; two, provide 
certainty to the entire Internet community that access to the 
Net will remain tax free; and, three, to ensure that e-commerce 
in our country will remain free of discriminatory taxes.
    Thank you, again, for having me here today. It's an honor 
to share the podium with my colleagues and to be with you, this 
distinguished Committee.
    Thank you, Mr. Chairman.
    The Chairman. I thank you very much.
    Do you have any questions?
    [No response.]
    The Chairman. If not, I thank the panel very much. Thank 
you.
    Our next panel consists of Dr. James White, Director of Tax 
Policy and Administration of the GAO; Mr. David Quam, Director 
of Federal Relations, National Governors Association; Mr. 
Harley Duncan, Executive Director, Federation of Tax 
Administrators; Ms. Annabelle Canning, Vice President, State 
Tax Policy, of Verizon; and Mr. Jeff Dircksen, Director of 
Congressional Analysis, National Taxpayers Union Foundation. 
Welcome to the Committee.
    May I first recognize Dr. White.

   STATEMENT OF DR. JAMES R. WHITE, DIRECTOR, TAX ISSUES AND 
                     STRATEGIC ISSUES, GAO

    Dr. White. Mr. Chairman, Mr. Vice Chairman, and members of 
the Committee, I'm pleased to participate in today's hearing, 
and will focus on two issues: the scope of the moratorium on 
taxing Internet access and the impact of the moratorium, if 
any, on State and local revenues. These issues are of concern 
because of controversy over exactly what taxes are covered by 
the moratorium passed as part of the 1998 Internet Tax Freedom 
Act.
    First, regarding the scope of the moratorium as it applies 
to Internet access, what I say here is based on our reading of 
the plain language of the statute. The moratorium bars taxes on 
the service of providing Internet access to users, including 
whatever is reasonably bundled in the access package.
    My first graphic, which is also on page 19 of my statement, 
illustrates what can reasonably be bundled into an Internet 
access package. The graphic shows an Internet access provider, 
such as an American Online or Comcast, at the top, on the 
right, and a wire or a cable connecting the Internet service 
provider to a user in a home or a business. The pie chart is a 
cross-section slice of the wire, showing the various services 
that a provider sells to users. One of those services is 
Internet access, defined in the law as a service that enables 
users to access content, information, electronic mail, or other 
services offered over the Internet. Such an Internet access 
package is subject to the moratorium, making it tax exempt. 
Internet service providers may sell other services. These 
include video and POTS, perhaps my favorite acronym, Plain Old 
Telephone Service. These are not covered by the moratorium, 
they are taxable.
    My second graphic, which is on page 20 of my statement, is 
another way of showing what is subject to the moratorium on 
taxing Internet access. At the right is the end-user, a home, 
business, or school, just as in the first graphic. In the 
middle is the Internet service provider. As I have described, 
the sale of Internet access--the sale of an Internet access 
package by a provider to an end-user is covered by the 
moratorium and not subject to tax. On the left is a seller of 
various services to an Internet service provider. The services 
acquired by the Internet service provider could include leases 
of high-speed communications capacity to carry traffic to the 
Internet backbone. Purchases of such acquired services may be 
subject to taxation, depending on State law, because the 
moratorium only applies to taxes on Internet access. In other 
words, it is the service of providing Internet access to end-
users, the transaction on the right, that is subject to the tax 
moratorium. Acquiring services from suppliers, the transaction 
on the left, is not subject to the moratorium.
    Some providers and State officials have construed the 
moratorium as barring taxation of acquired services, reading 
2004 amendments to the 1998 Act as making acquired services tax 
exempt. However, as indicated by the language of the statute, 
the 2004 amendments did not expand the definition of ``Internet 
access''; rather, they amended the exception from the 
definition of Internet access to allow certain 
telecommunications services to qualify for the moratorium if 
they are part of the service of providing Internet access to 
users.
    A tax on acquired services, the transaction on the left in 
the graphic, is not a tax on the service of providing Internet 
access to users, that transaction shown on the right.
    Now, I want to discuss the revenue impact of the 
moratorium. The moratorium's impact on State and local revenues 
is unclear. Some taxes have been collected under a grandfather 
clause, but the amounts are small. One estimate is that states 
with grandfathered Internet access taxes collected something on 
the order of .1 percent of their total tax revenue from such 
taxes. This is consistent with information we, at GAO, obtained 
in case studies of eight states and interviews with Internet 
service providers. While we know that the amount actually 
collected from grandfathered Internet access taxes is small, it 
is difficult to predict what states would have done in the 
absence of the moratorium passed in 1998. As states and 
localities saw increased Internet use, they might have taxed 
Internet access if no moratorium had been in place.
    Any future impact of the moratorium will vary by state and 
also depend on whether grandfathering is continued. Some states 
might choose not to tax Internet access, even in the absence of 
a moratorium, but types of taxes states might impose would also 
vary. In our case studies, some states taxed only services 
delivered to retail customers, some taxed acquired services, 
some taxed both, some taxed neither, and some provided 
exemptions--for example, to residential consumers.
    Mr. Chairman, Mr. Vice Chairman, this completes my 
statement, and I'd be happy to answer any questions.
    [The prepared statement of Dr. White follows:]

  Prepared Statement of Dr. James R. White, Director, Tax Issues and 
                         Strategic Issues, GAO
    Chairman Inouye, Vice Chairman Stevens, and members of the 
Committee:

    I appreciate this opportunity to discuss the moratorium on taxing 
access to the Internet. According to one study, at the end of 2006 
about 92 million U.S. adults used the Internet on a typical day.\1\ As 
Internet usage grew from the mid-1990s onward, state and local 
governments imposed some taxes on it and considered more. Concerned 
about the impact of such taxes, Congress extensively debated whether 
state and local governments should be allowed to tax Internet access. 
The debate resulted in legislation setting national policy on state and 
local taxation of access.
---------------------------------------------------------------------------
    \1\ Pew Internet & American Life Project, Daily Internet Activities 
(Washington, D.C.: Jan. 11, 2007).
---------------------------------------------------------------------------
    In 1998, Congress enacted the Internet Tax Freedom Act,\2\ which 
imposed a moratorium temporarily preventing state and local governments 
from imposing new taxes on Internet access or multiple or 
discriminatory taxes on electronic commerce. Existing state and local 
taxes were ``grandfathered,'' allowing them to continue to be 
collected. Since its enactment, the moratorium has been amended twice, 
most recently in 2004, when Congress included language requiring that 
we study the impact of the moratorium on state and local government 
revenues and on the deployment and adoption of broadband 
technologies.\3\ Such technologies permit communications over high-
speed, high-capacity media, such as that provided by cable modem 
service or by a telephone technology known as digital subscriber line 
(DSL).\4\ This year, bills have been introduced in both Houses of 
Congress to make the moratorium permanent.
---------------------------------------------------------------------------
    \2\ Pub. L. 105-277, 112 Stat. 2681-719 (1998), 47 U.S.C.  151 
Note.
    \3\ Internet Tax Nondiscrimination Act, Pub. L. 108-435,  7, 118 
Stat. 2615, 2618 (2004).
    \4\ DSL is a high-speed way of accessing the Internet using 
traditional telephone lines that have been ``conditioned'' to handle 
DSL technology.
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    My remarks today are based on the first of two reports we issued 
responding to the mandate that we study the impact of the moratorium. 
Issued in January 2006, that report focused on the moratorium's impact 
on state and local government revenues.\5\ Its objectives were to 
determine (1) the scope of the moratorium and (2) the impact of the 
moratorium, if any, on state and local revenues. In determining any 
impact on revenues, the report explored what would happen if 
grandfathering of access taxes on dial-up and DSL services were 
eliminated, what might have happened in the absence of the moratorium, 
and how the impact of the moratorium might differ from state to state. 
The report did not focus on taxing the sale of items over the Internet. 
A second report discussed the impact that various factors, including 
taxes, have on broadband deployment and adoption.\6\
---------------------------------------------------------------------------
    \5\ GAO, Internet Access Tax Moratorium: Revenue Impacts Will Vary 
by State, GAO-06-273 (Washington, D.C.: Jan. 23, 2006). See the report 
for more details than this testimony provides about revenue impacts and 
for more appendixes, including one showing comments from 
telecommunications industry officials.
    \6\ GAO, 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 (Washington, D.C.: May 5, 
2006).
---------------------------------------------------------------------------
    To prepare the first report, we reviewed the language of the 
moratorium, its legislative history, and associated legal issues; 
examined studies of revenue impact done by the Congressional Budget 
Office (CBO) and others; interviewed representatives of companies and 
associations involved with Internet access services; and collected 
information through case studies of eight states. We chose the states 
to get a mixture of those that did or did not have taxes grandfathered 
for different forms of access services, did or did not have local 
jurisdictions that taxed access services, had high and low state tax 
revenue dollars per household and business entity with Internet 
presence, had high and low percentages of households online, and 
covered different urban and rural parts of the country. We did not 
intend the eight states to represent any other states. In the course of 
our case studies, state officials told us how they made the estimates 
they gave us of tax revenues collected related to Internet access and 
how firm these estimates were. We could not verify the estimates, and, 
in doing its study, CBO supplemented estimates that it received from 
states with CBO-generated information. Nevertheless, based on other 
information we obtained, the state estimates we received appeared to 
provide a sense of the order of magnitude of the dollars involved. We 
did our work from February through December 2005 in accordance with 
generally accepted government auditing standards. A later section of 
this testimony contains a complete discussion of our objectives, scope, 
and methodology.
    Let me begin by summarizing the major points of the report:
    The Internet tax moratorium bars taxes on Internet access, meaning 
taxes on the service of providing Internet access. In this way, it 
prevents services that are reasonably bundled as part of an Internet 
access package, such as electronic mail and instant messaging, from 
being subject to taxes when sold to end-users. These tax-exempt 
services also include DSL services bundled as part of an Internet 
access package. Some states and providers have construed the moratorium 
as also barring taxation of what we call acquired services, such as 
high-speed communications capacity over fiber, acquired by Internet 
service providers and used by them to deliver access to the Internet to 
their customers. Because they believed that taxes on acquired services 
are prohibited by the 2004 amendments, some state officials told us 
when we were preparing our report that their states would stop 
collecting them as early as November 1, 2005, the date they assumed 
that taxes on acquired services would lose their grandfathered 
protection. However, according to our reading of the law, the 
moratorium does not apply to acquired services since, among other 
things, a tax on acquired services is not a tax on ``Internet access.'' 
Nontaxable ``Internet access'' is defined in the law as the service of 
providing Internet access to an end-user; it does not extend to a 
provider's acquisition of capacity to provide such service. Purchases 
of acquired services are subject to taxation, depending on state law.
    The revenue impact of eliminating grandfathering in states studied 
by CBO would be small, but the moratorium's total revenue impact has 
been unclear and any future impact would vary by state. In 2003, CBO 
reported that states and localities would lose from more than $160 
million to more than $200 million annually by 2008 if all grandfathered 
taxes on dial-up and DSL services were eliminated, although part of 
this loss reflected acquired services. It also identified other 
potential revenue losses, although unquantified, that could have grown 
in the future but that now seem to pose less of a threat. CBO's 
estimated annual losses by 2007 for states that had grandfathered taxes 
in 1998 were about 0.1 percent of the total 2004 tax revenues for those 
states. Because it is difficult to know what states would have done to 
tax Internet access services if no moratorium had existed, the total 
revenue implications of the moratorium are unclear. The 1998 moratorium 
was considered before connections to the Internet were as widespread as 
they later became, limiting the window of opportunity for states to 
adopt new taxes on access services. Although some states had already 
chosen not to tax access services and others stopped taxing them, other 
states might have been inclined to tax access services if no moratorium 
were in place. In general, any future impact related to the moratorium 
will differ from state to state. The details of state tax law as well 
as applicable tax rates varied from one state to another. For instance, 
North Dakota taxed access service delivered to retail consumers. Kansas 
taxed communications services acquired by Internet service providers to 
support their customers. Rhode Island taxed both access service 
offerings and the acquisition of communications services. California 
officials said their state did not tax these areas at all.
    In oral comments on a draft of our January 2006 report, CBO staff 
members said we fairly characterized CBO information and suggested 
clarifications that we made as appropriate. Federation of Tax 
Administrators (FTA) officials said that our legal conclusion was 
clearly stated and, if adopted, would be helpful in clarifying which 
Internet access-related services are taxable and which are not. 
However, they expressed concern that the statute could be interpreted 
differently regarding what might be reasonably bundled in providing 
Internet access to consumers. A broader view of what could be included 
in Internet access bundles would result in potential revenue losses 
much greater than we indicated. However, as explained in the Appendix, 
we believe that what is bundled must be reasonably related to accessing 
and using the Internet. In written comments, company representatives 
disagreed with GAO by commenting that the 2004 amendments make acquired 
services subject to the moratorium and therefore not taxable, and that 
the language of the statute and the legislative history support this 
position. While we acknowledge that there are different views about the 
scope of the moratorium, our view is based on the language and 
structure of the statute.
    We made no recommendations in the report, and we are not making any 
recommendations in this testimony.
Background
    As shown in figure 1, residential and small business users often 
connect to an Internet service provider (ISP) to access the Internet. 
Well-known ISPs include America Online (AOL) and Comcast. Typically, 
ISPs market a package of services that provide homes and businesses 
with a pathway, or ``on-ramp,'' to the Internet along with services 
such as e-mail and instant messaging. The ISP sends the user's Internet 
traffic forward to a backbone network where the traffic can be 
connected to other backbone networks and carried over long distances. 
By contrast, large businesses often maintain their own internal 
networks and may buy capacity from access providers that connect their 
networks directly to an Internet backbone network. We are using the 
term access providers to include ISPs as well as providers who sell 
access to large businesses and other users. Nonlocal traffic from both 
large businesses and ISPs connects to a backbone provider's network at 
a ``point of presence'' (POP). Figure 1 depicts two hypothetical and 
simplified Internet backbone networks that link at interconnection 
points and take traffic to and from residential units through ISPs and 
directly from large business users.


    As public use of the Internet grew from the mid-1990s onward, 
Internet access and electronic commerce became potential targets for 
state and local taxation. Ideas for taxation ranged from those that 
merely extended existing sales or gross receipts taxes to so-called 
``bit taxes,'' which would measure Internet usage and tax in proportion 
to use. Some state and local governments raised additional tax revenues 
and applied existing taxes to Internet transactions. Owing to the 
Internet's inherently interstate nature and to issues related to taxing 
Internet-related activities, concern arose in Congress as to what 
impact state and local taxation might have on the Internet's growth, 
and thus, on electronic commerce. Congress addressed this concern when, 
in 1998, it adopted the Internet Tax Freedom Act, which bars state and 
local taxes on Internet access, as well as multiple or discriminatory 
taxes on electronic commerce.\7\
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    \7\ A tax is a multiple tax if credit is not given for comparable 
taxes paid to other states on the same transaction; a tax is a 
discriminatory tax if e-commerce transactions are taxed at a higher 
rate than comparable nonelectronic transactions would be taxed, or are 
required to be collected by different parties or under other terms that 
are more disadvantageous than those that are applied in taxing other 
types of comparable transactions. Generally, states and localities that 
tax e-commerce impose comparable taxes on nonelectronic transactions. 
States that have sought at one time to require that access providers 
collect taxes due--a process that might have been thought to have been 
discriminatory--have backed away from that position. Moreover, although 
interstate commerce may bear its fair share of state taxes, the 
interstate commerce clause of the Constitution requires there to be a 
substantial nexus, fair apportionment, nondiscrimination, and a 
relationship between a tax and state-provided services that largely 
constrains the states in imposing such taxes. Quill Corp. v. North 
Dakota, 504 U.S. 298, 313 (1992). In any case, our report did not focus 
on taxing the sale of items over the Internet.
---------------------------------------------------------------------------
    Internet usage grew rapidly in the years following 1998, and the 
technology to access the Internet changed markedly. Today a significant 
portion of users, including home users, access the Internet over 
broadband communications services using cable modem, DSL, or wireless 
technologies. Fewer and fewer users rely on dial-up connections through 
which they connect to their ISP by dialing a telephone number. By 2004, 
some state tax authorities were taxing DSL service, which they 
considered to be a telecommunications service, creating a distinction 
between DSL and services offered through other technologies, such as 
cable modem, that were not taxed.
    Originally designed to postpone the addition of any new taxes while 
the Advisory Commission on Electronic Commerce studied the tax issue 
and reported to Congress, the moratorium was extended in 2001 for 2 
years \8\ and again in 2004, retroactively, to remain in force until 
November 1, 2007.\9\ The 2001 extension made no other changes to the 
original Act, but the 2004 Act included clarifying amendments. The 2004 
act amended language that had exempted telecommunications services from 
the moratorium. Recognizing state and local concerns about their 
ability to tax voice services provided over the Internet, it also 
contained language allowing taxation of telephone service using Voice 
over Internet Protocol (VoIP). Although the 2004 amendments extended 
grandfathered protection generally to November 2007, grandfathering 
extended only to November 2005 for taxes subject to the new moratorium 
but not to the original moratorium.
---------------------------------------------------------------------------
    \8\ Internet Tax Nondiscrimination Act, 2001, Pub. L. 107-75,  2, 
115 Stat. 703.
    \9\ Internet Tax Nondiscrimination Act, 2004, Pub. L. 108-435,  2 
to 6A, 118 Stat. 2615 to 2618.
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Objectives, Scope, and Methodology
    To determine the scope of the Internet tax moratorium, we reviewed 
the language of the moratorium, the legislative history of the 1998 Act 
and the 2004 amendments, and associated legal issues.
    To determine the impact of the moratorium on state and local 
revenues, we worked in stages. First, we reviewed studies of revenue 
impact done by CBO, FTA, and the staff of the Multistate Tax Commission 
and discussed relevant issues with Federal representatives, state and 
local government and industry associations, and companies providing 
Internet access services. Then, we used structured interviews to do 
case studies in eight states that we chose as described earlier. We did 
not intend the eight states to represent any other states.
    For each selected state, we focused on specific aspects of its tax 
system by using our structured interview and collecting relevant 
documentation. For instance, we reviewed the types and structures of 
Internet access service taxes, the revenues collected from those taxes, 
officials' views of the significance of the moratorium to their 
government's financial situation, and their opinions of any 
implications to their states of the new definition of Internet access. 
We also learned whether localities within the states were taxing access 
services. When issues arose, we contacted other states and localities 
to increase our understanding of these issues.
    We discussed with state officials how they derived the estimates 
they gave us of tax dollars collected and how firm these numbers were. 
We could not verify the estimates, and CBO supplemented estimates that 
it received from states. Nevertheless, based on other information we 
obtained, the state estimates appeared to provide a sense of the order 
of magnitude of the numbers compared to state tax revenues.
    We did our work from February through December 2005 in accordance 
with generally accepted government auditing standards.
Internet Access Services, Including Bundled Access Services, May Not Be 
        Taxed, but Acquired Services May Be
    The moratorium bars taxes on the service of providing access, which 
includes whatever an access provider reasonably bundles in its access 
offering to consumers. On the other hand, the moratorium does not 
prohibit taxes on acquired services, referring to goods and services 
that an access provider acquires to enable it to bundle and provide its 
access package to its customers. However, some providers and state 
officials have expressed a different view, believing the moratorium 
barred taxing acquired services in addition to bundled access services.
Internet Access Services, Including Bundled Broadband Services, May Not 
        Be Taxed
    Since its 1998 origin, the moratorium has always prohibited taxing 
the service of providing Internet access, including component services 
that an access provider reasonably bundles in its access offering to 
consumers. However, as amended in 2004, the definition of Internet 
access contains additional words. With words added in 2004 in italics, 
it now defines the scope of nontaxable Internet access as:

        ``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.'' \10\ (italics provided):
---------------------------------------------------------------------------
    \10\ 47 U.S.C.  151 Note  1105(5).

    As shown in the simplified illustration in figure 2, the items 
reasonably bundled in a tax-exempt Internet access package may include 
e-mail, instant messaging, and Internet access itself. Internet access, 
in turn, includes broadband services, such as cable modem and DSL 
services, which provide continuous, high-speed access without tying up 
wireline telephone service. As figure 2 also illustrates, a tax-exempt 
bundle does not include video, traditional wireline telephone service 
referred to as ``plain old telephone service'' (POTS), or VoIP. These 
services are subject to tax. For simplicity, the figure shows a number 
of services transmitted over one communications line. In reality, a 
line to a consumer may support just one service at a time, as is 
typically the case for POTS, or it may simultaneously support a variety 
of services, such as television, Internet access, and VoIP.


    Our reading of the 1998 law and the relevant legislative history 
indicates that Congress had intended to bar taxes on services bundled 
with access. However, there were different interpretations about 
whether DSL service could be taxed under existing law, and some states 
taxed DSL. The 2004 amendment was aimed at making sure that DSL service 
bundled with access could not be taxed. See the Appendix for further 
explanation.
Acquired Services May Be Taxed
    Figure 3 shows how the nature and tax status of the Internet access 
services just described differ from the nature and tax status of 
services that an ISP acquires and uses to deliver access to its 
customers. An ISP in the middle of figure 3 acquires communications and 
other services and incidental supplies (shown on the left side of the 
figure) in order to deliver access services to customers (shown on the 
right side of the figure). We refer to the acquisitions on the left 
side as purchases of ``acquired services.'' \11\ For example, acquired 
services include ISP leases of high-speed communications capacity over 
wire, cable, or fiber to carry traffic from customers to the Internet 
backbone.
---------------------------------------------------------------------------
    \11\ Some have also used the term wholesale to describe acquired 
services. For example, the New Millennium Research Council in Taxing 
High-Speed Services (Washington, D.C.: Apr. 26, 2004) said that 
``wholesale services that telecommunications firms provide ISPs can 
include local connections to the customer's premise, high-capacity 
transport between network points and backbone services.'' We avoid 
using the term, however, because it suggests a particular sales 
relationship (between wholesaler and retailer) that may be limiting and 
misleading.


    Purchases of acquired services are subject to taxation, depending 
on state law, because the moratorium does not apply to acquired 
services. As noted above, the moratorium applies only to taxes imposed 
on ``Internet access,'' which is defined in the law as ``a service that 
enables users to access content, information, electronic mail, or other 
services offered over the Internet. . . .'' In other words, it is the 
service of providing Internet access to the end-user--not the 
acquisition of capacity to do so--that constitutes ``Internet access'' 
subject to the moratorium.
    Some providers and state officials have construed the moratorium as 
barring taxation of acquired services, reading the 2004 amendments as 
making acquired services tax exempt. However, as indicated by the 
language of the statute, the 2004 amendments did not expand the 
definition of ``Internet access,'' but rather amended the exception 
from the definition to allow certain ``telecommunication services'' to 
qualify for the moratorium if they are part of the service of providing 
Internet access. A tax on acquired services is not a tax directly 
imposed on the service of providing Internet access.
    Our view that acquired services are not subject to the moratorium 
on taxing Internet access is based on the language and structure of the 
statute, as described further in the Appendix. We acknowledge that 
others have different views about the scope of the moratorium. Congress 
could, of course, deal with this issue by amending the statute to 
explicitly address the tax status of acquired services.
Some States Have Applied the Moratorium to Acquired Services
    As noted above, some providers and state officials have construed 
the moratorium as barring taxation of acquired services. Some provider 
representatives said that acquired services were not taxable at the 
time we contacted them and had never been taxable. Others said that 
acquired services were taxable when we contacted them but would become 
tax exempt in November 2005 under the 2004 amendments, the date they 
assumed that taxes on acquired services would no longer be 
grandfathered.
    As shown in table 1, officials from four out of the eight states we 
studied--Kansas, Mississippi, Ohio, and Rhode Island--also said their 
states would stop collecting taxes on acquired services, as of November 
1, 2005, in the case of Kansas and Ohio whose collections have actually 
stopped, and later for the others. These states roughly estimated the 
cost of this change to them to be a little more than $40 million in 
revenues that were collected in 2004. An Ohio official indicated that 
two components comprised most of the dollar amounts of taxes collected 
from these services in 2004: $20.5 million from taxes on 
telecommunications services and property provided to ISPs and Internet 
backbone providers, and $9.1 million from taxes for private line 
services (such as high-capacity T-1 and T-3 lines) and 800/wide-area 
telecommunications services that the official said would be exempt due 
to the moratorium. The rough estimates in table 1 are subject to the 
same limitations described in the next section for the state estimates 
of all taxes collected related to Internet access.



------------------------------------------------------------------------



Table 1: Summary of Case Study State Rough Estimates of 2004 Tax Revenue
                         from Acquired Services
------------------------------------------------------------------------
                   Collected taxes paid  2004 revenue from taxes paid on
      State            on  acquired       acquired services  (dollars in
                         services                   millions)
------------------------------------------------------------------------
California                               $0
------------------------------------------------------------------------
Kansas             x                     9-10
------------------------------------------------------------------------
Mississippi        x                     At most, 1
------------------------------------------------------------------------
North Dakota                             0
------------------------------------------------------------------------
Ohio               x                     32.3
------------------------------------------------------------------------
Rhode Island       x                     Insignificant compared to total
                                          telecommunications tax
                                          revenues
------------------------------------------------------------------------
Texas                                    0
------------------------------------------------------------------------
Virginia                                 0
------------------------------------------------------------------------
Source: State officials.
Note: The next section contains a discussion of general limitations of
  the state estimates of revenue from taxes.

While the Revenue Impact of Eliminating Grandfathering Would Be Small, 
        the Moratorium's Total Revenue Impact Has Been Unclear and Any 
        Future Impact Would Vary by State
    According to CBO data, grandfathered taxes in the states CBO 
studied were a small percentage of those states' tax revenues. However, 
because it is difficult to know which states, if any, might have chosen 
to tax Internet access services and what taxes they might have chosen 
to use if no moratorium had ever existed, the total revenue 
implications of the moratorium are unclear. In general, any future 
impact related to the moratorium will differ from state to state.
According to Information in CBO Reports, States Would Lose a Small 
        Fraction of Their Tax Revenues if Grandfathered Taxes on Dial-
        up and DSL Services Were Eliminated
    In 2003, CBO reported how much state and local governments that had 
grandfathered taxes on dial-up and DSL services would lose in revenues 
if the grandfathering were eliminated. The fact that these estimates 
represented a small fraction of state tax revenues is consistent with 
other information we obtained. In addition, the enacted legislation was 
narrower than what CBO reviewed, meaning that CBO's stated concerns 
about VoIP and taxing providers' income and assets would have 
dissipated.
    CBO provided two estimates in 2003 that, when totaled, showed that 
no longer allowing grandfathered dial-up and DSL service taxes would 
cause state and local governments to lose from more than $160 million 
to more than $200 million annually by 2008. According to a CBO staff 
member, this estimate included some amounts for what we are calling 
acquired services that, as discussed in the previous section, would not 
have to be lost. CBO provided no estimates of revenues involved for 
governments not already assessing the taxes and said it could not 
estimate the size of any additional impacts on state and local revenues 
of the change in the definition of Internet access. Further, according 
to a CBO staff member, CBO's estimates did not include any lost 
revenues from taxes on cable modem services. In October 2003, around 
the time of CBO's estimates, the number of cable home Internet 
connections was 12.6 million, compared to 9.3 million home DSL 
connections and 38.6 million home dial-up connections.
    CBO first estimated that as many as 10 states and several local 
governments would lose $80 million to $120 million annually, beginning 
in 2007, if the 1998 grandfather clause were repealed. Its second 
estimate showed that, by 2008, state and local governments would likely 
lose more than $80 million per year from taxes on DSL service.\12\
---------------------------------------------------------------------------
    \12\ The more than $80 million per year is the amount of revenue 
that CBO expected state and local governments to collect on DSL service 
and some acquired services by 2008. If the jurisdictions had recognized 
that the reason for the 2004 amendments was largely moot, and if they 
had not been collecting taxes on DSL service in the first place, they 
would not have had part of the $80 million to lose.
---------------------------------------------------------------------------
    The CBO numbers are a small fraction of total state tax revenue 
amounts. For example, the $80 million to $120 million estimate for the 
states with originally grandfathered taxes for 2007 was about 0.1 
percent of tax revenues in those states for 2004--3 years earlier.
    The fact that CBO estimates are a small part of state tax revenues 
is consistent with information we obtained from our state case studies 
and interviews with providers. For instance, after telling us whether 
various access-related services, including cable modem service, were 
subject to taxation in their jurisdictions, the states collecting taxes 
gave us rough estimates of how much access-service related tax revenues 
they collected for 2004 for themselves and their localities, if 
applicable. (See table 2). All except two collected $10 million or 
less.



------------------------------------------------------------------------



 Table 2: Case Study State Officials' Rough Estimates of Taxes Collected
                   for 2004 Related to Internet Access
------------------------------------------------------------------------
                                  Estimated taxes collected (dollars in
             State                              millions)
------------------------------------------------------------------------
California                       N/A
------------------------------------------------------------------------
Kansas                           $9-10
------------------------------------------------------------------------
Mississippi                      At most, 1 a
------------------------------------------------------------------------
North Dakota                     2.4
------------------------------------------------------------------------
Ohio                             52.1
------------------------------------------------------------------------
Rhode Island                     Less than 4.5 b
------------------------------------------------------------------------
Texas                            50 c
------------------------------------------------------------------------
Virginia                         N/A
------------------------------------------------------------------------
Source: State officials.
Note: The accompanying text contains a discussion of general limitations
  of the state estimates of revenue from taxes.
a According to a Mississippi official, although estimating a dollar
  amount would be extremely hard, the state believes the amount
  collected was at most $1 million.
b Rhode Island officials told us that taxes collected on access were
  taxes paid on services to retail consumers, and Rhode Island did not
  have an estimate for taxes collected on acquired services.
c Texas officials did not provide us with an estimate of taxes collected
  for Texas localities.

    The states made their estimates by assuming, for instance, that 
access service-related tax revenues were a certain percentage of state 
telecommunications sales tax revenues, by reviewing providers' returns, 
or by making various calculations starting with census data. Most 
estimates provided us were more ballpark approximations than precise 
computations, and CBO staff expressed a healthy skepticism toward some 
state estimates they received. They said that the supplemental state- 
by-state information they developed sometimes produced lower estimates 
than the states provided. According to others knowledgeable in the 
area, estimates provided us were imprecise because when companies filed 
sales or gross receipts tax returns with states, they did not have to 
specifically identify the amount of taxes they received from providing 
Internet access-related services to retail consumers or to other 
providers. As discussed earlier, sales to other providers remain 
subject to taxation, depending on state law. Some providers told us 
they did not keep records in such a way as to be able to readily 
provide that kind of information. Also, although states reviewed tax 
compliance by auditing taxpayers, they could not audit all providers.
    The dollar amounts in table 2 include amounts, where provided, for 
local governments within the states. For instance, Kansas's total 
includes about $2 million for localities. In this state as well as in 
others we studied, local jurisdictions were piggybacking on the state 
taxes, although the local tax rates could differ from each other.
    State tax officials from our case study states who commented to us 
on the impacts of the revenue amounts did not consider them 
significant. Similarly, state officials voiced concerns but did not 
cite nondollar specifics when describing any possible impact on their 
state finances arising from no longer taxing Internet access services. 
However, one noted that taking away Internet access as a source of 
revenue was another step in the erosion of the state's tax base.\13\ 
Other state and local officials observed that if taxation of Internet 
access were eliminated, the state or locality would have to act somehow 
to continue meeting its requirement for a balanced budget. At the local 
level, officials told us that a revenue decrease would reduce the 
amount of road maintenance that could be done or could adversely affect 
the number of employees available for providing government services.
---------------------------------------------------------------------------
    \13\ In the debate leading to the 2004 amendments' passage, critics 
had expressed concern that the Federal Government was interfering with 
state and local revenue-raising ability.
---------------------------------------------------------------------------
Timing of Moratorium Might Have Precluded Many States From Taxing 
        Access Services, with Unclear Revenue Implications
    Because it is difficult to predict what states would have done to 
tax Internet access services had Congress not intervened when it did, 
it is hard to estimate the amount of revenue that was not raised 
because of the moratorium. For instance, at the time the first 
moratorium was being considered in 1998, the Department of Commerce 
reported Internet connections for less than a fifth of U.S. households, 
much less than the half of U.S. households reported 6 years later. 
Access was typically dial-up. As states and localities saw the level of 
Internet connections rising and other technologies becoming available, 
they might have taxed access services if no moratorium had been in 
place. Taxes could have taken different forms. For example, 
jurisdictions might have even adopted bit taxes based on the volume of 
digital information transmitted.
    The number of states collecting taxes on access services when the 
first moratorium was being considered in early 1998 was relatively 
small, with 13 states and the District of Columbia collecting these 
taxes, according to the Congressional Research Service. Five of those 
jurisdictions later eliminated or chose not to enforce their tax. In 
addition, not all 37 other states would have taxed access services 
related to the Internet even if they could have. For example, 
California had already passed its own Internet tax moratorium in August 
1998.
    Given that some states never taxed access services while relatively 
few Internet connections existed, that some stopped taxing access 
services, and that others taxed DSL service, it is unclear what 
jurisdictions would have done if no moratorium had existed. However, 
the relatively early initiation of a moratorium reduced the opportunity 
for states inclined to tax access services to do so before Internet 
connections became more widespread.
Any Future Impact of the Moratorium Will Vary by State
    Although as previously noted the impact of eliminating 
grandfathering would be small in states studied by CBO or by us, any 
future impact related to the moratorium will vary on a state-by-state 
basis for many reasons. State tax laws differed significantly from each 
other, and states and providers disagreed on how state laws applied to 
the providers.
    As shown in table 3, states taxed Internet access using different 
tax vehicles imposed on diverse tax bases at various rates. The tax 
used might be generally applicable to a variety of goods and services, 
as in Kansas, which did not impose a separate tax on communications 
services. There, the state's general sales tax applied to the purchase 
of communications services by access providers at an average rate of 
6.6 percent, combining state and average local tax rates. As another 
example, North Dakota imposed a sales tax on retail consumers' 
communications services, including Internet access services, at an 
average state and local combined rate of 6 percent.



----------------------------------------------------------------------------------------------------------------



                       Table 3: Characteristics Showing Variations among Case Study States
----------------------------------------------------------------------------------------------------------------
                           Taxing retail
                              consumer
              Type of tax     Internet        Taxing       State tax rate     Local tax rate     Exemptions of
    State          a           access        acquired       (percentage)       (percentage)    customer types or
                              services       services                                           payment amounts

----------------------------------------------------------------------------------------------------------------
California    N/A                                        N/A                N/A
----------------------------------------------------------------------------------------------------------------
Kansas        Sales                       x              5.3                1.3 on average
----------------------------------------------------------------------------------------------------------------
Mississippi   Gross                       x              7.0                N/A
               income
----------------------------------------------------------------------------------------------------------------
North Dakota  Sales        x                             5.0                1.0-2.0
----------------------------------------------------------------------------------------------------------------
Ohio          Sales        x              x              5.5                1.0 on average     Residential
                                                                                               consumers
----------------------------------------------------------------------------------------------------------------
Rhode Island  Gross        x b            x              5.0, 6.0           N/A
               receipts
               and sales
----------------------------------------------------------------------------------------------------------------
Texas         Sales        x                             6.25               2.0 limit          First $25 of
                                                                                               services
----------------------------------------------------------------------------------------------------------------
Virginia      N/A                                        N/A                N/A
----------------------------------------------------------------------------------------------------------------
Source: State officials and laws.
a For purposes of this testimony, a reference to a sales tax includes any ancillary use tax. Also for our
  purposes, the difference between a sales and a gross receipts tax is largely a distinction without a
  difference since the moratorium does not differentiate between them.
b Rhode Island retail consumers did not pay this tax directly, but rather through the gross receipts tax paid by
  their providers.

    Our case study states showed little consistency in the base they 
taxed in taxing services related to Internet access. States imposed 
taxes on different transactions and populations. North Dakota and Texas 
taxed only services delivered to retail consumers. In a type of 
transaction which, as discussed earlier, we do not view as subject to 
the moratorium, Kansas and Mississippi taxed acquired communications 
services purchased by access providers. Ohio and Rhode Island taxed 
both the provision of access services and acquired services, and 
California and Virginia officials told us their states taxed neither. 
States also provided various exemptions from their taxes. Ohio exempted 
residential consumers, but not businesses, from its tax on access 
services, and Texas exempted the first $25 of monthly Internet access 
service charges from taxation.
    Some state and local officials and company representatives held 
different opinions about whether certain taxes were grandfathered and 
about whether the moratorium applied in various circumstances. For 
example, some providers' officials questioned whether taxes in North 
Dakota, Wisconsin, and certain cities in Colorado were grandfathered, 
and whether those jurisdictions were permitted to continue taxing. 
Providers disagreed among themselves about how to comply with the tax 
law of states whose taxes may or may not have been grandfathered. Some 
providers told us they collected and remitted taxes to the states even 
when they were uncertain whether these actions were necessary; however, 
they told us of others that did not make payments to the taxing states 
in similarly uncertain situations. In its 2003 work, CBO had said that 
some companies challenged the applicability of Internet access taxes to 
the service they provided and thus might not have been collecting or 
remitting them even though the states believed they should.
    Because of all these state-by-state differences and uncertainties, 
the impact of future changes related to the moratorium would vary by 
state. Whether the moratorium were lifted or made permanent and whether 
grandfathering were continued or eliminated, states would be affected 
differently from each other.
External Comments
    We showed staff members of CBO, officials of FTA, and 
representatives of telecommunications companies assembled by the United 
States Telecom Association a draft of our January 2006 report and asked 
for oral comments. On January 5, 2006, CBO staff members, including the 
Chief of the State and Local Government Unit, Cost Estimates Unit, said 
we fairly characterized CBO information and suggested clarifications 
that we made as appropriate. In one case, we noted more clearly that 
CBO supplemented its dollar estimates of revenue impact with a 
statement that other potential revenue losses could potentially grow by 
an unquantified amount.
    On January 6, 2006, FTA officials, including the Executive 
Director, said that our legal conclusion was clearly stated and, if 
adopted, would be helpful in clarifying which Internet access-related 
services are taxable and which are not. However, they expressed concern 
that the statute could be interpreted differently regarding what might 
be reasonably bundled in providing Internet access to consumers. A 
broader view of what could be included in Internet access bundles would 
result in potential revenue losses much greater than we indicated. 
However, as explained in the appendix, we believe that what is bundled 
must be reasonably related to accessing and using the Internet. FTA 
officials were also concerned that our reading of the 1998 law 
regarding the taxation of DSL services is debatable and suggests that 
states overreached by taxing them. We recognize that Congress acted in 
2004 to address different interpretations of the statute, and we made 
some changes to clarify our presentation. We acknowledge there were 
different views on this matter, and we are not attributing any improper 
intent to the states' actions.
    When meeting with us, representatives of telecommunications 
companies said they would like to submit comments in writing. Their 
comments argue that the 2004 amendments make acquired services subject 
to the moratorium and therefore not taxable, and that the language of 
the statute and the legislative history support this position. In 
response, we made some changes to simplify the appendix. That appendix, 
along with the section of the testimony on bundled access services and 
acquired services, contains an explanation of our view that the 
language and structure of the statute support our interpretation.
    Mr. Chairman, Mr. Vice Chairman, and Members of the Committee, this 
concludes my testimony. I would be happy to answer any questions you 
may have at this time.
  Appendix I: Bundled Access Services May Not Be Taxed, but Acquired 
                          Services Are Taxable
    The moratorium bars taxes on the service of providing access, which 
includes whatever an access provider reasonably bundles in its access 
offering to consumers.\1\ On the other hand, the moratorium does not 
bar taxes on acquired services.
---------------------------------------------------------------------------
    \1\ Notwithstanding fears expressed by some during consideration of 
the 2004 amendments, this does not mean that anything may be bundled 
and thus become tax exempt. Clearly, what is bundled must be reasonably 
related to accessing and using the Internet, including electronic 
services that are customarily furnished by providers. In this regard, 
it is fundamental that a construction of a statute cannot be sustained 
that would otherwise result in unreasonable or absurd consequences. 
Singer, 2A, Sutherland Statutory Construction,  45:12 (6th ed., 2005).
---------------------------------------------------------------------------
Bundled Services, Including Broadband Services, May Not Be Taxed
    As noted earlier, the 2004 amendments followed a period of 
significant growth and technological development related to the 
Internet. By 2004, broadband communications technologies were becoming 
more widely available. They could provide greatly enhanced access 
compared to the dial-up access technologies widely used in 1998. These 
broadband technologies, which include cable modem service built upon 
digital cable television infrastructure as well as digital subscriber 
line (DSL) service, provide continuous, high-speed Internet access 
without tying up wireline telephone service. Indeed, cable and DSL 
facilities could support multiple services--television, Internet 
access, and telephone services--over common coaxial cable, fiber, and 
copper wire media.
    The Internet Tax Freedom Act bars ``taxes on Internet access'' and 
defines ``Internet access'' as a service that enables ``users to access 
content, information, electronic mail, or other services offered over 
the Internet.'' The term Internet access as used in this context 
includes ``access to proprietary content, information, and other 
services as part of a package of services offered to users.'' The 
original Act expressly excluded ``telecommunications services'' from 
the definition.\2\ As will be seen, the act barred jurisdictions from 
taxing services such as e-mail and instant messaging bundled by 
providers as part of their Internet access package; however, it 
permitted dial-up telephone service, which was usually provided 
separately, to be taxed.
---------------------------------------------------------------------------
    \2\ The 1998 Act defined Internet access as ``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. Such term [Internet access] does 
not include telecommunications services.''
---------------------------------------------------------------------------
    The original definition of Internet access, exempting 
``telecommunications services,'' was changed by the 2004 amendment. 
Parties seeking to carve out exceptions that could be taxed had sought 
to break out and treat DSL services as telecommunications services, 
claiming the services were exempt from the moratorium even though they 
were bundled as part of an Internet access package. State and local tax 
authorities began taxing DSL service, creating a distinction between 
DSL and services offered using other technologies, such as cable modem 
service, a competing method of providing Internet access that was not 
to be taxed. The 2004 amendment was aimed at making sure that DSL 
service bundled with access could not be taxed. The amendment excluded 
from the telecommunications services exemption telecommunications 
services that were ``purchased, used, or sold by a provider of Internet 
access to provide Internet access.''
    The fact that the original 1998 Act exempted telecommunications 
services shows that other reasonably bundled services remained a part 
of Internet access service and, therefore, subject to the moratorium. 
Thus, communications services such as cable modem services that are not 
classified as telecommunications services are included under the 
moratorium.
Acquired Services May Be Taxed
    As emphasized by numerous judicial decisions, we begin the task of 
construing a statute with the language of the statute itself, applying 
the canon of statutory construction known as the plain meaning rule. 
E.g., Hartford Underwriter Insurance Co. v. Union Planers Bank, N.A., 
530 U.S. 1 (2000); Robinson v. Shell Oil Co., 519 U.S. 337 (1997). 
Singer, 2A, Sutherland Statutory Construction,  46:1, 48A:11, 15-16. 
Thus, under the plain meaning rule, the primary means for Congress to 
express its intent is the words it enacts into law and interpretations 
of the statute should rely upon and flow from the language of the 
statute.
    As noted above, the moratorium applies to the ``taxation of 
Internet access.'' According to the statute, ``Internet access'' means 
a service that enables users to access content, information, or other 
services over the Internet. The definition excludes 
``telecommunications services'' and, as amended in 2004, limits that 
exclusion by exempting services ``purchased, used, or sold'' by a 
provider of Internet access. As amended in 2004, the statute now reads 
as follows:

        ``The term `Internet access' means a service that enables users 
        to access content, information, electronic mail, or other 
        services offered over the Internet. . . . 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.'' 
        Section 1105(5).''

    The language added in 2004--exempting from ``telecommunications 
services'' those services that are ``purchased, used, or sold'' by a 
provider in offering Internet access--has been read by some as 
expanding the ``Internet access'' to which the tax moratorium applies, 
by barring taxes on ``acquired services.'' Those who would read the 
moratorium expansively take the view that everything acquired by 
Internet service providers (ISP) (everything on the left side of figure 
3) as well as everything furnished by them (everything in the middle of 
figure 3) is exempt from tax.
    In our view, the language and structure of the statute do not 
permit the expansive reading noted above. ``Internet access'' was 
originally defined and continues to be defined for purposes of the 
moratorium as the service of providing Internet access to a user. 
Section 1105(5). It is this transaction, between the Internet provider 
and the end-user, which is nontaxable under the terms of the 
moratorium. \3\ The portion of the definition that was amended in 2004 
was the exception: that is, telecommunication services are excluded 
from nontaxable ``Internet access,'' except to the extent such services 
are ``purchased, used, or sold by a provider of Internet access to 
provide Internet access.'' Thus, we conclude that the fact that 
services are ``purchased, used, or sold'' by an Internet provider has 
meaning only in determining whether these services can still qualify 
for the moratorium notwithstanding that they are ``telecommunications 
services;'' it does not mean that such services are independently 
nontaxable irrespective of whether they are part of the service an 
Internet provider offers to an end-user. Rather, a service that is 
``purchased, used, or sold'' to provide Internet access is not taxable 
only if it is part of providing the service of Internet access to the 
end-user. Such services can be part of the provision of Internet access 
by a provider who, for example, ``purchases'' a service for the purpose 
of bundling it as part of an Internet access offering; ``uses'' a 
service it owns or has acquired for that purpose; or simply ``sells'' 
owned or acquired services as part of its Internet access bundle.
---------------------------------------------------------------------------
    \3\ As noted previously, the moratorium applies to ``taxes on 
Internet access.'' Related provisions defining a ``tax on Internet 
access'' for purposes of the moratorium focus on the transaction of 
providing the service of Internet access: such a tax is covered 
``regardless of whether such tax is imposed on a provider of Internet 
access or a buyer of Internet access.'' Section 1105(10).
---------------------------------------------------------------------------
    In addition, we read the amended exception as applying only to 
services that are classified as telecommunications services under the 
1998 Act as amended. In fact, the moratorium defines the term 
``telecommunications services'' with reference to its definition in the 
Communications Act of 1934,\4\ under which DSL and cable modem service 
are no longer classified as telecommunications services.\5\ Moreover, 
under the Communications Act, the term telecommunications services 
applies to the delivery of services to the end-user who determines the 
content to be communicated; it does not apply to communications 
services delivered to access service providers by others in the chain 
of facilities through which Internet traffic may pass. Thus, since 
broadband services are not telecommunications services, the exception 
in the 1998 Act does not apply to them, and they are not affected by 
the exception.\6\
---------------------------------------------------------------------------
    \4\ 47 U.S.C.  153(46).
    \5\ DSL and cable modem services are now referred to as 
``information services with a telecommunications component,'' under the 
Communications Act of 1934. See In the Matter of Appropriate Framework 
for Broadband Access to the Internet over Wireline Facilities, FCC 05-
150, (2005), and related documents, including In the Matter of 
Communications Assistance for Law Enforcement Act and Broadband Access 
and Services, FCC 05-153, 2995 WL 2347773 (F.C.C.) (2005). Although FCC 
announced its intention as early as February 15, 2002, to revisit its 
initial classification of DSL service as a telecommunications service 
under the Communications Act (In the Matter of Appropriate Framework 
for Broadband Access to the Internet over Wireline Facilities, FCC 02-
42, 17 F.C.C.R. 3019, 17 FCC Rcd. 3019), it was not until after the 
Supreme Court's decision in National Cable & Telecommunications Ass'n 
v. Brand X Internet Services, 125 S.Ct. 2688 (2005), that it actually 
did so.
    \6\ There was some awareness during the debate that the then 
pending Brand X litigation (``Ninth Circuit Court opinion affecting DSL 
and cable'') could affect the law in this area. See comments by Senator 
Feinstein, 150 Cong. Rec. S4666.
---------------------------------------------------------------------------
    The best evidence of statutory intent is the text of the statute 
itself. While legislative history can be useful in shedding light on 
the intent of the statute or to resolve ambiguities, it is not to be 
used to inject ambiguity into the statutory language or to rewrite the 
statute. E.g., Shannon v. United States 512 U.S. 573, 583 (1994). In 
our view, the definition of Internet access is unambiguous, and, 
therefore, it is unnecessary to look beyond the statute to discern its 
meaning from legislative history. We note, however, that consistent 
with our interpretation of the statute, the overarching thrust of 
changes made by the 2004 amendments to the definition of Internet 
access was to take remedial correction to assure that broadband 
services such as DSL were not taxable when bundled with an ISP's 
offering. While there are some references in the legislative history to 
``wholesale'' services, backbone, and broadband, many of these 
pertained to earlier versions of the bill containing language different 
from that which was ultimately enacted.\7\  The language that was 
enacted, using the phrase ``purchased, used, or sold by a provider of 
Internet access'' was added through the adoption of a substitute 
offered by Senator McCain, 150 Cong. Rec. S4402, which was adopted 
following cloture and agreement to several amendments designed to 
narrow differences between proponents and opponents of the bill. 
Changes to legislative language during the consideration of a bill may 
support an inference that in enacting the final language, Congress 
intended to reject or work a compromise with respect to earlier 
versions of the bill. Statements made about earlier versions carry 
little weight. Landgraf v. USI Film Products, 511 U.S. 244, 255-56 
(1994). Singer, 2A, Sutherland Statutory Construction, 48:4. In any 
event, the plain language of the statute remains controlling where, as 
we have concluded, the language and the structure of the statute are 
clear on their face.
---------------------------------------------------------------------------
    \7\ For example, proponents of giving the statute a broader 
interpretation cite S. Rep. 108-155, 108th Cong., 1st Sess. (2003), 
which includes the following statement.
     ``The Committee intends for the tax exemption for 
telecommunications services to apply whenever the ultimate use of those 
telecommunications services is to provide Internet access. Thus, if a 
telecommunications carrier sells wholesale telecommunications services 
to an Internet service provider that intends to use those 
telecommunications services to provide Internet access, then the 
exemption would apply.''

     At the time the 2003 report was drafted, the sentence of concern 
in the draft legislation read, ``Such term [referring to Internet 
access] does not include telecommunications services, except to the 
extent such services are used to provide Internet access.'' As adopted, 
the wording became, ``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.'' The amended language thus focuses on the package of 
services offered by the access provider, not on the act of providing 
access alone.

    The Chairman. I thank you very much, Dr. White.
    May I recognize Mr. Quam?

   STATEMENT OF DAVID C. QUAM, DIRECTOR, FEDERAL RELATIONS, 
                 NATIONAL GOVERNORS ASSOCIATION

    Mr. Quam. Thank you, Mr. Chairman, Vice Chairman Stevens, 
members of the Subcommittee.
    My name is David Quam, and I'm the Director of Federal 
Relations for the National Governors Association. I'm pleased 
to be here on behalf of the Nation's Governors to talk about 
two very important issues: the Internet Tax Freedom Act and the 
Streamlined Sales and Use Tax Agreement.
    The bottom line regarding the Internet access moratorium is 
this: Although Governors generally oppose Federal interference 
with State authority to develop and manage their revenue 
systems--they see that as a core element of our federalist 
system--NGA supports a temporary extension of Internet Tax 
Freedom Act that clarifies the definition of ``Internet 
access'' and does not further limit State authority or 
revenues.
    As this Committee and Congress looks to extend the Internet 
Tax Freedom Act, Governors recommend that they follow three 
principles. First, be clear; definitions matter. Second, be 
flexible; a temporary solution is better than permanent 
confusion. And, third, do no harm; continue grandfather 
protections to preserve existing State authority and revenues.
    I'm going to focus my testimony on the ITFA on the first 
principle, that is of being clear.
    The core concern for states is the definition of ``Internet 
access.'' It reads, `` 'Internet access' means a service that 
enables users to access content, information, electronic mail, 
or other services offered over the Internet''--it then goes on, 
``and may also include access to proprietary content, 
information, and other services as part of a package of 
services offered to users.'' This sentence has not changed 
since 1998, but the Internet certainly has.
    NGA believes that the unlimited ability of providers to 
bundle together other services with access to form a single 
tax-free offering represents a loophole that could exempt 
otherwise taxable goods and services merely because they are 
delivered over the Internet. The threat that this loophole 
represents to State and local government is exacerbated by the 
Internet's success--more broadband, more services, more people 
using the Internet.
    During 2004, this debate became crystal clear when we 
considered Voice over Internet Protocol, the threat that 
telephone service could move over the Internet and be bundled 
to be tax-free. Congress solved that issue, at that time, by 
exempting VoIP from the moratorium. That was a single instance 
taking care of VoIP, but there are more VoIPs out there. The 
next one is likely to be IPTV, Internet Protocol Television, 
probably the fastest-growing service worldwide, that's going to 
move a traditional service onto the Internet. Rather than 
exempt yet another service, Congress should close the loophole 
by specifying that the definition of ``Internet access'' 
applies only to those services really necessary to connect a 
user to the Internet.
    I'd like to add that the bill introduced today by Senators 
Carper and Alexander reflects many of the principles that the 
Governors have put out there: temporary, extend the grandfather 
clause, and fix the definition of ``Internet access.''
    I'd also like to take a minute to talk about the 
Streamlined Sales and Use Tax Agreement. The Quill decision, 
which everybody talks about, did two things. First, it created 
a nearly $20 billion State and local tax gap from uncollected 
taxes. Second, it provided a roadmap for states to solve the 
problem by simplifying the collection process for these taxes. 
The Court also said that Congress has the power to grant 
equitable collection authority to the states for sales and use 
taxes on remote sales.
    The Streamline Agreement is an agreement between states to 
meet the challenge of Quill. It simplifies the sales and use 
tax systems to provide greater uniformity and certainty for 
businesses and consumers. Triggered on October 1, 2005, 
currently 15 states are full members, six states are associate 
members, and 19 states and the District of Columbia serve as 
advisor states to the Agreement. And contrary to what the 
Congresswoman said, this is a remarkable achievement. Getting 
that many states to come together on a voluntary basis to 
streamline sales taxes together is states operating in their 
capacity to solve a national problem using State sovereign 
authority. More than 1,000 businesses have taken advantage of 
these simplifications offered by the Agreement by volunteering 
to comply and collect sales taxes on their remote sales.
    Now it is Congress's turn. Congress should partner with 
states by prioritizing consideration of Federal legislation to 
recognize the efforts of states and the business community to 
simplify State sales and use tax systems and close the tax gap.
    In conclusion, Governors remain steadfast in their 
insistence that decisions regarding State and local taxation 
should remain with State and local officials. The independent 
and sovereign authority of states to develop their own revenue 
systems is a basic tenet of self-government in our Federal 
system. State efforts under the Streamline process exemplify 
how states, the business community, and Congress can work 
together to solve national issues with State and local 
consequences.
    As to the moratorium, NGA, again, urges Congress to work 
with State and local government by addressing the uncertainties 
inherent in the overly broad definition of Internet access and 
preserving the original grandfather clause as part of a 
temporary extension.
    Thank you, Mr. Chairman.
    [The prepared statement of Mr. Quam follows:]

   Prepared Statement of David C. Quam, Director, Federal Relations, 
                     National Governors Association
    Chairman Inouye, Vice Chairman Stevens, and members of the 
Subcommittee: thank you for inviting the National Governors Association 
(NGA) to testify today.
    My name is David Quam, and I am the Director of Federal Relations 
for NGA. I am pleased to be here on behalf of the Nation's Governors to 
discuss the organization's perspective on communications and taxation.
    Today most of my testimony will focus on the Internet Tax Freedom 
Act (the ``ITFA''), although I will also discuss the Streamlined Sales 
and Use Tax Agreement (SSUTA). The bottom line regarding the ITFA 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.
Background
    Although the U.S. Constitution grants Congress broad authority to 
regulate interstate commerce, the Federal Government, historically, has 
been reluctant to interfere with states' ability to raise and regulate 
their own revenues. State tax sovereignty is a basic tenet of our 
federalist system and is fundamental to the inherent political 
independence and viability of states. For this reason Governors 
generally oppose any Federal legislation that would interfere with 
states' sovereign ability to craft and manage their own revenue 
systems.
    The 1998 Internet Tax Freedom Act, which imposed a moratorium on 
state or local taxation of Internet access, is one exception to 
longstanding Congressional forbearance when it comes to state tax 
issues. Designed to help stimulate this new technology by making access 
to the Internet tax free, the moratorium included three important 
restrictions to protect states:

        1. The moratorium applied only to new taxes--existing taxes on 
        Internet access were grandfathered;

        2. The definition of ``Internet access,'' while broad, excluded 
        telecommunications services; and

        3. The moratorium expired after 2 years to allow Congress, 
        states and industry the opportunity to make adjustments for 
        rapidly developing technologies and markets.

    In 2000 the original moratorium expired, but was extended through 
November 1, 2003, with its protections for states still in place. In 
2003, and 2004, Congress debated bills that targeted state protections 
by proposing to eliminate the grandfather provision, modify the 
telecommunications exclusion to address tax disparities between 
telecommunications broadband services and those of the cable industry, 
and make the moratorium permanent. Fortunately, the final bill retained 
several of the original state protections including the grandfather 
clause, an exception for taxes on Voice-over Internet Protocol (VoIP) 
services, and an expiration date of November 1, 2007.
    As Congress begins to consider changes to the ITFA, Governors 
recommend that members examine the scope of the moratorium in light of 
technological advancements; update the ITFA's definitions to ensure 
they reflect Congressional intent and do not unnecessarily interfere 
with state taxing authority; extend the moratorium on a temporary basis 
to respect state sovereignty and the ever-changing nature of the 
Internet; and retain the original grandfather clause to preserve 
existing state and local tax revenues.
Congress Should Clarify the Definition of ``Internet Access''
    A core concern for states is the potential breadth of the ITFA's 
definition of ``Internet access.'' The current definition of Internet 
access states:

        ``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. Such term 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.'' (Emphasis added)

    The first sentence of the definition has not changed since 1998 and 
allows a provider of Internet access to bundle ``proprietary content, 
information, and other services'' together with access to make the 
entire offering tax free. NGA believes that the unlimited ability of 
providers to bundle together content and ``other services'' into a 
single, tax-free offering represents a loophole that could have the 
unintended effect of exempting content, information or services from 
otherwise applicable taxes merely because they are delivered over the 
Internet.
    The risk of states losing significant revenues from this provision 
has grown significantly as broadband connections have become more 
common and companies have altered business plans to deliver more 
services over the Internet. Since 2001, the number of high-speed lines 
in the United States has risen from more than 9 million to nearly 65 
million with high-speed connections in the United States growing by 52 
percent in 2006 alone.\1\ Governors support the deployment of broadband 
services because they increase the ability of citizens to utilize the 
vast array of services and information available online and are 
critical to our Nation's economic growth and competitiveness.
---------------------------------------------------------------------------
    \1\ Response of Kevin J. Martin, Chairman, Federal Communications 
Commission, to pre-hearing questions asked by the House Committee on 
Energy and Commerce, February 7, 2007.
---------------------------------------------------------------------------
    As more consumers move online, Internet protocol technology is also 
making more services available over the Internet. For example, a key 
issue of the 2004 ITFA debate centered on whether VoIP would become a 
viable alternative to traditional phone service. Unlike traditional 
telecommunications services, VoIP uses the Internet to transmit voice 
communications between computers, phones and other communications 
devices. Today, analysts project that VoIP subscriptions will top 18 
million in 2009, a dramatic rise from VoIP's 150,000 customers in 
2003.\2\ The concern in 2004 was what would happen to the $23 billion 
state and local tax base for telecommunications services if VoIP 
replaces telecommunications services and were allowed to be bundled 
with Internet access into a tax-free offering. Congress' solution 
during the last ITFA extension was to specifically exempt VoIP from the 
moratorium. This solution, however, did not solve the problem of the 
underlying definition.
---------------------------------------------------------------------------
    \2\ Telecommunications Industry Association's 2006 
Telecommunications Market Review and Forecast, February 27, 2006.
---------------------------------------------------------------------------
    The next major service moving to the Internet is video programming. 
Known as Internet Protocol Television (IPTV), this service represents 
another technological leap for industry and challenge for the ITFA. 
Worldwide, the annual growth rate of IPTV is projected to exceed 92 
percent, rising from 3.9 million subscribers in 2006 to 103 million in 
2011. The service brings together voice, Internet and entertainment 
services in a bundle marketed by some as a triple-play.\3\ Much like 
VoIP in 2004, if a service like IPTV is packaged with Internet access 
and exempted from applicable taxes, it would create tax disparities for 
competitors offering similar services and undermine existing state and 
local revenues.
---------------------------------------------------------------------------
    \3\ Harris, Jan, ``IPTV subscription to grow 92 percent year on 
year,'' Platinax Small Business News, April 10, 2007.
---------------------------------------------------------------------------
    The emergence of services such as VoIP and IPTV underscore the need 
to clarify the definition of what constitutes ``Internet access'' so 
that the taxability of a good or service is not determined by whether 
it can be bundled with Internet access and delivered over the Internet. 
Although NGA supports having the moratorium apply to services related 
to providing access to the Internet such as email, Congress should 
close the bundling loophole by specifying that the definition of 
``Internet access'' applies only to those services necessary to connect 
a user to the Internet.
Any Extension Should be Temporary
    When the ITFA became law in 1998, it was passed as a temporary 
measure to assist and nurture the Internet in its commercial infancy. 
The Internet of 2007 is far different. It is a mainstream medium that 
has spawned innovation, created new industries and improved services. 
What started as primarily a dial-up service available through a handful 
of providers, today is available through thousands of Internet service 
providers using technologies ranging from high-speed broadband cable or 
Digital Subscriber Line services, to wireless, satellite and even 
broadband Internet access over power lines.
    Commercial transactions over the Internet have also exploded. A 
recent study by the National Retail Federation concluded that Internet 
sales grew from $176 billion in 2005 to $220 billion in 2006, a 25 
percent jump that outpaced projections.\4\ The survey projects online 
sales for 2007 will jump 18 percent to $259 billion. According to one 
of the survey's senior analysts, ``[t]his strong growth is an indicator 
that online retail is years away from reaching a point of saturation.'' 
\5\
---------------------------------------------------------------------------
    \4\ The State of Retailing Online 2007, Shop.com/Forrester Research 
Study, May 14, 2007.
    \5\ Online Clothing Sales Surpass Computers, According to Shop.org/
Forrester Research Study, viewed at www.nrf.com (May 17, 2007).
---------------------------------------------------------------------------
    The rapid pace of innovation in the Internet and telecommunications 
industries makes it difficult to define accurately these complex and 
ever-changing services. Congress made the original moratorium temporary 
in part for this reason: to provide Congress, industry and state and 
local governments with the ability to revisit the issue and make 
adjustments where necessary to accommodate new technologies and market 
realities. With continued questions as to the scope of the moratorium, 
the ongoing evolution of the Internet and its developing role in 
commerce, a temporary extension of the moratorium remains the best way 
for Congress to avoid any unintended consequences that may arise from a 
permanent moratorium.
    Another reason to support a temporary extension is that making the 
moratorium permanent would establish a troubling precedent that 
distorts the state-Federal relationship. As mentioned previously, 
Governors generally oppose Federal efforts to interfere with state 
revenue systems because such interference undermines a states sovereign 
authority to provide government services. A more immediate consequence 
of a permanent ban on state taxes is the increased pressure Congress 
would receive from other industries seeking similar preemptions of 
state laws. Legislation to impose a moratorium on state and local cell 
phone taxes and efforts to dictate state nexus standards for business 
activity taxes are recent examples of the types of preemptions strongly 
opposed by state and local governments that would be bolstered by 
passage of a permanent moratorium.
Congress Should Maintain the Moratorium's ``Grandfather'' Clause
    NGA recommends that any extension of the moratorium preserve 
existing state and local revenues by continuing the so-called 
grandfather clause for taxes imposed prior to 1998. The grandfather 
clause serves two purposes; first, as a protection for existing state 
and local tax revenue; and second, as a means to preserve other state 
and local taxes not specifically mentioned by the ITFA.
    Today only nine states have direct taxes on Internet access that 
qualify for the protection of the 1998 grandfather clause. Those states 
include Hawaii, New Hampshire, New Mexico, North Dakota, Ohio, South 
Dakota, Texas, Washington and Wisconsin. According to Congressional 
Budget Office estimates from the 2004 ITFA extension, eliminating the 
grandfather clause will cost those states between $80 million and $120 
million annually. While these amounts may seem insignificant in terms 
of Federal dollars, balanced budget requirements at the state level 
require that any unanticipated loss of revenues must be made up by 
either cutting services or raising revenues. These losses also are high 
enough to make the elimination of the grandfather clause an unfunded 
Federal mandate under the Unfunded Mandate Reform Act. Any extension of 
the moratorium should therefore preserve the grandfather clause so as 
not to reduce existing state and local tax revenues.
    The grandfather clause also serves as an important protection for 
all state and local taxes that indirectly affect providers of Internet 
access. Under the ITFA, a ``tax on Internet access'' means:

        [A] tax on Internet access, regardless of whether such tax is 
        imposed on a provider of Internet access or a buyer of Internet 
        access and regardless of the terminology used to describe the 
        tax.

    Because a tax on Internet access includes both taxes on users and 
Internet access service providers, some experts interpret the 
moratorium as applying to both direct taxes on Internet access and 
indirect taxes such as business taxes on a provider of Internet access. 
In fact, the pre-1998 versions of the moratorium expressly excluded 
certain indirect taxes such as income and property taxes from the 
moratorium. That language was later dropped because the grandfather 
clause applies to all taxes on Internet access in force before October 
1, 1998.\6\ Although the 2004 extension does preserve the ability of 
states to impose a tax ``levied upon or measured by net income, capitol 
stock, net worth, or property value,'' this list is not exhaustive. 
Preservation of the grandfather clause is important because it allows 
Congress to avoid having to define those direct taxes subject to the 
moratorium and any other taxes that lie outside the scope of the 
moratorium.
---------------------------------------------------------------------------
    \6\ Mazerov, Michael, ``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.
---------------------------------------------------------------------------
Congress Should Support the Streamlined Sales and Use Tax Agreement
    The National Governors Association has long supported state's 
efforts to pursue Federal legislation provisions that would require 
remote, out-of-state vendors to collect sales and use taxes from their 
customers. Such action is necessary to restore fairness between local 
retail store purchases and remote sellers and to provide a means for 
the states to collect taxes that are owed under existing law. The rapid 
growth of the Internet and electronic commerce underscores the 
importance of maintaining equitable treatment among all sellers.
    In the Quill decision, the U.S. Supreme Court stated that, to 
secure a level playing field in the collection of sales and use taxes, 
states needed to eliminate undue administrative burdens on interstate 
commerce by simplifying the collection process for these taxes. The 
Court also clarified that Congress has the power to grant equitable 
collection authority to the states for sales and use taxes on remote 
sales. Governors support the development of a 21st century sales tax 
system that simplifies compliance requirements and streamlines sales 
taxes to ensure that states are prepared for the global electronic 
marketplace.
    Several states are working to eliminate undue administrative 
burdens on interstate commerce associated with sales and use taxes by 
participating in the Streamlined Sales and Use Tax Agreement (SSUTA). 
The SSUTA is designed as an agreement between states to simplify their 
sales and use tax systems to provide greater uniformity and certainty 
for businesses and consumers. Simplification would be accomplished 
through several key features, including uniform definitions within tax 
laws, rate simplification, state level tax administration of all state 
and local sales and use taxes, uniform sourcing rules, simplified 
exemption administration, uniform audit procedures, and state funding 
of the system.
    SSUTA was triggered on October 1, 2005, when 13 states representing 
more than 20 percent of the population were certified as having met the 
requirements of the Agreement. Currently, 15 states are full members; 6 
states are associate members; and 19 states and the District of 
Columbia serve as advisor states to the Agreement. Since the agreement 
was triggered, more than 1,000 businesses have taken advantage of the 
simplifications offered by the agreement by volunteering to comply and 
collect sales taxes from their remote sales.
    As Congress examines issues related to the Internet and state and 
local taxes, it should partner with states by prioritizing 
consideration of Federal legislation to recognize the efforts of states 
and the business community to simplify state sales and use tax systems.
Conclusion
    Governors remain steadfast in their insistence that decisions 
regarding state and local taxation should remain with state and local 
officials. The independent and sovereign authority of states to develop 
their own revenue systems is a basic tenet of self government and our 
Federal system. State efforts under the SSUTA exemplify how states, the 
business community and Congress can work together to solve national 
issues with state and local consequences. As to the ITFA, NGA urges 
Congress to work with state and local governments by addressing the 
uncertainties inherent in the overly broad definition of Internet 
access and preserving the original grandfather clause as part of a 
temporary extension.

    The Chairman. I thank you very much, Mr. Quam.
    And now may I recognize Mr. Duncan.

 STATEMENT OF HARLEY T. DUNCAN, EXECUTIVE DIRECTOR, FEDERATION 
                     OF TAX ADMINISTRATORS

    Mr. Duncan. Thank you very much, Mr. Chairman, members of 
the Committee.
    My name is Harley Duncan. I'm Executive Director of the 
Federation of Tax Administrators, which is an association of 
the principal revenue-collecting and tax-administration 
agencies in the 50 states, D.C., New York City, and Puerto 
Rico. As with the Governors Association, we appreciate the 
opportunity to be here and address the issues of the Internet 
tax moratorium and the streamlined sales tax legislation.
    Our organization generally has a position opposing Federal 
intervention in State taxation where the Constitution would 
otherwise allow us to impose taxes unless there are compelling 
administrative and policy reasons to do so. In addition, when 
Congress does choose to intervene, we make efforts to ensure 
that any intervention is targeted to the problem at hand, and 
doesn't have a series of unintended consequences.
    With respect to the Internet tax moratorium, we would 
encourage you to address three particular issues in this 
regard. The first is the breadth of the moratorium, or the 
definition of ``Internet access.'' As you've heard, the 
definition of ``Internet access'' is ``a service that allows a 
user to access the content, information, and services available 
over the Internet,'' as well as proprietary content, 
information, and services. I think we would all agree that this 
is the universe of what is available over the Internet.
    The problem from the State tax administrators' standpoint 
is that the term ``access'' itself has two definitions. One is 
to connect to, and put yourself in a position to use; the 
second is the right to use those services, content, and 
information. In other words, if the second definition of 
``access'' is adopted, we believe that a package of access that 
enabled one to use all of the services, content, and 
information that's available on the Internet, bundled into a 
single package at a single price, would be precluded from State 
taxation because of the broad definition of the ``content, 
information, and services'' and the definition of ``access.''
    It's this potential bundling of services and claiming 
exemption that causes us concern about the definition of 
``access.'' We wish we could get to the ``reasonably bundled'' 
portion of the definition that Dr. White referenced. But, in 
the plain language, as we read it, ``reasonably bundled'' is 
not there. Changes are necessary so that we don't have a 
package of Internet access that includes what we all understand 
to be access, as well as five digital books and ten movies per 
month all claimed to be exempt. We've worked with your staff 
and others, and we will continue to work, to craft a definition 
that includes connection, the basic services, the navigation, 
the mail, the messaging, and the like--that is the general 
package of what we consider to be access today--and prevents 
the bundling. And we hope that we can gather your attention on 
that issue.
    The second is, we believe that the--any extension of the 
moratorium should be temporary. The technology continues to 
evolve, the manner in which it is used by consumers and 
business continues to evolve.
    Beyond this, Congress, when it takes the step of extending 
the Internet Tax Freedom Act, has inserted itself into State 
tax law in a way that it hasn't, commonly, in the past. It is 
dealing with specific transactions and types of services that 
will not be subject to the State sales tax. We believe that, in 
inserting yourself in that fashion, in a way you haven't done 
in other areas, it is only prudent and reasonable to expect 
that you would preserve the opportunity to come back and review 
that law on a periodic basis, much the same as you do with 
other laws that you pass.
    Third, we would argue, in the Internet Tax Freedom Act, 
that you should preserve the grandfather clause that preserves 
those taxes on charges for access that were in place in 1998. 
That was a part of the original deal involving the Internet Tax 
Freedom Act. The agreement was not to disrupt the revenue 
systems of those states, and we believe that should be 
preserved. In addition, repealing the grandfathers could reach 
a broader range of taxes than we commonly consider. Because of 
the definition of ``tax on Internet access'' that's in the 
bill, it could also involve a series of general-purpose 
business taxes that are levied on Internet service providers--
the Washington State business and occupation tax, local doing 
business taxes, unemployment taxes, and the like.
    Finally, 1 minute on remote sales and the streamlined 
legislation. We would support enactment of this, and encourage 
you to consider it carefully for all the reasons that the 
Governors Association has outlined. I think as you go through 
this you're going to hear a lot of concerns about, Is it simple 
enough? Should this be added? Should this be added? Do we need 
to make some changes here?
    I think it's important to remember two basic things. The 
first is, remote sales continue to grow at 25 percent a year, 
and the revenue impact on the states, and the unfairness and 
competitiveness disadvantage to retailers that collect, 
continues to grow at that same rate. And the second is that, 
through the Streamlined Sales and Use Tax Agreement, the 
states, working with the business community, we have achieved a 
system that significantly simplifies State sales tax 
administration, provides for much greater uniformity, and 
provides significant protections to people that make good-faith 
efforts to collect sales tax. It deserves your support, in 
terms of authorizing states that are part of that agreement to 
require remote sellers to collect.
    While there are a lot of things that a lot of people would 
like to have in the Streamlined Sales and Use Tax Agreement, we 
need to remember that it is a major piece of simplification 
that few would have expected a few years ago.
    Thank you.
    [The prepared statement of Mr. Duncan follows:]

      Prepared Statement of Harley T. Duncan, Executive Director, 
                    Federation of Tax Administrators
    My name is Harley Duncan. I am the Executive Director of the 
Federation of Tax Administrators. 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. I am please to testify on the current restrictions on 
states taxing Internet access and the efforts of the states to 
streamline their sales taxes in anticipation of a mandatory collection 
system that would require out-of-state sellers to collect state sales 
taxes. First I will address the possible extension.
    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.
Internet Taxation Moratorium
    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 Government 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, given 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 states 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.

   ConnectKentucky'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.  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 9 years ago.
    If the current moratorium with the current definition of Internet 
access is made permanent it would lead to 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 
``brick 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 impacted 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.

State Sales Tax Simplification
    FTA supports the enactment of Federal legislation to authorize 
states to require remote sellers to collect sales and use taxes on 
goods and services sold into the state. FTA believes that advancing 
this legislation should be the top state tax priority issue of the 
Commerce Committee. The change to a service based from a manufacturing 
based economy along with the saturation of our sales system with 
Internet transactions make modernization of the sales tax collection 
system an essential step that states must take.
    The first major achievement of the system has already occurred. 
Late last year a voluntary system for remote seller collection of sales 
taxes began. We have 1,200 companies participating and more that 30 
percent of the U.S. population covered in the new system. We expect a 
rapid expansion of the system once it becomes mandatory.
    Streamlining of state sales taxes has a long history. The U.S. 
Supreme Court held (Quill Corp. v. North Dakota) that a state may not 
require a seller that does not have a physical presence in the state to 
collect tax on sales into the state. The decision was based in part on 
the complexity of the sales tax system for remote sellers i.e., 
nonresident sellers without a physical presence in the state of 
purchase. The Court also said clearly that Congress could authorize 
states to require remote sellers to collect tax.
    States have worked for 5 years with the business community to 
simplify administration of sales and use taxes for fixed-base retailers 
as well as for remote sellers, to reduce the compliance burden. Action 
began with the Streamlined Sales Tax Project (SSTP) and led to the 
creation of the Streamlined Sales and Use Tax Agreement. The Agreement 
substantially simplified sales tax collection. Congress should 
authorize member states to require remote sellers to collect sales 
taxes.
    Senate legislation from the 109th Congress would have provided the 
basis for states to require the collection of sales taxes by remote 
sellers. S. 2152 and S. 2153 were similar bills, differing only in the 
rules for exempting small businesses from the collection requirement. A 
single bill resolving the differences is expected to be introduced by 
Senators Dorgan (D-ND) and Enzi (R-WY) before Memorial Day.

   Key simplifications of SSTP include state-level 
        administration of all local sales taxes, greater uniformity in 
        tax bases, greater use of technology, due diligence safe 
        harbors for sellers, and uniform definitions.

   Erosion of state and local government tax bases will 
        intensify without required collection. It is estimated annual 
        revenue loss to the state and local governments is now 
        approximately $15 billion.

   The absence of required remote seller tax collection places 
        hometown sellers that are required to collect tax at an unfair 
        competitive disadvantage.

   The Streamlined Sales and Use Tax Agreement took effect on 
        October 1, 2005, with 19 states, representing almost 30 percent 
        of the population, participating. Collection of sales and use 
        taxes by remote sellers under the Agreement is voluntary. 
        Federal legislation could require participation of remote 
        vendors under the Agreement.

    FTA urges the Committee to take up streamlining as a separate and 
distinct issue. It should be advanced to conclusion this year.

    The Chairman. I thank you very much.
    And now may I recognize Ms. Canning.

STATEMENT OF ANNABELLE CANNING, ESQ., VICE PRESIDENT, STATE TAX 
                 POLICY, VERIZON COMMUNICATIONS

    Ms. Canning. Chairman Inouye, Senator Stevens, and members 
of the Committee, 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 Annabelle Canning and I am Vice President for 
State Tax Policy at Verizon Communications. I appear today on 
behalf of a broad coalition of Internet service providers, 
Internet backbone providers, and Internet application and 
content providers to support a permanent extension of the 
Internet tax moratorium. Thank you for the opportunity to speak 
today.
    It appears that the states and industry are in agreement 
that the moratorium should be extended. Accordingly, I would 
like to focus my comments on three important points.
    First, at a time when State and local economic development 
experts are touting broadband as critical to economic 
competitiveness, the moratorium should be made permanent 
because new taxes on Internet access could have a chilling 
effect on broadband investment.
    The moratorium has benefited the entire United States 
economy by improving the productivity of American businesses 
and lowering prices for consumers through competition. Recent 
studies support the premise that broadband investments that 
increase the speed and reach of communications networks improve 
the productivity of businesses. Unfortunately, in many states, 
economic development policy and tax policy are not aligned.
    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. A strong pro-investment signal from Congress would 
help ensure that these investments, which have had such an 
important role in the U.S. economic growth and productivity 
over the last decade, will continue to be encouraged and 
rewarded. It will send a signal to the capital markets to 
invest here in the U.S., and not abroad.
    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.
    The convergence that many in the industry have discussed 
for years is finally here. In more and more areas of the 
country, consumers have choices: high-speed DSL, high-speed 
cable modem access, or wireless ``3G'' service. Other 
technologies on the horizon may provide even more competitive 
choices.
    With the benefits of competition now coming to low- and 
moderate-income households, the imposition of new taxes on 
Internet access would increase prices and make broadband access 
less affordable to such households as well as small businesses 
that need broadband access to compete in the global economy. 
Taxes matter in many households with limited amounts of 
discretionary income.
    Finally, Congress should make it clear that the transport 
underlying the provision of Internet access is covered by the 
moratorium.
    The current Internet tax moratorium on State and local 
taxes covers the transport purchased, used, and sold by 
Internet access service providers to provide Internet access. 
Nonetheless, some states and localities have persisted in 
imposing taxes on Internet transport. From an economic 
standpoint, taxation of the transport component of Internet 
access is indistinguishable from taxation of Internet access 
itself.
    Congress expressed its clear legislative intent that 
Internet access taxes be banned at both the retail and the 
wholesale level. Congress must ensure that consumers are not 
subject to hidden taxes, and that all providers of Internet 
access are subject to the same level of taxation with respect 
to purchases of wholesale transport services.
    State and local governments have failed, over the past 
decade to reduce excessive and discriminatory taxes on 
telecommunications services--Virginia remains the only State 
that has successfully eliminated its discriminatory taxes and 
reduced the level of taxation imposed on communications 
services to the same level imposed on other competitive goods 
and services.
    What level of taxation would likely be imposed on Internet 
access and electronic commerce if the moratorium is expired? 
Consumers in Prince George's County, Maryland, could pay an 
additional 11 percent in local taxes on purchases of Internet 
access, while consumers in Jacksonville, Florida, could pay as 
much as 30 percent in combined State and local taxes on 
purchases of high-speed broadband access.
    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. It is 
time to treat all consumers in the U.S. the same and to protect 
all consumers from excessive and regressive taxation by 
eliminating the grandfathering of the nine remaining states.
    Taxes do matter. The risk of excessive taxation of Internet 
access is as real in 2007 as it was in 1998.
    Mr. Chairman and members of the Committee, thank you, 
again, for the opportunity to testify on this important 
subject, and I respectfully urge you to pass a permanent 
extension of the Internet tax moratorium without extending the 
grandfather provisions.
    I look forward to answering any questions you may have.
    [The prepared statement of Ms. Canning follows:]

    Prepared Statement of Annabelle Canning, Esq., Vice President, 
                State Tax Policy, Verizon Communications
    Chairman Inouye, Senator Stevens, and members of the Committee, 
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 Annabelle Canning and I am Vice President, State Tax 
Policy at Verizon Communications. I am responsible for pursuing state 
legislative tax reform initiatives that ensure fair and 
nondiscriminatory taxation of our consumers and encourage increased 
broadband investment by communications providers in innovative, new 
technologies. 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; therefore, Congress 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 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 preventing excessive and inconsistent 
taxation of these services. Congress was rightly concerned that high 
taxes would impose undue burdens on consumers, and the administrative 
burdens of filing in thousands of taxing jurisdictions would impose a 
barrier to new 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 
U.S. economy by improving the productivity of American businesses and 
lowering prices for consumers through competition.
    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.
    Numerous studies support the premise that 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 example, a recent study by the international technology 
consulting firm Ovum and Indepen found that as much as 80 percent of 
the productivity growth in the entire economy in 2003 and 2004 was due 
to just two sectors: communications and information technology.\1\ 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.
---------------------------------------------------------------------------
    \1\ Lewin, David and Roger Entner. ``Impact of the U.S. Wireless 
Telecom Industry on the U.S. Economy ,'' Ovum and Indepen, Boston, MA, 
September 2005.
---------------------------------------------------------------------------
    The productivity benefits to the U.S. economy that flow from 
ensuring continued growth of the communications sector and increased 
investment in these networks highlight the importance of making the 
Internet tax moratorium permanent. Failure to make the moratorium 
permanent will likely result in the excessive and discriminatory taxes 
currently imposed on other communications services being extended to 
Internet access, resulting in decreased productivity in the economy 
generally.
    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 U.S. 
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.
    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 policy priorities alone have not been sufficient 
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 U.S. 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, and/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 to such households as well as small businesses that need 
broadband access to enhance their ability to compete. New taxes on 
Internet access would be especially problematic if excessive state and 
local telecommunications taxes were simply extended to such services by 
tax authorities.
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 cost of service, 
deterring the growth of Internet access subscribership.
    A report released by GAO in 2006, on the Impact of the Internet Tax 
Nondiscrimination Act on State Tax Revenues,\2\ concluded that the 
Internet tax moratorium did not apply to Internet backbone services 
(described as ``acquired services''). However, the plain language of 
the statute, as well as the relevant legislative history, reflect a 
clear legislative intent to ban Internet access taxes at both the 
retail and wholesale level. One of Congress's primary purposes 
underlying the reenactment of ITNA was to address potential and 
existing inequities with respect to the states' taxation of the various 
providers of Internet access. Congress was concerned that those 
providers who are required to primarily purchase the transport backbone 
services from another entity would be placed at a competitive 
disadvantage compared to those who own backbone networks.
---------------------------------------------------------------------------
    \2\ Government Accountability Office, ``Internet Access Tax 
Moratorium Revenue Impacts Will Vary by State.'' Washington, D.C., 
January 2006, GAO-06-273.
---------------------------------------------------------------------------
    Congress sought to correct this potential inequity to ensure that 
all providers of Internet access would be subject to the same level of 
taxation with respect to their purchase of wholesale transport services 
and consumers would not be subject to additional costs through the 
imposition of ``hidden taxes'' on the transport.
    The willingness of states and localities to tax communications 
services at excessive and discriminatory rates highlights 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. These excessive rates impact not only consumers but also the 
growth of the Nation's economy generally.
    In 1999, the Committee on State Taxation released a comprehensive 
study of the state and local tax burden on telecommunications 
services.\3\ 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 percent 
vs. 6 percent). 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).
---------------------------------------------------------------------------
    \3\ Committee on State Taxation, ``50-State Study and Report on 
Telecommunications Taxation.'' Washington, D.C., 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 percent in taxes, more than two times the 6.6 
percent 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 taxes 
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.\4\
---------------------------------------------------------------------------
    \4\ 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.
    Mr. Chairman and members of the Committee, thank you again for the 
opportunity to testify on this important subject, and I respectfully 
urge you to pass a permanent extension of the Internet tax moratorium.

    The Chairman. I thank you very much, Ms. Canning.
    Now may I recognize Mr. Dircksen.

 STATEMENT OF JEFF DIRCKSEN, DIRECTOR, CONGRESSIONAL ANALYSIS, 
               NATIONAL TAXPAYER UNION FOUNDATION

    Mr. Dircksen. Thank you, Mr. Chairman.
    Mr. Chairman, Mr. Vice Chairman, members of the Committee, 
my name is Jeff Dircksen, and I am the Director of 
Congressional Analysis for the National Taxpayers Union 
Foundation, the research and education arm of the National 
Taxpayers Union. NTU is America's oldest and largest grassroots 
taxpayer organization, with over 362,000 members in all 50 
states. You can learn more about NTU and NTUF online, at 
NTU.org.
    I appreciate the opportunity to testify on the topic of 
communications, taxation, and federalism here today. I also had 
the privilege, in 2001, of addressing the Committee. And so, in 
the sense of Senator Carper's deja vu, here I am again, as 
well.
    But these hearings continue to address some of the most 
important technological and economic issues facing America. I 
am here on behalf of NTU's members, and taxpayers in general, 
to urge you to extend the Internet tax moratorium and to ensure 
that the Internet and online transactions remain free from 
predatory taxation.
    My prepared statement touches on three taxpayer concerns. 
The first is that taxpayers already face sizable taxes, fees, 
and other charges for telecommunications services. Research 
shows that, over time, the users of telecom services have 
consistently shouldered higher tax burdens on those products, 
when compared to the tax on other goods and services.
    Also, studies have shown that there is a significant 
economic deadweight loss, due to taxes and fees on cable and 
wireless services, that run in the billions annually. I would 
also commend to you a 2006 study by Chicago Professor Goolsbee, 
who found that the deadweight loss, in looking back to 1998, on 
broadband services in some markets would have forced some 
providers to exclude those markets or not enter those markets 
at all. It's seeing them as marginal.
    Second, additional taxes on telecommunication services 
would be counterproductive for consumers and service providers. 
Representative Eshoo noted earlier that we rank 15th in 
broadband penetration among OECD countries.
    Third, we believe that the 1992 Supreme Court Quill ruling 
has protected taxpayers by ensuring tax competition among 
states and local governments. We believe tax harmonization will 
only result in a race to the top, as State legislators are 
unwilling to forego local add-on taxes and, instead, build from 
that base up.
    And, finally, fourth, we talk about pro-taxpayer, pro-
market solutions and suggestions that can encourage economic 
growth and innovation on the telecom sector. Just a couple of 
recommendations would be: a permanent ban on Internet access 
taxes, a permanent ban on levying new discriminatory taxes on 
wireless services, and the repeal of the remainder of the phone 
excise taxes that apply to local phone calls.
    As Senator Carper mentioned, I'd like to retell or follow 
up on a story I told when I testified in 2001.
    Prior to my testimony, I received an e-mail from my sister, 
who lived in Gann Valley, South Dakota. She said that my 
brother-in-law was going to give up farming and go to work for 
the local telecom, and do telecommunications Internet services. 
I mentioned that in the hearing. My mother, who lives in South 
Dakota, was listening to the hearing online, and was surprised 
to hear that fact. My sister hadn't told her yet. Now, that 
little touchy moment for my family was probably unimportant to 
the millions of people who access the Internet. But that little 
family moment, for us, was made possible because the Internet 
does not have high tax and regulatory burdens that either faced 
my sister in Gann Valley or in Woonsocket or Parker or Tea or 
Harrisburg, South Dakota, or for my mother, in Sioux Falls. 
It's important, then, to make sure that those individuals, 
whether in metro areas or across rural areas, have access to 
Internet broadband technology.
    In a recent conversation with someone, talking about these 
issues, the individual said, ``Well, this ground has been well 
plowed.'' And I said, ``Yes.'' It seems as if the Internet and 
these Internet issues--tax policy issues--have been around 
forever. We believe that it is time that members of the 
Committee agree that Internet access should not be taxed. Back 
in 2001, a member of the Committee came out and said so. 
Senator Carper has said so. It's time to send a clear signal to 
consumers and service providers that making the Internet tax 
moratorium permanent is the way to go, that other legislation 
should be adopted, then, that is both low-tax and pro-free-
market. Those are the best means to clear the way for more 
innovation and more growth in the 21st century. NTU's 
government affairs folks are willing to work with you, your 
staff, and the Committee to help advance a pro-taxpayer, low-
tax, pro-growth agenda.
    I thank you, again, for the opportunity to testify. It is 
my hope that in the future, if I have the privilege to return 
again, we will be talking about the successes of these pro-
growth policies, and not wishing that we could extend them for 
a few more years.
    Thank you, Mr. Chairman.
    [The prepared statement of Mr. Dircksen follows:]

Prepared Statement of Jeff Dircksen, Director, Congressional Analysis, 
                  National Taxpayers Union Foundation
    Chairman Inouye, Vice Chairman Stevens, and Members of the 
Committee, my name is Jeff Dircksen, and I am the Director of 
Congressional Analysis for National Taxpayers Union Foundation, the 
education and research arm of the National Taxpayers Union (NTU). NTU 
is America's oldest and largest grassroots taxpayer organization with 
over 362,000 members in all 50 states. You can learn more about NTU and 
NTUF online at www.ntu.org.
    I appreciate the opportunity to testify on the topic of 
communications, taxation, and federalism. This hearing addresses some 
of the most important technological and economic issues facing America. 
I am here on behalf of NTU and its membership to urge you to extend the 
Internet tax moratorium and to ensure that the Internet and online 
transactions remain free from predatory taxes.
    Today, I want to share three taxpayer concerns regarding taxing 
Internet usage and the application of additional taxes or fees to 
Internet access or transactions. In addition, I will suggest policy 
alternatives that would be both pro-free market and pro-taxpayer in 
their orientation. First, state and local governments already place 
sizable taxes, fees, and other charges on taxpayers who subscribe to 
various telecommunications services, whether wired, wireless, or 
online. Second, allowing governmental entities to increase this burden 
would be counterproductive for consumers and telecommunications 
providers. Third, the Supreme Court's 1992 Quill ruling has protected 
taxpayers by ensuring tax competition among state and local governments 
who might otherwise engage in round after round of tax hikes in a 
``race to the top.''
    Finally, on behalf of our members, I would urge you to consider how 
taxpayers would be better served by low-tax, pro-free market policies 
that encourage economic growth and innovation in the telecommunications 
sector (in contrast to higher taxes, fees, and additional regulation).
1. Taxpayers Already Face Sizable Taxes, Fees, and Other Charges for 
        Telecommunications Services
    In 2000, the National Conference of State Legislatures estimated 
that there were nearly 11,000 state and local governmental entities 
that could levy taxes or fees on telecommunication activities, 
including franchise taxes, utility taxes, line access and right-of-way 
charges, 9-1-1 fees, relay charges, and maintenance surcharges.\1\ 
Research shows that over time, the users of telecommunication services 
have consistently shouldered higher tax burdens on telecommunications 
products when compared to taxes on other goods and services. A Council 
on State Taxation (COST) report released in 1999 found that consumers 
faced an effective state and local tax rate of 13.74 percent, which was 
more than double the 6 percent rate that imposed on other taxable 
goods.\2\ A 2005 update to that report found that the effective rate 
confronting taxpayers had risen to 14.17 percent, while general 
business taxes had increased to 6.12 percent from 6 percent.
---------------------------------------------------------------------------
    \1\ Scott Mackey, ``Telecommunications and the Tangle of Taxes,'' 
State Legislatures, February 2000, www.ncsl.org.
    \2\ Scott R. Mackey, Testimony before the House Committee on the 
Judiciary, Subcommittee on Commercial and Administrative Law, Oversight 
Hearing on State Taxation of Internet Telecommunications Services, June 
13, 2006.
---------------------------------------------------------------------------
    While a recent report produced by the Heartland Institute and the 
Beacon Hill Institute at Suffolk University found a slightly lower tax 
rate than the COST study, it did estimate that the average tax rate for 
telecommunications services was either 13.52 percent or 11.04 percent, 
depending upon whether Internet access taxes were included or not. 
Table 1 below summarizes the average monthly bill, tax paid, and tax 
rate that consumers face. That rate is still double the average general 
sales tax, which was 6.61 percent in the study. Please bear in mind 
also that Heartland/Beacon Hill's findings reflect adjustments to the 
methodology for which COST's study was criticized by self-interested 
local officials. Using the average annual taxes and fees paid on cable 
TV and telephone services (both wired and wireless), the authors 
estimate that the total annual tax bill paid by consumers is $37 
billion. The estimate does not include ``losses due to reduced 
investment, productivity, and consumption.'' \3\
---------------------------------------------------------------------------
    \3\ David Tuerck et al., ``Taxes and Fees on Communication 
Services,'' The Heartland Institute, Policy Study #113, May 2007, 
http://www.heartland.org, p. 22.

     Table 1.--The Average Monthly Bill, Tax Paid, and Tax Rate for
                         Communication Services
------------------------------------------------------------------------
                                     Average
             Service                 monthly      Average      Average
                                       bill       tax paid     tax rate
------------------------------------------------------------------------
Cable TV                                $52.36        $6.12       11.69%
Wireline Phone                           49.33         8.50        17.23
Wireless Phone                           49.98         5.89        11.78
Subtotal                                151.67        20.51        13.52
------------------------------------------------------------------------
Internet Access                          36.50         0.26         0.71
------------------------------------------------------------------------
    Total                               188.17        20.77        11.04
------------------------------------------------------------------------
Source: Heartland Institute Policy Study #113, May 2007.

    Lowering the taxes on telecommunications to even the average sales 
tax rate would put some money in the pockets of consumers. The authors 
of the Heartland and Beacon Hill Institute study observe, ``The average 
household would save $125.76 a year if taxes and fees on cable 
television and phone calls were the same as the average general sales 
tax on clothing, sporting goods, and household products.'' \4\ The 
savings may not appear to be significant to those of us living in the 
Washington metro area, but for consumers in other areas of the country 
the amount might not be a paltry matter. (Of course, the savings could 
be even more substantial if the tax rates were reduced to zero for the 
communications services.) I make this point because when I had the 
opportunity to testify on these issues in 2001, I mentioned that I had 
just learned that my brother-in-law was planning to stop farming near 
Gann Valley, South Dakota, and start working for a local Internet 
service provider. For some potential Internet or telecommunications 
customers in Gann Valley, Woonsocket, or Viborg, South Dakota, those 
savings might make the difference between connecting to a world outside 
of the Great Plains or not.
---------------------------------------------------------------------------
    \4\ David Tuerck et al.
---------------------------------------------------------------------------
2. Additional Taxes on Telecommunications Services Would Be 
        Counterproductive for Consumers and Service Providers
    Additional taxes on Internet access or other telecommunications 
services may further slow the adoption of broadband technologies in the 
U.S. According to data from the Organisation for Economic Co-operation 
and Development (OECD), as of December 2006, the U.S. ranks 15th out of 
30 OECD countries for broadband subscribers per 100 inhabitants.\5\ 
Table 2 below shows that the U.S. trails countries such as Denmark and 
Canada, but also Luxembourg.
---------------------------------------------------------------------------
    \5\ Organisation for Economic Co-operation and Development, ``OECD 
Broadband Statistics to December 2006,'' http://www.oecd.org/sti/ict/
broadband.

                               Table 2.--Broadband Subscribers per 100 Inhabitants
----------------------------------------------------------------------------------------------------------------
                       Country                                                    Rank
----------------------------------------------------------------------------------------------------------------
Denmark                                                                                                       1
Netherlands                                                                                                   2
Iceland                                                                                                       3
Korea                                                                                                         4
Switzerland*                                                                                                  5
Norway                                                                                                        6
Finland                                                                                                       7
Sweden*                                                                                                       8
Canada                                                                                                        9
Belgium                                                                                                      10
United Kingdom                                                                                               11
Luxembourg                                                                                                   12
France                                                                                                       13
Japan                                                                                                        14
United States                                                                                                15
----------------------------------------------------------------------------------------------------------------
Notes: *Data for Sweden and Switzerland are preliminary estimates based on September 2006 data.
Source: OECD.

    Broadband technologies are highly price-elastic, meaning that 
consumers are sensitive to changes in price, including the imposition 
of additional taxes and fees. Steve Titch, a policy analyst with the 
Reason Foundation, points out that a 1 percent hike in the price of 
wireless service leads to a 1.29 percent drop in demand. The demand for 
cable TV falls 3 percent in response to a 1 percent rise in the price 
of the service. Titch concludes, ``This elasticity also is why 
legislators should avoid the temptation to `simplify' telecom taxes by 
raising them all to match the service taxed at the highest rate. In 
addition to being simplified, telecom taxes must be lowered.'' \6\
---------------------------------------------------------------------------
    \6\ Steve Titch, ``The $37 Billion Telecom Tax Burden,'' http://
www.reason.org, May 1, 2007.
---------------------------------------------------------------------------
    Such taxes can cause consumers to alter their decisionmaking 
processes and to select services based on taxes rather than on the true 
cost or quality of what is being offered. Producers may decide to 
forego an investment that they might have made in the absence of the 
tax structure. These economically inefficient decisions lead to a loss 
of both consumer and producer surpluses, resulting in what economists 
would call a ``deadweight loss.'' The annual deadweight loss due from 
taxes and fees on cable has been estimated to be as high as $2.6 
billion annually.\7\ The economic loss to the country from wireless 
taxes and fees is even larger--$8.8 billion a year.\8\ A 2006 analysis 
by economist Austan Goolsbee found that if taxes had been levied on 
broadband technologies in 1998 that the resulting deadweight loss would 
have slowed the entry of broadband suppliers into some marginal 
markets.\9\ According to Goolsbee, ``[T]he deadweight loss adjustment 
associated with the impact of taxes on diffusion, $70 million, exceeds 
the conventional deadweight loss by a factor of 2 (raising the total 
[deadweight loss] from around 180 percent of revenue to 434 percent of 
revenue.)'' \10\
---------------------------------------------------------------------------
    \7\ Jerry Ellig and James Nicholas Taylor, ``The Consumer Costs of 
Wireless Taxes and Surcharges,'' Working Paper in Regulatory Studies, 
Mercatus Center, March 2006, cited in David Tuerck et al.
    \8\ Ibid.
    \9\ Austan Goolsbee, ``The Value of Broadband and the Deadweight 
Loss of Taxing New Technology,'' Contributions to Economic Analysis & 
Policy, Vol. 5, Issue 1, 2006.
    \10\ Austan Goolsbee, pp. 19-20.
---------------------------------------------------------------------------
    Rather than aggravating these economic losses with new or higher 
taxes, Congress should adopt a policy that bans new taxes and repeals 
those already in place (or at least lowers them). NTU has supported the 
temporary extensions of the Internet tax moratorium, while urging a 
permanent ban on access taxes and other telecommunications fees. Such a 
ban would remove the economic inefficiencies and uncertainties 
associated with temporary moratoriums, thereby sending a strong and 
clear signal to taxpayers and service providers: namely, that broadband 
and wireless are technologies that will be allowed to grow and innovate 
without the specter of the ``tax man'' lurking in the shadows.
3. The Quill Ruling has Protected Taxpayers by Ensuring Tax Competition 
        Among State and Local Governments
    Any scheme that intends to simplify, streamline, or make sales 
taxes ``fairer'' online is just one step away from trampling the 
Supreme Court's 1992 Quill ruling. Consumers should be wary of this 
backdoor attempt to run roughshod over the Court's restrictions on 
taxing phone and catalog sales. If such a system of extraterritorial 
collection is allowed, Congress will have opened the door to any number 
of potential tax cartels that will eventually harm rather than help 
taxpayers.
    Forty-five states and the District of Columbia impose some type of 
a broad-based retail sales and use tax.\11\ The Federation of Tax 
Administrators calculates the median state sales tax rate to be 5.5 
percent.\12\ The sales taxes levied on consumers is likely higher, 
however, since local governments in 34 states are also allowed to levy 
a sales tax. Consequently, there are an estimated 7,458 governmental 
entities that can impose a sales or use tax.
---------------------------------------------------------------------------
    \11\ Harley T. Duncan, ``State and Local Retail Sales Taxes, 
Submitted to the President's Advisory Panel on Federal Tax Reform,'' 
Federation of Tax Administrators, April 2005.
    \12\ Federation of Tax Administrators, ``State Sales Tax Rates and 
Vendor Discounts,'' January 1, 2006, http://www.taxadmin.org/fta/rate/
vendor.pdf.
---------------------------------------------------------------------------
    In almost every case, the taxes imposed by local governments are 
``add-ons,'' or taxes that are in addition to the state's base sales 
tax rate. One must ask whether it is reasonable to believe that local 
elected officials would be willing to eliminate these ``add-ons'' in 
the name of simplification. Instead, taxpayers are likely to see an 
escalation of rates--a ``race to the top''--especially when politicians 
can hide behind the cloak of ``simplification'' and ``harmonization.'' 
In reality, such actions would essentially kill tax competition among 
states. Elected officials would have little incentive to keep tax 
rates--or government expenditures--in check. The current sales tax 
structure authorizes states and localities to determine taxing 
priorities, allowing tax bases and rates to vary as legislative bodies 
see fit. NTU frequently receives letters and e-mail messages from 
individuals who are considering relocating their families and 
businesses and want to find information on state and local tax burdens. 
These individuals see tax competition among states as extremely 
beneficial.
4. Pro-Taxpayer, Pro-Market Policy Suggestions That Encourage Economic 
        Growth and Innovation in the Telecommunications Sector
    The following is a list of recommendations that would benefit 
taxpayers through lower taxes and economic expansion, as well as 
through innovation in the quality and delivery of telecommunication 
services.

   A permanent ban on Internet access taxes. As NTU's Senior 
        Government Affairs Manager Kristina Rasmussen noted in a 
        January 5, 2007 letter to Senators Wyden, McCain, and Sununu, 
        ``Since its enactment in December 2004, the Internet Tax 
        Nondiscrimination Act has stopped any new taxes targeted at 
        Internet access services. This bill and its predecessors have 
        helped to create a dynamic environment where the Internet is 
        thriving and bringing advanced communication capabilities to 
        millions. Keeping the burden of new government-mandated access 
        charges off Internet service has made entry to the information 
        superhighway more affordable for Americans from all walks of 
        life.'' Making the moratorium permanent would continue to keep 
        that information superhighway affordable, today and in the 
        future.

   A permanent ban on levying new discriminatory taxes on 
        wireless services. Local and state governments believe wireless 
        taxes, fees, and surcharges are a ``cash cow'' for the 21st 
        century. Yet, they fail to consider that the total wireless tax 
        and fee burden can exceed 20 percent in some areas--a higher 
        effective tax rate than the typical middle-class consumer pays 
        on a 1040 Federal income tax return. Again, higher wireless 
        taxes will cause consumer demand to fall and limit the ability 
        of service providers to enhance current offerings or develop 
        new ones.

    The fact is, all too many officials in states and localities have 
        been oblivious, and often contemptuous, toward this miserable 
        situation. The City of Corvallis, Oregon provides but one 
        example of where elected leaders resorted to a noxious tax 
        scheme to make wireless services far less affordable. Voters 
        demolished this proposal when it was referred to them last 
        fall, but this laudable outcome entailed extraordinary efforts 
        on the part of local residents (including our own members) to 
        beat back the tax hike. Until citizen activists can establish 
        comprehensive tax limitation and reduction measures in their 
        communities, it is perfectly reasonable for Congress to set 
        some sensible boundaries under Federal law (just as it did with 
        the Internet Tax Freedom Act).

   Repeal the remainder of the phone excise tax. While the 
        Treasury's decision to forgo collection of the phone excise tax 
        on long distance telephone calls was a step in the right 
        direction, action should be taken to repeal the tax that is 
        still being levied on local calls.

   Adopt business activity tax simplification legislation. The 
        integration of the Internet and telecommunications technologies 
        has allowed businesses to expand across state lines, and 
        interstate business activities are now commonplace. However, 
        these developments have created confusion about when states are 
        permitted to collect income taxes from out-of-state companies 
        conducting certain activities within their jurisdiction. 
        Unfortunately, governments are increasingly defining 
        ``substantial nexus'' differently, leading to a complex matrix 
        of tax rules. Congress should adopt legislation that contains 
        specific standards that define when firms should be obliged to 
        pay business activity taxes.

   Provide clarification on whether ``acquired transactions'' 
        are taxable or not. In its January 2006 report to this 
        Committee entitled ``Internet Access Tax Moratorium: Revenue 
        Impacts Will Vary by State,'' the Government Accountability 
        Office (GAO) argued that the current Internet tax moratorium 
        does not exempt certain ``acquired services'' from taxation. 
        These services include ``high-speed communications capacity 
        over fiber, acquired by Internet service providers (ISP) and 
        used to deliver Internet access.'' \13\ However, GAO's view is 
        not accepted by all state tax officials or representatives of 
        the telecommunications industry. We would recommend exempting 
        such transactions to prevent state or local governments from 
        making an end-run around the moratorium.
---------------------------------------------------------------------------
    \13\ U.S. Government Accountability Office, ``Internet Access Tax 
Moratorium: Revenue Impacts Will Vary by State,'' January 2006, 
Highlights.

   Maintain the integrity of the spectrum auctioning process. 
        Competitive bidding for taxpayer-owned airwaves has been 
        successful all around, by providing a fair price for a valuable 
        commodity, yielding billions of dollars in potential deficit 
        reduction, and fostering the expansion of telecommunications 
        services. Yet, Congress and the FCC continue to experience 
        pressure from certain businesses seeking exceptions or 
        favorable treatment during the auctioning process. Furthermore, 
        disgruntled rivals in the same or even other industries seek 
        regulatory action to enjoin common business decisions such as 
        mergers. The proper response to such pleas is not additional 
        intervention in the market, but rather providing the spectrum 
        (through competitive auctioning) that will allow all comers to 
        follow through with their business plans and offer consumers 
---------------------------------------------------------------------------
        more choices.

   Reexamine unproductive subsidies. To give just one example, 
        the Universal Service Fund's ``High Cost'' program, which 
        subsidizes phone service in certain areas (often rural), was 
        created as a way to further the goal set out by the 1934 
        Communications Act to provide reasonably priced communications 
        across the Nation. According to the Office of Management and 
        Budget's Program Assessment Rating Tool, High Cost is rated 
        ``Results Not Demonstrated'' because it ``does not measure the 
        impact of funds on telephone subscribership in rural areas or 
        other potential measures of program success, nor does it base 
        funding decisions on measurable benefits.'' A program whose 
        purpose has been firmly implanted for decades should have 
        established benchmarks for success by now, but apparently not 
        in this case.
Conclusion
    Given the potentially destructive impact that expanding or raising 
Internet and telecommunications taxes could have on this important 
economic sector, the remedy could not be clearer: Congress and the 
states should declare this tax territory permanently ``off limits.'' 
Again, I appreciate the opportunity to testify here today, Mr. 
Chairman. Our membership is grateful that the voices of taxpayers are 
being heard as well as recognized. I look forward to your questions.

    The Chairman. I thank you very much, Mr. Dircksen.
    May I now recognize our Vice Chairman, Senator Stevens.

                STATEMENT OF HON. TED STEVENS, 
                    U.S. SENATOR FROM ALASKA

    Senator Stevens. Thank you very much, Mr. Chairman.
    Would you put my statement--opening statement in the record 
here----
    The Chairman. It is so ordered.
    Senator Stevens.--please?
    [The prepared statement of Senator Stevens follows:]

    Prepared Statement of Hon. Ted Stevens, U.S. Senator from Alaska
    Thanks to the Internet, more goods and services are sold in Alaska 
every day, and Alaskans are able to market their goods to customers in 
the Lower 48. This is beneficial for small businesses. Access to the 
Internet has provided Alaskans with a means to get lower rates for 
hotel and air travel when they are planning trips outside the state. 
Additionally, broadband access has eliminated distance barriers for 
education and medicine.
    To ensure those benefits continue to reach as many Americans as 
possible, Congress should reduce any obstacles to Internet access. One 
way to do that is to prevent Federal, state and local taxes that drive 
up costs for Internet access. During the period of the imposition of 
the moratorium in 1998 and now, there has been tremendous investment, 
growth and innovation in broadband deployment and I hope this 
continues.
    I am pleased to see that this issue has bipartisan support in both 
the House and the Senate and look forward to the testimony today and 
working with my colleagues to extend the moratorium which expires in 
November of this year.

    Senator Stevens. I apologize for being late.
    And I do not wish to offend my good friend, but I'm 
compelled to ask this question. Under what procedure do you 
think we could approach the nine remaining states that do tax, 
and have a phase-out that's fair to all concerned? Any 
suggestions?
    Ms. Canning?
    Ms. Canning. Yes. I think most states are either in session 
once a year or every 2 years. So typically when we've done 
solutions in the states, as far as tax-reform types of 
solutions, it's typically been a 2-year period. I think it 
theoretically could be a 4-year period. But I think the idea 
is, to give the State sufficient time. We're not talking about 
a substantial amount of money, as compared to other sources of 
revenue in the states, and, I would think, over some period of 
time that allowed for the states to analyze their budget 
considerations during the 1 year, 2 year, maybe a 4 year 
period----
    Senator Stevens. Well, I'm informed----
    Ms. Canning.--it could be addressed.
    Senator Stevens. I'm informed that Hawaii's is somewhere 
around $5 million a year. It is just a State tax, and it's not 
county or local taxes, right?
    Ms. Canning. It can vary. There may be a few local 
jurisdictions in Colorado. It's sort of uncertain. But, 
otherwise, it's only state-level, yes.
    Senator Stevens. Well, if we could do that, we could then 
have a permanent, rather than a moratorium, right?
    Ms. Canning. That is correct.
    Senator Stevens. Any of you have any opposition to that 
concept?
    Mr. Quam?
    Mr. Quam. Yes, sir. The Governors have called for a 
temporary extension and a continuation of the grandfathers. And 
the reason for that, they serve some very important purposes. 
They are safeguards. It's pretty clear, from even the testimony 
today in some differences in what the definition means, both 
between GAO, NGA, and industry, that we haven't gotten this 
right yet. The temporary extension of the moratorium and the 
grandfathers were part of the original deal, really out of 
respect for federalism and the fact that these are State and 
local taxes that we're dealing with. By having those safeguards 
in place in a temporary moratorium, you can deal with issues of 
the definition. Congress can come back and recheck where the 
things stand, because the Internet is changing so much.
    And then, on the grandfather clause, it's not just nine 
states with taxes I think you're right, in Colorado there are 
some local jurisdictions--but that protection also protected a 
lot of other taxes in all states, because it grandfathered in 
all taxes that may apply to this industry as it came online.
    You'd have to go back and, with the grandfather protection, 
make sure that the moratorium would not inadvertently apply, 
especially at the local level, to taxes that were not 
anticipated or people aren't thinking of. It's not just the 
direct tax on Internet access, there is a protection there for 
indirect taxes that, unless you get the definitions right, 
could fall under the moratorium. So, it's an important 
safeguard, and we'd argue that it needs to stay in place.
    Senator Stevens. Well, if I understand this correctly, the 
use of the Internet has expanded that--the economy of the 
country--that all states benefit from that expansion. Now, the 
difficulty is, is there were some states that already had taxes 
in place. You sort of implied that you think that there are 
taxing jurisdictions be--smaller than the states themselves, 
that are still imposing taxes. That surprises me. I didn't 
think that was the case.
    But I would like to see us get to the point where it's a 
level playing field. It does seem to me that the states that 
don't have taxes are being penalized by the moratorium more 
than those that have--get the moratorium, obviously. And I'd 
like to see us eliminate this moratorium, the necessity to 
extend the moratorium every--it's 2 years, isn't it, Mr. 
Chairman?
    The Chairman. It expires in November.
    Senator Stevens. November, yes.
    We could put into this extension a process for elimination 
of the existing taxes, if we desire to do so. And I seem to 
remember a discussion like this the last time we extended this. 
Now, were any of you involved in those discussions?
    Mr. Quam. Yes, sir.
    Ms. Canning. Yes. And, actually, I do want to point out 
that, in fact--last time around, we did have--similar concerns 
raised about the clarity of what is meant by a tax on Internet 
access. When we talk about a tax on Internet access, we're 
talking about the purchase of service by the consumer. These 
are consumer taxes. And additional language was put into the 
compromise version last time that did clarify the fact that it 
did not apply to taxes on infrastructure, on the companies, 
that sort of thing.
    Senator Stevens. Well, I think as long as the moratorium 
exists, it raises the question of how to get around it in those 
states that want to continue to tax. And I think we ought to 
have a flat, absolute barrier to taxes on the Internet. Now, I 
don't know how we get there, but I would encourage you all to 
give us some suggestions. I don't know how the Chairman and 
other members of the Committee feel about that. But it does 
seem to me that this is such an essential element now, 
particularly going into broadband, its ubiquitous utility now 
has got to be realized by everybody, and it's not going to be 
if some places are going to try to go around what we've done 
and impose the tax and leave it up to some court to decide 
whether that's valid or not. I would like to see an impregnable 
ban on tax on the Internet.
    Now, does that--do any of you think that's not possible?
    Dr. White, do you think that's possible?
    Dr. White. It's possible, Senator. Our issue is about the 
clarity of the language in the law. We interpreted the plain 
language of the statute. In terms of the clarity issues, we 
recognize that there are others that have a different opinion 
on what it means, and we would be happy to work with your staff 
to clarify the language, if that's the issue. In terms of 
extending it to the nine states, we haven't done work on that 
specific issue, the best way to do that.
    Senator Stevens. Yes.
    Mr. Duncan. Mr. Chairman?
    Senator Stevens. Well, I would invite your assistance to 
the staff to make suggestions. And I don't know yet how my 
colleagues feel about this, but I know that ours is a State 
that deals with the Internet exclusively now, in terms of 
commerce, and most people don't realize how Alaska has utilized 
the Internet to the extent of just almost total utilization in 
very remote areas. And, through the use of the mails and the 
express delivery, we now have the concepts of access to markets 
we've never had before. Now, if our people, in using that new 
system--(new to us)--are going to face taxes from another 
State, that bothers me. I think we should be assured that's not 
going to happen. I hope that we can find some way to just put 
down a blanket prohibition against anyone charging taxes of 
fees or anything else on utilization of the Internet for 
commerce. And I hope that we can achieve that goal someday, and 
I'd like to start that process this year, if it's at all 
possible.
    Thank you, Mr. Chairman.
    The Chairman. Thank you.
    Mr. Duncan?
    Mr. Duncan. If I might, two comments on the grandfather. 
First, with respect to taxpayers in Alaska facing some 
additional cost because of a grandfathered tax, I----
    Senator Stevens. No, there are people that are utilizing 
it. They're not paying any taxes in Alaska.
    Mr. Duncan. No, and I understand. The grandfathered taxes 
are, indeed, consumer taxes, so if it's levied by the State of 
Wisconsin, it is paid only by a Wisconsin resident, and does 
not have an effect on Alaska. The amendments adopted last time 
that prevented or prevent states from taxing the--what I will 
call a wholesale purchase of telecommunications by an Internet 
service provider when they're used to provide Internet access, 
are, indeed, intended to reduce the costs to Alaskan residents 
and across the country. And that piece--while the grandfathered 
taxes from 1998 are consumer taxes, we estimate them at 
something on the order of $100 to $120 million across the 
country, the piece that was expanded last time to the 
telecommunications purchases by Internet service providers 
affected many more states, and, we think, is several hundred 
million dollars in foregone revenue. So, that there are 
significant steps that have already been taken to eliminate 
taxes that were imposed on Internet access, and then--consumer 
taxes from 1998 are there because they were levied by those 
states in 1998, and there is no getting around the moratorium 
there.
    Senator Stevens. Well, if we eliminated the moratorium, and 
prohibited it, they could not collect those any longer, right?
    Mr. Duncan. That would be correct. But what we're saying is 
that they were in place in 1998. They're taxes on the consumers 
in those states as part of their sales tax that tries to get at 
the broad taxation of consumer purchases by people living in 
the State. And the arrangement in 1998 was that they would 
remain in place.
    The other thing is that they are paid by consumers in those 
states, and work by the Government Accountability Office as 
well as by economists at the University of Tennessee, would 
show you that the degree to which consumers adopt Internet 
access and adopt broadband, and the degree to which companies 
provide broadband services, is not statistically related to 
whether the State taxes it or not. In other words, whether a 
State taxes Internet access doesn't have any statistically 
significant effect on whether the consumers in that State adopt 
it or whether the companies provide it. Other things are much 
more important, particularly income levels of the families and 
education levels.
    Senator Stevens. Do you have any----
    Mr. Duncan. Those are the primary determinants.
    Senator Stevens. Do you have any statistics on the total 
amount of taxes collected by those moratorium states?
    Mr. Duncan. When you dealt with it previously, were $80 to 
$120 million. We're in the process of gathering them. We think 
that that's still an accurate range.
    The Chairman. Thank you very much.
    Senator Carper?
    Senator Carper. Thanks. Thanks, Mr. Chairman.
    And let me just say welcome to all of you. Thank you for 
your testimony today.
    I want to go back and ask a couple of you to repeat what 
you said, please. And, Mr. Quam, would you go back, I think you 
said there are three principles that we should adhere to.
    And I would invite Senator Stevens--Senator Stevens? Excuse 
me, Senator Stevens, I don't know if you were here when Mr. 
Quam mentioned these three principles, right at the top of his 
testimony. I'm just going to ask him to repeat them for all of 
us, please.
    Mr. Quam. Thank you, Senator Carper.
    The three principles we would ask Congress to look at is, 
when they're looking at the moratorium: first, be clear; 
definitions matter. Again, we're talking about State and local 
taxes. Be very clear as to what is going to be affected. Number 
two, be flexible; a temporary solution is better than permanent 
confusion. Therefore, a temporary extension of the moratorium 
makes more sense. And, number three, do no harm; continue the 
grandfather protections to preserve existing State authority 
and revenues.
    Senator Carper. Thank you.
    Mr. Duncan, I don't know if you had three principles that 
you shared with us, but--I'll call them three principles--would 
you just go back and repeat those, as well, please?
    Mr. Duncan. Yes, Senator. The three key points on the 
access and moratorium that I made were that the definition of 
Internet access needs to be modified as we go forward, and it 
needs clarification so that it deals with issues of connecting 
to the Internet, the tools to navigate, the e-mail, the instant 
messaging, but avoids the bundling of other services.
    The second is that we believe the moratorium should be 
extended only temporarily, and that Congress should preserve 
its prerogatives to come back and review that periodically.
    And, third, that the grandfather clause that protects those 
taxes in place prior to 1998 should remain.
    Senator Carper. OK. All right. I think both of you talk 
about making the extension of the moratorium temporary, and I 
just want us to dwell on that for just a moment.
    A dozen or so years ago, when the Internet was maybe not in 
its infancy, but was certainly just a pup, just sort of growing 
up, and we wanted to make sure it had a chance to really reach 
its potential, I could see a need to try to protect it and to 
nurture it. And we sought to do that with the legislation that 
the Congress passed in 1998. In 1998, we didn't think of things 
like VoIP or IPTV. In fact, in 2001, it was my first year 
here--when we extended the moratorium for, oh, 2 or 3 years, we 
just hadn't thought of it. At least I don't recall ever 
hearing, in debate, any discussion of VoIP or IPTV. In fact, 3 
years ago, in 2004, when we passed the last extension of this 
moratorium, I didn't hear we were talking about VoIP. I joked, 
at the time, I had barely learned how to spell VoIP, and now I 
have to learn how to spell IPTV; and the technology just 
continues to change. And I think that that's one of the factors 
that argues for not making this permanent, at least until this 
all kind of settles out and we, sort of, know what we're 
facing. And so, your recommendation for the temporary nature of 
the extension is, I think, well founded.
    I would just say to my colleagues, in--anybody want to 
comment on what I just said?
    [No response.]
    Senator Carper. No? OK.
    Ms. Canning, go ahead.
    Ms. Canning. Yes, just to address the permanency issue, the 
communications providers that are making investment decisions, 
they're making them over 5 to 10 year periods, as far as 
investment in these networks that I think everybody has agreed 
is incredibly critical to the country's future, as far as the 
productivity of our businesses and competing in the new 
economy. Having a permanent moratorium is critical to enable 
those companies to make the right investment decisions to get 
as much capital in the form of infrastructure in this country.
    The other issue I'd just like to mention----
    Senator Carper. Well, before you do that--I only have so 
much time, so--thank you for responding to my point.
    As an old Governor, as a recovering Governor, I'm mindful 
of the need for the business community to have certainty. And, 
you know, they're making these big decisions, big investments. 
And I--obviously, they'd want certainty. I would want 
certainty, too. But the question is, how do we balance that 
desire, that need--in our desire to extend broadband throughout 
the country--how do we balance that with the need for some 
certainty from State and local governments that are trying to 
provide education for kids, early childhood education, run 
their schools, K-12, to provide some hospital care for people 
who, maybe, don't have the access to the sort of hospital care 
or healthcare that the rest of us do--how do we balance that 
against the needs for, you know, State and local governments to 
have some certainty, too, with respect to their revenue 
streams? And as I said earlier, we don't have a sales tax in my 
State, so this idea of remote collection of sales tax--it's 
actually not a parochial issue for me, so I think I can be, 
maybe, a little more objective than some in looking at this.
    But if--how is it appropriate for those of us in the 
Congress to say to a State or a local government, ``You can't 
collect telephone taxes, even if you've collected them for 
years. But as telephone services move over to the Internet, you 
can't collect those.'' Well, we said, 3 years ago, ``You can 
collect those. You can continue to collect them.'' I think--I 
might be wrong, but I think under the legislation that our 
colleague Senator Wyden and others are going to do--I think we 
actually may go back and change that.
    Can somebody clarify that for me? Mr. Quam, do you know how 
we continue to protect VoIP for the states?
    Mr. Quam. I believe the bills that are out there, including 
Senator Wyden's bill, would just be a straight extension of 
current law. That should carry the VoIP----
    Senator Carper. OK.
    Mr. Quam.--extension forward. The problem is, it does not 
change the underlying loophole. So, it's the next VoIP--IPTV, 
whatever the next major service is--that causes the problem. We 
never addressed the underlying issue of the definition, the 
last go-round.
    Senator Carper. Hopefully, as we go through that--this 
process, this year, we can find a way to address that. But, put 
on my old hat, or a State or local government person, I just 
don't know that it's appropriate for us to take away their 
ability to continue to raise revenues from ways they've 
traditionally done that. If you happen to be a city with cable 
franchise taxes, and your video migrates to the Internet, or 
your telephone I don't know that it's appropriate for us to 
step in and say, ``Well, you've always collected these taxes, 
and we're not going to let you do that.'' You know, they need 
some certainty, as well, and what we have to do is find the 
right balance that's respectful of the need for the business 
community to have some certainty as they make their investment 
decisions. We also have a need to respect the obligation of 
State and local governments to serve the folks that need to be 
served, and particularly at a time when their ability to 
collect sales tax is being undermined.
    Anyone want to comment on that?
    Dr. White, do you have any thoughts?
    Dr. White. Well, again, I think if the issue is 
uncertainty, based on the language of the statute, we have an 
interpretation of what the statute means. We would be happy to 
work with the Committee's staff to further clarify that, 
because we do recognize there are differences of opinion about 
both what's in an Internet access bundle and whether or not the 
moratorium applies to acquired services.
    Senator Carper. All right.
    Mr. Quam?
    Mr. Quam. Senator Carper, you strike a very important tone, 
and it was one that was here in 1998. And it's that of balance, 
that if Congress is going to take a step, that it needs to 
balance that with the sovereign authority of states to really 
define what their revenue systems are and meet the needs of 
their citizens. That was a core reason why it was temporary, 
why grandfather clauses were made part of the original 
moratorium. As we look at the debate that's before us today, if 
you look at a moratorium that prohibits states from taxing a 
certain service, it should be done very surgically, and should 
be done very rarely. It's not a business, I think, Congress 
really should get into, because it starts to cross the line and 
interfere with that State-Federal relationship.
    On the other side--and I know Delaware doesn't collect 
State sales taxes--however, the Streamlined Agreement is states 
actually coming together to address a problem that everybody 
said was a problem, and that's the complexity of State sales 
tax systems. Well, Governors and legislators and others, using 
their sovereign authority, came together to say, ``We'll solve 
it together.'' We have a national issue. The states came 
together, working with the business community, to come up with 
a voluntary agreement, incredible odds against it, and yet you 
have 15 full member states, and most states actually 
participating at some level, and over 1,000 companies agreeing 
to voluntarily collect those taxes. That's a success story that 
we should be talking about. That's the type of balance and 
respect for federalism that I think's really important here. 
Congress can help by coming in and authorizing those states who 
have done that work.
    On the moratorium, we need to keep a balance, and I think 
that's going to be very important.
    Senator Carper. Mr. Chairman, thanks. Thanks very much.
    If I could just say one last quick sentence, you know, to 
my colleagues, Mr. Chairman, on the one hand, I think we all 
want to see broadband deployed broadly in this country. And we 
know that's going to be part of our glide path, if you will, to 
success in the 21st century as an economy. By the same token, 
another part of our success is going to be determined by the 
kind of skills that kids graduate with from high school and 
college--the kind of skills that they bring to the workforce, 
and the ability of states to be able to ensure that those kids 
get the education they need at very young ages, and throughout 
their years in public school.
    So, our challenge is to find that balance. I think we can 
have both. And the challenge for us is to find a way to do 
both.
    The Chairman. Thank you very much.
    Senator Smith?

              STATEMENT OF HON. GORDON H. SMITH, 
                    U.S. SENATOR FROM OREGON

    Senator Smith. Thank you, Mr. Chairman.
    Mr. Quam and Ms. Canning, Senator Carper has touched on a 
question I'm interested in, and it's related just to the whole 
issue of bundling. Are there any businesses that are under the 
current definition of ``Internet access,'' take the position 
that anything they sell as part of the package with Internet 
access is exempt, because it is part of a package?
    Mr. Quam. I have no specific examples of that. However, the 
temporary aspect of the moratorium also helps protect against 
that. What you have is a very broad definition that was meant 
to be temporary in 1998. A straight reading of that would say 
that it is possible to read it that way, that you can bundle 
these together and make the whole package tax-free. We're only 
asking for a clarification to say that was not Congress's 
intent. If that's the practice today, then no one's doing it. 
It should not be a problem, then, to define this to make sure 
it's absolutely clear that it can't be done, because that is 
the risk into the future.
    Senator Smith. OK.
    Ms. Canning. This issue actually came up last time, when 
the bill was up for extension, as well. And, at that time, in 
addition to the VoIP provision that was included to clarify 
that Voice over Internet Protocol would be subject to tax, 
there was also an accounting rule included in that bill and 
that accounting rule is very similar to the same bundling rule 
that is included in the Streamlined Sales and Use Tax Agreement 
and process. And the entire purpose of that provision is to 
address the concern of bundling, which means, if a company is 
selling video/music-type services included in the bundle, they 
will be charging for those services, and that the accounting 
rule requires the company to separate the--out the taxable 
charges for either telecommunications or other services from 
the nontaxable Internet access. Failure to unbundle will result 
in the entire package being taxable, and, obviously, 
substantial revenues to State and local governments.
    Senator Smith. Are there any businesses that you know of 
that are currently taking that aggressive----
    Ms. Canning. I'm not aware of any businesses that are 
taking an aggressive position.
    Senator Smith. Mr. Quam?
    Mr. Quam. I would add, and Ms. Canning is absolutely right, 
the bundling or the accounting provision was very important. 
However, it only works if there is something actually to 
unbundle. If you have to unbundle with Internet access, but 
``Internet access'' can mean everything, the accounting rule 
really has no effect.
    Really, by clarifying the definition, you can make the 
accounting rule, which everybody agreed to, work. Therefore, we 
can get to the point I think you're trying to make, which is, 
no one's doing it now, let's make sure that Congressional 
intent was never that, ``just because it goes over the Internet 
means it's not subject to state and local taxes;'' rather, 
Congressional intent was, access to the Internet, we want tax-
free. That's one of the reasons we're supporting an extension 
of the moratorium----
    Senator Smith. And a clarification.
    Mr. Quam. Absolutely.
    Senator Smith. Thank you, Mr. Chairman.
    The Chairman. Thank you very much.
    Senator Dorgan?

              STATEMENT OF HON. BYRON L. DORGAN, 
                 U.S. SENATOR FROM NORTH DAKOTA

    Senator Dorgan. Mr. Chairman, thank you very much.
    You know, I think these issues can be resolved. All of us 
know they are difficult and complicated. The Internet has 
changed a lot in our lives. It's happened very quickly. It's 
one of the innovations in our lives that is unusual, and 
perhaps one of the great innovations in many, many decades.
    I was thinking, sitting here, you know, in the morning, at 
home, I go on the computer and check the news in North Dakota. 
So, that's my home computer. I go to the Internet. Driving in, 
I'll use my cell phone. I'll probably also use my cell phone to 
go to the Internet, check Headline News, CNN News or something. 
I get to the Capitol, I've got a BlackBerry, so I'm walking to 
the Russell Building, I, perhaps, will use the Internet on my 
BlackBerry. And then, maybe I'll stop someplace to make a phone 
call, and they have VoIP service for telephone. So, that's four 
different activities, all of which use the Internet. But the 
Internet came in different forms to all of those activities. 
And I think it describes why it is so important that, whatever 
we do, we do understanding the consequences of the actions. The 
definitions are critical here.
    You know, the issue of the moratorium has been 
controversial, not because there are a lot of people that want 
to say to the states or local governments, ``Go ahead and just 
impose some new taxes. It's a new area of activity, just layer 
on some taxes, if you like.'' That's not been the attitude, I 
think, of any Member of the Congress that I'm aware of.
    We have, however, tried to link, if we could, the 
opportunity to give the states some help in collecting taxes 
that are already owed with respect to Internet--the commerce on 
the Internet; that is, the purchasing and so on, the shopping 
that goes on. When that happens, a tax is owed for the access 
to a product on the Internet, but is never paid, because it 
needs to be paid in the form of a use tax, because it's not 
collected in the form of a sales tax. But the use tax on 
hundreds of billions of transactions is never paid by an 
individual consumer. So, the question is, can the State and 
local governments be able to collect that tax on the remote 
sale?
    I'm somebody who believes we should try to find a way to 
help make that happen, but I don't want anyone--a business that 
is affected, to have to subject themselves to 7,000 
jurisdictions and different rates, different bases, and the 
complexity of all that. So, the question is, how does one 
streamline that, or how does one simplify it? These two issues 
have generally been linked. That's why we have had a temporary, 
rather than permanent, moratorium; not because somebody 
believes that there should be new layers of taxes on the 
Internet.
    I think somehow we can work through this and solve it. Mr. 
Dircksen, you probably disagree. But I know some of the 
organizations in town that feel as you do, feel that we should 
not be collecting sales tax or use taxes on transactions from 
the Internet. Would you agree that if you bought that necktie 
that you're wearing on the Internet----
    Mr. Dircksen. This was a gift from my girlfriend, Senator.
    [Laughter.]
    Senator Dorgan. Well, that's----
    Mr. Dircksen. That's why I'm wearing it this morning.
    Senator Dorgan. Well, I happen to know that your girlfriend 
bought that on the Internet.
    [Laughter.]
    Senator Dorgan. And----
    Mr. Dircksen. Really?
    [Laughter.]
    Senator Dorgan. And when she did, my guess is----
    Mr. Dircksen.--the instant messenger when I----
    Senator Dorgan. Yes.
    Mr. Dircksen.--the room now----
    Senator Dorgan. When she----
    Mr. Dircksen.--I know why.
    Senator Dorgan. When she bought that beautiful necktie on 
the Internet, she, like most Americans, will not pay a use tax. 
She won't pay a sales tax, because the Internet seller, in most 
cases, isn't required to collect it, so will not. She, perhaps, 
is required to pay a use tax, but will not file a use tax form 
to pay a use tax on the necktie. So, do you, first of all, do 
you agree that a tax is owed on that transaction?
    Mr. Dircksen. There is a use tax transaction, yes. And, as 
the NTU has stated previously, and as I talked about, 
testifying in 2001, we believe that states unfortunately, have 
rarely made an effort, or only are then starting to make 
efforts, to inform consumers of their use tax obligations. We 
feel it's, kind of, the lazy tax collector way to say, ``You 
know what? We can't really do anything. We're not going to make 
any effort to tell you about use tax. So, we're just going to 
try to come together through the harmonization process,'' which 
we, again, have a concern will result in higher tax rates--
simplified is fine, but higher for consumers.
    Senator Dorgan. But, you know what? That's a curious choice 
for you to make. It seems to me you're saying, ``Let's send the 
local taxing authorities after, individually, hundreds of 
millions of people. Let's just sic them on those people 
individually''--that's a curious thing to do. It seems to me 
you would want to simplify it for those that owe the taxes.
    Mr. Dircksen. We believe in, again, a simplified process. 
But there could be education efforts made by states to let 
consumers know of their obligation. Again, as I stated in 2001, 
I formerly worked for the Pennsylvania Department of Revenue. 
The Commonwealth of Pennsylvania, in their statistics of 
revenue collections, has the category of ``Unknown Use Tax 
Collections.'' They don't know where it comes from. People just 
send them checks. They cash the checks. They're very happy to 
take the checks. And they don't do anything else. And then, 
when they did their online analysis, said, ``Oh, but we don't 
know where this comes from, but we really don't think it comes 
from the Internet. So, we're losing a lot of money.''
    Senator Dorgan. But, as a practical matter, hundreds of 
millions of transactions are not going to result in the filing 
of individual use tax. That's just common sense. And so, there 
is a substantial amount of difficulty with State governments 
being able to collect. And the question is, how do we try to 
find a way to help them do that, collect a tax that is already 
owed?
    Now, on the question of the issue of Internet access, I 
personally am not very interested in having somebody go to the 
Internet and say, ``You know what? We've got a new area of 
activity here, let's slap a tax on it.'' I'm very interested in 
much deeper penetration of Internet use in this country, of 
broadband use especially. And I don't think that's very tax 
sensitive, But, by the same token, I have no difficulty in 
saying, ``Let's not have people take a look at this as a plum 
with which we can impose a new tax.'' But as we begin thinking 
about these areas, the definitions are absolutely crucial, 
because I think there is no question, once you write this, if 
you give an opportunity for interests to bundle up a lot of 
activities and decide these are activities that are out of the 
reach--activities that, in previous cases, have always had to 
bear a tax--after all, you know, we have to build roads, and we 
have to have law enforcement and inspect food. We have to do 
things as a government, and we have to pay for that, so we have 
a tax system. So, I mean, ultimately, we've got to find ways 
here to wind our way through this without creating massive 
problems. And I think at least early on in this discussion, 
some of the proposals would have caused very serious problems, 
had we enacted them. I recall one in front of this Committee, 
Mr. Chairman, dealing with VoIP, when it was going to be a 
broad preemption from VoIP, broad preemption of issues. And 
when I said, ``Well, what are you preempting?'' and the author 
had no idea, couldn't give me a list--just wanted to preempt, 
but didn't know what he wanted to preempt.
    So, it seems to me that we ought to at least have some 
basic understanding, or minimum understanding, of what we're 
doing and what the consequences of that would be.
    I'll make one additional comment. Mr. Duncan and Mr. Quam 
make a point, and it's not an irrelevant point. It has not 
customarily been the province of the U.S. Congress to take a 
look at a State and say, ``We've defined the role here,'' in 
federalism, ``of what you can and cannot do.'' And so, we need 
to tread very carefully in those areas. Their admonition about 
that is, I think, well taken.
    Having said all of that, I think the testimony here has 
been good testimony, and we need to think our way through this 
carefully. I know there are people who just say, ``Well, 
permanent moratorium,'' and then leave the room. That's just a 
slogan, you know, ``permanent moratorium.''
    We need to balance all of the issues here of fostering 
Internet growth, fostering broadband penetration, all those 
issues, with all the other related issues, including the one 
that I was asking Mr. Dircksen about. And I didn't mean to 
engage your girlfriend's----
    [Laughter.]
    Senator Dorgan.--identity here.
    Mr. Dircksen. You and I will talk later.
    [Laughter.]
    Senator Dorgan. And it is a nice necktie.
    [Laughter.]
    Mr. Dircksen. As is yours, Senator.
    Senator Dorgan. Mr. Chairman, I'm going to send a series of 
questions to these witnesses, because I think there are a lot 
of things we should put on the record as our Committee begins 
to think through how we deal with these issues that Senator 
Enzi and Senator Wyden raised, as well as Representative Eshoo, 
and the issues raised by these five witnesses.
    So, thank you very much for holding the hearing.
    The Chairman. Thank you.
    When this Committee participated in the enactment of the 
Telecommunications Act of 1996, I believe the word ``Internet'' 
appeared three times in the final measure that became law. 
Since then, the Internet and Internet services have grown 
phenomenally. And there is a song that says, ``We've only just 
begun.'' It would be most applicable.
    Obviously, listening to the testimony--and I purposely 
permitted this freewheeling discussion--there is much confusion 
as to interpretation, and it will take some clarification to 
determine what Congressional intent was, or should be, and 
whether the moratorium is permanent or temporary. Listening to 
the testimony, I would opt out for a temporary extension, if at 
all, because I have no idea, at this moment, what we enacted, 
listening to all of the experts here. I don't know whether 
services, such as music, things like that, should fall into 
Internet. So, I will join my colleague in submitting questions, 
if I may, to all of you, so that our record will show your 
thoughts.
    The Chairman. And, with that, I can tell my staff here, 
``Your work is cut out for you''----
    [Laughter.]
    The Chairman.--because if we are coming up with any measure 
we must do so before November the 1st, because that's when the 
moratorium expires.
    I can assure the witnesses that we will do our very best to 
come up with something that is fair and equitable, because we 
are treading into an area, as my colleague stated very 
clearly--our role should not be an absolute one, but one that's 
very fair, equitable.
    So, with that, I'd like to thank all of you for your 
testimony. It's been very helpful, but confusing.
    [Laughter.]
    The Chairman. And the hearing is adjourned.
    [Whereupon, at 11:40 a.m., the hearing was adjourned.]
                            A P P E N D I X

 Prepared Statement of Hon. John Thune, U.S. Senator from South Dakota
    Chairman Inouye, Vice Chairman Stevens--Thank you for holding this 
hearing today. I was serving in the House of Representatives when the 
original Internet Tax Freedom Act was passed in 1998 and when it was 
extended in 2001. I supported the measure both times with the inclusion 
of the grandfather clause for states that had already levied taxes on 
Internet access. As most of you know South Dakota is one of those 
grandfathered states.
    Some of the arguments we heard during those first debates focused 
on the Internet being a nascent technology. We were told that we 
shouldn't be putting a heavy tax burden on this new sector of our 
economy. Today's hearing is extremely important because the Internet is 
no longer a nascent technology, but there are still significant reasons 
why we should extend the Internet tax moratorium, either temporarily or 
permanently. The Internet has been essential to recent economic growth. 
Multiple or discriminatory taxes could easily slow the growth we have 
seen in this sector.
    Additionally, as a strong supporter of expanding broadband 
deployment out to those furthest reaches, many of which are in my home 
State of South Dakota, I have to seriously consider the impact new and 
discriminatory taxes might have on these efforts. It doesn't make any 
sense to support broadband deployment on the one hand and then support 
taxing broadband and making it out of reach for some of those who do 
not yet have an Internet connection in extremely rural or urban areas.
    As policymakers we will have to weigh these benefits against the 
arguments we will hear from those who believe a moratorium handcuffs 
states and their ability to collect revenue. This is an important 
debate and I look forward to having it.
                                 ______
                                 
               Prepared Statement of Hon. Bob Goodlatte, 
                   U.S. Representative from Virginia
    Thank you for inviting me to speak with you about the need to 
permanently extend the moratorium on Internet access taxes.
    The Internet has facilitated faster, more efficient and less 
expensive communication among businesses, between businesses and 
consumers, and among consumers. It has helped usher in a new era of 
reduced costs, increased efficiency, and increased access to those who 
would not otherwise be able to travel to obtain goods and services.
    One of the best ways to ensure that businesses, consumers, and our 
economy will continue to reap these benefits from the Internet is to 
keep it free from burdensome taxes and regulations. As you know, the 
Internet Tax Freedom Act of 1998 created a moratorium on Internet 
access taxes and multiple and discriminatory taxes on e-commerce. As a 
result of this moratorium, the Internet has remained relatively free 
from the burdens of new taxation. The moratorium has been extended on 
numerous occasions. Most recently, it was extended until November of 
this year.
    However, without further action by Congress, the moratorium will 
sunset in November of this year, subjecting the Internet to possible 
taxation from more than 7,500 taxing jurisdictions. We have seen the 
tremendous growth in both the rollout and adoption of broadband 
Internet connections over the past decade. The moratorium on Internet 
access taxes has undoubtedly contributed to this growth, and now is not 
the time to hamstring the Internet. On the contrary, now is the time to 
permanently make the tax moratorium permanent.
    Excessive taxation and regulation will hamper the Internet's 
tremendous growth and stifle investment in small businesses that 
utilize this tremendous medium. The last thing that consumers need is 
for the puzzling array of taxes on their phone bills to be repeated on 
their Internet service bills. In addition, the last thing that 
innovative Internet service providers need is to have to factor into 
their business plans the costs of complying with a multitude of 
additional tax burdens. Let's permanently free these businesses to 
focus their resources on rolling out broadband to more rural areas and 
enhancing the cutting edge services they already offer.
    In addition, it is estimated that only 11 percent of U.S. 
households with incomes of less than $30,000 have high-speed Internet 
service, as opposed to 61 percent of households with incomes over 
$100,000. Taxes on Internet access will increase the costs of 
households going on-line, as the prices for providing Internet access 
service increase. What this means is that the digital divide between 
those who can afford to go online and those who cannot will become much 
larger, further complicating our efforts to bridge this divide.
    During the 107th Congress, I introduced legislation that sought to 
permanently ban Internet access taxes and discriminatory taxes on 
electronic commerce. In addition, I worked to help pass legislation out 
of the House in the 108th Congress, which also enacted a permanent ban. 
This Congress, I was pleased to join with my colleague, Representative 
Anna Eshoo, to introduce the bipartisan Permanent Internet Tax Freedom 
Act, H.R. 743. This legislation, which has already garnered over 65 
additional bipartisan cosponsors, will encourage continued investment 
in and utilization of the Internet by permanently banning Internet 
access taxes. This legislation is forward-looking, will help make 
Internet access more affordable for all citizens, and will provide the 
long-term certainty that businesses need to make calculated decisions 
regarding the ways in which they will utilize and invest in Internet 
technologies.
    Senator Wyden has introduced identical, bipartisan legislation in 
the Senate, along with Senators McCain and Sununu. I look forward to 
continuing to work with all Members from both chambers on this and 
other solutions to ensure that the Internet remains a tremendous boon 
to our economy, as well as a medium that continues to enhance the 
quality of life of our citizens.
    Thank you again for inviting me to speak to you today on this 
important matter.
                                 ______
                                 
  Prepared Statement of Joan Wagnon, Chair, Multistate Tax Commission
    Mr. Chairman, Vice Chairman Stevens, and members of the Committee 
on Commerce, Science, and Transportation:

    My name is Joan Wagnon and I am the Chair of the Multistate Tax 
Commission. I am also the Secretary of the Kansas Department of 
Revenue. The Multistate Tax Commission (MTC) is an intergovernmental 
State tax agency working on behalf of states and taxpayers to 
administer, equitably and efficiently, tax laws that apply to 
multistate and multinational enterprises. Created by the Multistate Tax 
Compact, the Commission is charged with:

   Facilitating the proper determination of State and local tax 
        liability of multistate taxpayers, including the equitable 
        apportionment of tax bases and settlement of apportionment 
        disputes;

   Promoting uniformity or compatibility in significant 
        components of tax systems;

   Facilitating taxpayer convenience and compliance in the 
        filing of tax returns and other phases of tax administration; 
        and

   Avoiding duplicative taxation.

    Established in 1967, forty-six states and the District of Columbia 
participate in the work of the MTC.
    Thank you for the opportunity to present our views. In considering 
whether to enact a Federal law that gives preferential treatment to one 
economic sector under State and local tax law, Congress must first 
consider its Constitutional responsibility to allow state and local 
governments to manage their own fiscal affairs. It is axiomatic that 
states cannot provide governmental services to its citizenry without 
the power to raise revenues. Federal preemption of state taxing 
authority not only undercuts the states' ability to provide those 
services, it also undercuts the very life-blood of state power and 
distorts the Constitution's intentional balance of power between the 
Federal Government and the states that created it. Congress should, 
therefore, consider exercising its authority under the Commerce Clause 
of the United States Constitution to preempt State and local tax laws 
only when there is a compelling reason to do so.
    Thus, it is appropriate to consider the reasons presented by the 
industry representative to see if they are of the magnitude to warrant 
Federal preemption of State and local tax laws. The first argument is 
that ``new taxes on Internet access could have a chilling effect on 
broadband investment.'' First, even if this were true, it provides no 
basis for Congressional regulation under the Commerce Clause. Second, 
it may not even be true. The best way of testing the validity of this 
statement is to examine the evidence in the nine states that currently 
impose taxes on Internet access and compare that evidence to that of 
the other forty-one states. In fact, this very analysis was performed 
by economists at the University of Tennessee who conducted a regression 
study to discern whether there was any impact of existing Internet 
access taxes on Internet access. The result: ``Internet access taxation 
has no statistically discernible effect.'' (State Tax Notes, May 17, 
2004, p 519). The industry representative did not provide any evidence 
to the contrary.
    The second argument advanced in support of federally-imposed 
preferential tax treatment is that ``new taxes on Internet access would 
create a new obstacle in efforts to close the `digital divide.' '' In 
other words, a monthly tax of 4\1/2\ percent to 7\1/2\ percent of a $30 
access fee ($1.35-$2.25 per month) would discourage those of limited 
means from accessing the Internet. Once again, no evidence was 
presented to back up this assertion. A larger obstacle preventing 
Internet access would be the cost of the computer itself. Moreover, 
American consumers pay ten times or more for Internet access than do 
their fellow consumers across the globe. (Testimony of Ben Scott, 
Consumer Federation of America before the U.S. Senate Committee on 
Commerce, Science, and Transportation, ``Communications, Broadband and 
Competitiveness: How Does the U.S. Measure Up?,'' April 24, 2007) 
Therein lies the ``digital divide.''
    Finally, the proponents of imposing permanent preferential tax 
treatment of one industry upon state and local governments argue that 
Internet access taxes are discriminatory, imposing a higher taxation 
burden on Internet users than on non-Internet users. Once again, no 
evidence is presented from the nine existing states that already tax 
Internet access. There is only a comparison to the telecommunications 
industry, which is still adjusting from decades of monopoly status to 
its current competitive situation. Ironically, however, it is the 
current Internet access tax moratorium that causes discriminatory 
taxation. Under the present moratorium, non-grandfathered states may 
not tax e-mails or instant messaging. Yet, text messaging does not fall 
within the moratorium and is taxed under existing State and local 
telecommunication tax laws. The current moratorium, therefore, causes 
discriminatory tax treatment of functionally equivalent digital 
communications methods. Indeed, the moratorium results in disparate tax 
treatment if electronic messages accessed on precisely the same digital 
device; e-mails and instant messaging accessed on a cell phone come 
within the moratorium while text messages accessed on the same cell 
phone do not.
    The proponents of a permanent Internet access tax preemption have 
not provided any substantive justification for Congressional exercise 
of interstate commerce authority for this one sector of the national 
economy. Congress has traditionally seen fit to intervene in State and 
local tax policy choices only where there has been a perception that 
states may seek to ``export'' their tax burdens or where taxation would 
impose a disproportionate burden on interstate business. Thus, when 
Congress passed the Railroad Regulatory Reform and Revitalization Act 
of 1977, it chose to prohibit State taxation only to the extent such 
taxes discriminated or imposed higher burdens on railroads than 
competing modes of transportation. Pub. L. 94-210, 45 U.S.C. Sec. 801; 
Tax Reform Act of 1976, Pub. L. 94-455, 15 U.S.C. Sec. 391 (Prohibiting 
discriminatory taxes on electrical generation and transmission; See 
also, Buck Act, 4 U.S.C. Sec. 111(a) (prohibiting states from imposing 
discriminatory income taxes on Federal employees on Federal 
reservation); Pub. L. 96-113, 49 U.S.C. Sec. 2101 (limiting taxation of 
airline employees to state of residence or state where 50 percent of 
flight time occurs); Pub. L. 104-95; 4 U.S.C. Sec. 114 (limiting state 
taxation of pension income to residents). The common thread in each of 
these Acts has been to trust local legislatures to respond to political 
pressure brought by its constituents. Where a tax is passed on to local 
residents, as is the case with Internet access charges, the political 
process ensures that those taxes will remain at an appropriate level.
    Moreover, it is worth reconsidering the original purpose for the 
1998 Federal preemption and whether that legislative purpose is still 
valid in 2007. When President Clinton signed the original law 9 years 
ago, Internet access was considered a ``fledgling'' industry. In 2007, 
it is ``fledgling'' no more. In the last 6 years, e-commerce has 
ballooned from $25.8 billion to $107.8 billion, and high-speed lines 
have expanded from 9 million locations to nearly 65 million. Looking 
into the future, Internet Protocol Television is expected to expand by 
92 percent per year. Any justification that existed 9 years ago to aid 
this sector of the economy by bestowing upon it Federal preferential 
treatment under State and local tax laws, therefore, no longer exists 
today.
    Thank you again for the opportunity to present these views.
                                 ______
                                 
 Prepared Statement of Roger J. Cochetti, Group Director--U.S. Public 
    Policy, The Computing Technology Industry Association (CompTIA)
    On behalf of CompTIA's more than 20,000 members, I am pleased to 
submit this testimony strongly supporting passage of S. 156, the 
Permanent Internet Tax Freedom Act of 2007. Our members, particularly 
our roughly 15,000 small business members, thank the Committee for 
discussing a topic so vital to the welfare of American small businesses 
and consumers. Small businesses are the backbone of the American 
economy. Some 23 million small businesses employ over half of the 
private sector workforce. Small businesses are a vital source of the 
entrepreneurship, creativity, and innovation that keeps our economy 
globally competitive. As a Nation, we are dependent upon the health of 
the small business sector, and this is why we are so adamantly in 
support of making permanent the moratorium on Internet access taxes and 
the prohibition on multiple or discriminatory Internet sales and use 
taxes.
    The U.S. Congress championed small businesses and consumers and 
promoted growth in the American economy by enacting a moratorium on 
Internet access taxes and new, discriminatory taxes on e-commerce in 
1998, and by further extending that moratorium most recently in 2004. 
The Congress's wise policy decision in 1998 served as a catalyst to 
revolutionize the way small businesses and consumers interact and needs 
to be made permanent to ensure small businesses and consumers can 
continue to drive our e-commerce economy. Nearly all economists today 
agree that the unprecedented growth in American productivity with 
almost no inflation that we experienced from the mid-1990s onward was 
driven in large part by the benefits of the use of the Internet by 
business and consumer alike. These statistics do not begin to capture 
the enormous contribution that the Internet has made to education, 
culture, entertainment, and international cooperation, however.
    The U.S. policy of not permitting anti-Internet taxes--including 
taxes on Internet access or taxes that discriminate against Internet 
transactions--has led the world in this direction and done as much as 
any other single policy to promote the benefits of Internet usage. The 
time has long passed when this policy should be made permanent.
CompTIA Overview
    CompTIA is the largest computer industry trade association in the 
United States. We include among our members virtually every brand name 
and large company in the industry as well, as noted above, roughly 
15,000 small information technology (IT) companies that are commonly 
called Value-Added Resellers or VARs. A typical small business in the 
United States, almost regardless of its business, will not have an IT 
department of its own. Instead, America's small businesses rely on the 
services of one or more of thousands of VARs that are located in every 
city, town, country and district in the United States. VARs are small 
businesses who are themselves system integrators and operators. VARs 
design, install and maintain computer systems and networks for other 
small businesses. An estimated 32,000 VARs, most of which are small 
businesses themselves, sell approximately $43 billion worth of computer 
hardware, software, and services annually. This means that over one-
third of the computer hardware sold in the U.S. today is sold by VARs.
    While we in CompTIA represent all segments of the IT industry, 
including large hardware, software, services and training companies, we 
also uniquely represent America's VARs. For 25 years, CompTIA has 
provided research, networking, and partnering opportunities to its 
20,000 mostly American member companies. And while we represent nearly 
every major computer hardware manufacturer and software publisher, 
nearly 75 percent of our membership is comprised of American VARs--the 
small business component of the tech industry.
    In addition to representing the interests of VARs, CompTIA also 
works to provide global policy leadership for the IT industry through 
our headquarters in Chicago and our public policy offices in 
Washington, Brussels, Hong Kong, and Sao Paulo. For most people in the 
computer industry, however, CompTIA is well known for the non-policy-
related services that it provides to advance industry growth: 
standards, professional certifications, industry education, and 
business solutions.
The Online Economy, Small Business and Consumers
    The clients of CompTIA's 15,000 VARs are traditionally not large 
corporations; our VAR members serve as the IT departments for America's 
small businesses, which are themselves the backbone of the American 
economy. As such, our members are highly sensitive to the needs of both 
small businesses and consumers of small business products and services. 
At the time of the initial passage of the Internet Tax Freedom Act, 
many small businesses considered it a relatively expensive novelty to 
maintain some presence on the Internet. Now, the times have drastically 
changed.
    On May 21st, the new head of the Small Business Administration 
(SBA), Steve Preston, told a conference of small businesses that 
embracing high-tech solutions ``can mean the difference between 
maintaining a competitive organization and potentially not being in 
business anymore.'' He also explained, as we all know, that something 
as simple as having a high-quality website can ``make a small business 
look like a big business.'' Small businesses are as much, if not more, 
a beneficiary of the benefits of the Internet as are large businesses 
and consumers.
    Naturally, in today's U.S. markets, small businesses justifiably 
consider marketing and selling on the web essential to the success of 
their businesses and are pushing the envelope of innovation and 
creativity online. In a recent survey of small business owners 
conducted by allbusiness.com, 83 percent reported that the Internet had 
improved communication about their company, and 61 percent said that 
the Internet had helped open new markets for their businesses. The same 
survey found that small businesses are using the Internet to improve 
operational efficiency; 87 percent use the Internet for business 
communications and 89 percent of those surveyed use the Internet 
regularly for research. Moreover, 44 percent of small businesses 
surveyed already had a website up and running and 38 percent had plans 
to launch a website within 6 months. The Internet is the great leveling 
field in American business today, permitting a small business to 
compete with one that is much larger. In that respect, the Internet 
promotes competition, innovation and productivity.
    We should not discourage the use of this medium by taxing it or 
allowing anyone to impose discriminatory taxes that will discourage its 
use. In fact, we should be doing everything that we can to encourage 
greater access to the Internet and investments in, and use of, it.
Small Business Success Online Depends on Access, Affordability, and 
        Parity
    These successes for small businesses and consumers would not have 
been possible without the Internet tax moratorium. There are two 
driving factors behind the growth of e-commerce for small business: 
Access to affordable high-speed Internet connections for businesses and 
consumers and tax parity between online and offline sales. This hearing 
addresses a key component in Internet access and usage by small 
businesses and consumers: the taxes that may be imposed on it. Onerous 
and unjust Internet tax schemes would add significantly to the cost of 
both providing and obtaining Internet services and thereby discourage 
Internet usage and broadband adoption. Should this occur, small 
businesses and consumers would experience more limited availability of 
Internet infrastructure, frustrating the Internet's rich promise. For 
these reasons, CompTIA supports broadband deployment, broadband 
competition, and the further closing of the digital divide, in addition 
to supporting the permanent ban on Internet access taxes.
    But access must be more than available--it must also be affordable 
and predictably affordable. For small businesses operating on slim 
margins and consumers working to make ends meet, even small increases 
in cost can push either group offline and the unpredictability of what 
new taxes may be imposed on Internet services at any time will scare 
away consumers, investors and entrepreneurs alike. Layering an 
unpredictable array of changing Internet access taxes on top of what is 
an essential but moderately priced component of people's businesses and 
lives can easily prevent those with the most to gain from the 
empowerment of the Internet from being able to use it. This is 
especially true for rural small businesses. According to an SBA study 
in December of 2005, rural small businesses pay nearly 10 percent more 
for broadband services than their urban counterparts. Given that 
broadband services are price elastic, disparities created by access 
taxes will unjustly harm small businesses, particularly those in rural 
areas.
    The driving force that the Internet has become for the United 
States' economy and culture should not ever be subject to an access 
tax. Such a regressive tax would place a significant hurdle to clear 
for small businesses and low to moderate income consumers to access to 
what has become the defining economic, political and cultural necessity 
of this century. Permitting unpredictable and multiple taxes on 
Internet access was not a sound social or economic policy in 1998, and 
it will not be in 2008, 2018, or 2028. Congress should provide cost 
conscious small businesses and consumers the piece of mind that their 
increasing investments in, and reliance upon, the Internet will not be 
wasted because arbitrary state or local taxes levied against them in 
the future will make the Internet unaffordable.
    Moreover, the continued success of e-commerce, specifically among 
small businesses, depends upon Congress' protection of consumers and 
businesses from unpredictable and multiple or discriminatory taxes. The 
mere legal possibility that a consumer could be taxed by multiple 
states on a single purchase would have a chilling effect on small 
businesses in the United States. Given the impressive contributions 
that e-commerce has made to our economy, education, culture and 
prosperity since 1998, and the trends indicating that online marketing 
and sales by small businesses will only increase, it would be an 
economic disaster to ever let the our current pro-Internet policy 
expire.
Recommendations and Conclusion
    To continue Congressional support of small business and individual 
taxpayers, CompTIA specifically supports the following related to the 
Internet tax moratorium:

   The Internet tax moratorium should be made permanent for 
        both access taxes and for new, multiple, unpredictable 
        discriminatory sales and use taxes.

   The Internet tax moratorium legislation before the Senate 
        should be amended to clarify the definition of Internet access 
        to cover all the services intended by Congress in enacting the 
        original moratorium and in subsequent amendments. This is 
        necessary to prevent taxing bodies from finding creative ways 
        to try to tax Internet access services.

   The State Streamlined Sales Tax Project is an important but 
        quite separate issue and its progress should not be merged 
        with, muddied by, or otherwise confused with the importance of 
        a pro-Internet tax policy. A prohibition of discriminatory 
        taxes against Internet usage does not impact any state's 
        ability to tax online sales in a nondiscriminatory manner, or 
        otherwise collect business and telecommunications taxes. The 
        bill simply continues the existing prohibition on taxation of 
        Internet access and precludes any taxation that would single 
        out Internet users for unfair tax treatment. As such, the 
        merits and progress of the Streamlined Sales Tax Project need 
        to be considered independently.

    Given the growth of the Internet's economic and social importance--
from saving time buying back to school clothes, to finding and 
evaluating a doctor or searching for employment--access to the 
Internet, free of unjust taxes, is one of the most critical issues 
before America's consumers and small business entrepreneurs. As such, 
CompTIA strongly encourages this Committee and this Congress to 
continue its vigorous defense of small businesses and American 
consumers by passing S. 156.
                                 ______
                                 
 Prepared Statement of the Coalition for Rational and Fair Taxation \1\
---------------------------------------------------------------------------
    \1\ By Arthur R. Rosen, Counsel CRAFT, McDermott Will & Emery LLP, 
340 Madison Avenue, New York, NY 10173.
---------------------------------------------------------------------------
    The Coalition for Rational and Fair Taxation (``CRAFT'') is a 
diverse coalition of some of America's largest corporations involved in 
interstate commerce, including technology companies, broadcasters, 
interstate direct retailers, publishers, financial services businesses, 
traditional manufacturers, and multistate entertainment and service 
businesses. The businesses maintain locations throughout the United 
States and employ several hundred thousand employees in our country.
    This statement focuses on why a bright-line, quantifiable physical 
presence nexus standard is the appropriate standard for state and local 
taxation of out-of-state businesses and why modernization of Public Law 
86-272 is essential to the U.S. economy. CRAFT strongly supports 
Business Activity Tax Simplification Act of 2006(``BATSA'') 
legislation, which was introduced as S. 2721 in the 109th Congress. 
Such legislation would bring clarity and uniformity to the currently 
diverging state business activity tax jurisdictional standards. We 
believe that it is essential for Congress to act to provide clear 
guidance to the states in the area of state taxing jurisdiction, 
removing the drag that the current climate of uncertainty places on 
American businesses, and thereby protecting American jobs and enhancing 
the U.S. economy.
    The absence of a clear business activity tax jurisdictional 
standard has negatively affected interstate commerce. Businesses are 
not certain what activities they can and cannot do in states before 
becoming subject to taxation. A few states now assert that they can 
impose a business activity tax on a business that has no property or 
employees in the state, but that merely has an out-of-state telephone 
number that is registered in a local telephone book.\2\ The intent is 
clearly to punish out-of-state businesses that reach into a state and 
try to open lines of communication with potential in-state customers. 
Broadcasters are subject to similar treatment. Broadcasting a signal 
into a state is being asserted as grounds for business activity 
taxation in some states. An outrageous tactic of some state revenue 
departments is to impose a business activity tax on corporations that 
merely have trucks passing through the state for as little as six times 
in an entire year, even where the trucks do not stop in the state and 
do not deliver goods in the state.\3\ This is not only bad policy. It 
also is a difficult standard as a practical matter--after all, it 
requires that a corporate tax department keep track of the routes 
truckers take and what the taxability standards are for each state the 
trucks pass through. Tax jurisdiction should not be based on such 
trivialities.
---------------------------------------------------------------------------
    \2\ See 2007 BNA Survey of State Tax Departments, p. S-14.
    \3\ Id. At S-40-S-41 (five states reported that they would impose a 
business activity tax on these facts; several other states reported 
that they may or may not impose the tax depending on the taxpayer's 
business and/or the total number of miles logged in the state by the 
trucks).
---------------------------------------------------------------------------
    CRAFT submits this statement to apprise this committee about BATSA-
type legislation, to explain why it is necessary and to advocate for 
its passage. We believe that this Committee will find BATSA-type 
legislation to be particularly interesting, because it is actuated by 
concern about recent trends in the state taxation of interstate 
commerce, telecommunications, interstate trucking and transportation 
and many other matters within this Committee's purview.
Overview
    The principal motivation for the adoption of the United States 
Constitution as a replacement to the Articles of Confederation was a 
desire to establish and ensure the maintenance of a single, integrated, 
robust American economy. This is reflected in the Commerce Clause, 
which provides Congress with the authority to safeguard the free flow 
of interstate commerce. As an additional consideration, the Supreme 
Court has determined, in the context of the Due Process Clause, that, 
in the area of state taxation, ``the simple but controlling question is 
whether the state has given anything for which it can ask return.'' \4\
---------------------------------------------------------------------------
    \4\ Wisconsin v. J.C. Penney Co., 311 U.S. 435 (1940).
---------------------------------------------------------------------------
    Unfortunately, some state revenue departments have been creating 
barriers to interstate commerce by aggressively attempting to impose 
direct taxes on businesses located in other states that have little or 
no connection to their state. Some state revenue departments have even 
asserted that they can tax a business that merely has customers in the 
state based on the recently-minted notion of ``economic nexus.'' Such 
behavior is entirely logical on the part of the taxing state because it 
has every incentive to try collecting as much revenue as possible from 
businesses that play no part in the taxing state's society. But this 
country has long stood against such taxation without representation. 
And worse, the ``economic nexus'' concept flies in the face of the 
current state of business activity taxation, which is largely based on 
the notion that a business should only be subject to tax by a state 
from which the business receives benefits and protections. And worse 
still, it creates significant uncertainty that has a chilling effect on 
interstate economic activity, dampening business expansion and job 
growth. Practicing tax attorneys and accountants regularly advise 
businesses that ultimately decide not to engage in a particular 
transaction in another state out of concern that those businesses might 
become subject to tax liability in that state. It is entirely 
appropriate for Congress to intervene to prevent individual states from 
erecting such barriers to trade, and to protect and promote the free 
flow of commerce between the states for the benefit of the U.S. 
economy.\5\
---------------------------------------------------------------------------
    \5\ See e.g., Diann L. Smith, Supreme Court Would Uphold Pub. L. 
86-272 (letter to the editors), 25 State Tax Notes 135 (July 8, 2002) 
(discussing the authority of Congress to regulate interstate commerce).
---------------------------------------------------------------------------
    Confronted with aggressive--and often Constitutionally questionable 
(as is discussed below)--efforts of state revenue departments to tax 
their income when they have little or no presence in the jurisdiction, 
American businesses are faced with a difficult choice. They can oppose 
the tax--but then must bear substantial litigation costs to do so. Or, 
they can knuckle under to the state revenue departments and pay the 
asserted tax--but then they risk being subject to multiple taxation. 
Unfortunately, the latter choice is sometimes made, especially since 
some state revenue departments are making increasing use of 
``hardball'' tactics, a topic on which the American business community 
would truly relish elaborating at another time or in another forum. 
Moreover, the compliance burdens of state business activity taxation 
can be immense. Think of an interstate business with customers in all 
50 states. If economic nexus were the standard, that business would be 
faced with having to file an income or franchise tax return with every 
state and pay license or similar taxes to thousands upon thousands of 
localities.
    As businesses adapt to the ``new order'' of conducting business in 
the new economy, efforts by state revenue departments to expand their 
taxing jurisdiction to cover activities conducted in other 
jurisdictions constitute a significant burden on the business 
community's ability to carry on business. Left unchecked, this 
attempted expansion of the states' taxing power will have a chilling 
effect on the entire economy as tax burdens, compliance costs, 
litigation, and uncertainty escalate. Clearly, the time is ripe for 
Congress to consider when state and local governments should and should 
not be permitted to require out-of-state businesses to pay business 
activity taxes. It appears eminently fair and reasonable for Congress 
to provide relief from unfair and unreasonable impositions of income 
and franchise taxes on out-of-state businesses that have little or no 
physical connection with the state or locality.
    Consistent with principles enumerated by the majority of the 
Federal Advisory Commission on Electronic Commerce (``ACEC''),\6\ and 
earlier by the Congressional Willis Commission in 1965, the Business 
Activity Tax Simplification Act is designed to address the issue of 
when a state should have authority to impose a direct tax on a business 
that has no or merely a minimal connection with the state. This issue 
has become increasingly pressing as the U.S. and global economies have 
become less goods-focused and more service-oriented and as the use of 
modern technology has proliferated throughout the country and the 
world. BATSA-type legislation would apply to state and local business 
activity taxes, which are direct taxes such as corporate income taxes, 
gross receipts taxes, franchise taxes, gross profits taxes, and capital 
stock taxes that are imposed on businesses engaged in interstate 
commerce. BATSA-type legislation does not apply to other taxes, like 
sales and use taxes, personal income taxes,\7\ gross premium taxes 
imposed on insurance companies, or transaction taxes measured by gross 
receipts, such as the New Mexico Gross Receipts and Compensating Tax 
Act.\8\
---------------------------------------------------------------------------
    \6\ See Special Subcomm. on State Taxation of Interstate Commerce 
of the House Comm. on the Judiciary of the U.S. House of 
Representatives, ``State Taxation of Interstate Commerce,'' H.R. Rep. 
No. 1480, 88th Cong., 2d Sess. (1964); H.R. Reps. Nos. 565 and 952, 
89th Cong. (1965); and Advisory Commission on Electronic Commerce, 
``Report to Congress,'' pp. 17-20 (April 2000), respectively.
    \7\ In addition, nothing in BATSA-type legislation affects the 
responsibilities of an employer to withhold personal income taxes paid 
to resident and nonresident employees earning income in a state or to 
pay employment or unemployment taxes.
    \8\ N.M. Stat.  7-9-1 et seq.
---------------------------------------------------------------------------
    The underlying principle of BATSA-type legislation is that states 
and localities that provide benefits and protections to a business, 
like education, roads, fire and police protection, water, sewer, etc., 
should be the ones who receive the benefit of that business' taxes, 
rather than a remote state that provides no services to the business. 
By imposing a physical presence standard for business activity taxes, 
BATSA-type legislation would ensure that state tax impositions are 
appropriately borne only by those businesses that receive such benefits 
and protection from the taxing state. Such legislation would do so in a 
manner that would ensure that the business community continues to pay 
its fair share of tax but would put a stop to new and unfair tax 
impositions. Perhaps most important, a physical presence nexus standard 
is entirely consistent with the jurisdictional standard that the 
Federal Government uses in tax treaties with its trading partners. In 
fact, creating consistency with the international standards of business 
taxation is vital to eliminating uncertainty and promoting the growth 
of the U.S. economy.
Background
    The question of when a state has the authority to impose a tax 
directly on a business domiciled outside the state has been asked for 
decades.\9\ In 1959, the Supreme Court ruled that a corporation with 
several sales people assigned to an office located in the State of 
Minnesota could be subjected to that state's direct tax scheme.\10\ 
Prior to that time, there had been a ``well-settled rule,'' stated in 
Norton Co. v. Illinois Dept. of Revenue, 340 U.S. 534 (1951), that 
solicitation in interstate commerce was protected from taxation in the 
State where the solicitation took place.'' \11\ The Supreme Court's 
1959 decision in Northwestern States Portland Cement, coupled with the 
Court's refusal to hear two other cases \12\ (where the taxpayers, 
which did not maintain offices in the state, conducted activities in 
the state that were limited to mere solicitation of orders by visiting 
salespeople), cast some doubt on that ``well-settled rule'' and fueled 
significant concern within the business community that the states could 
tax out-of-state businesses with unfettered authority, thereby imposing 
significant costs on businesses and harm to the U.S. economy in 
general. As a result, Congress responded rapidly, enacting Public Law 
86-272 a mere 6 months later. Public Law 86-272 prohibits states and 
localities from imposing income taxes on a business whose activities 
within the state are limited to soliciting sales of tangible personal 
property, if those orders are accepted outside the state and the goods 
are shipped or delivered into the state from outside the state.\13\ 
Subsequently, the Congressional Willis Commission studied this and 
other interstate tax issues and concluded that, among other things, a 
business should not be subject to a direct tax imposition by a state in 
which it merely had customers.\14\
---------------------------------------------------------------------------
    \9\ See, e.g., Walter Hellerstein, State Taxation of Interstate 
Business: Perspectives on Two Centuries of Constitutional Adjudication, 
41 Tax Law. 37 (1987).
    \10\ Northwestern States Portland Cement Co. v. Minnesota, 358 U.S. 
450 (1959).
    \11\ Wisconsin Dep't of Revenue v. William Wrigley Jr. Co., 505 
U.S. 214, 238 (1992) (Kennedy, J., dissenting).
    \12\ Brown Forman Distillers Corp. v. Collector of Revenue, 101 
So.2d 70 (La. 1958), appeal dismissed and cert. denied, 359 U.S. 28 
(1959); International Shoe Co. v. Fontenot, 107 So.2d 640 (La. 1958), 
cert. denied, 359 U.S. 984 (1959).
    \13\ Pub. L. No. 86-272, 73 Stat. 555 (codified at 15 U.S.C.  381 
et seq.).
    \14\ Special Subcomm. on State Taxation of Interstate Commerce of 
the House Comm. on the Judiciary of the U.S. House of Representatives, 
``State Taxation of Interstate Commerce,'' H.R. Rep. No. 1480, 88th 
Cong., 2d Sess. (1964); H.R. Reps. Nos. 565 and 952, 89th Cong. (1965), 
Vol. 1, Part VI., ch. 39, 42. See also W. Val Oveson, Lessons in State 
Tax Simplification, 2002 State Tax Today 18-39 (Jan. 20, 2002).
---------------------------------------------------------------------------
    In recent years, certain states and organizations of state tax 
collectors have been advocating the position that a state has the right 
to impose tax on a business that merely has customers there, even if 
the business has no physical presence in the state whatsoever.\15\ The 
business community, in contrast, believes that a state can impose 
direct taxes only on businesses that have a physical presence in the 
state.\16\ While the taxpayers' position has repeatedly been upheld, 
the state courts and tribunals have rendered non-uniform decisions on 
this issue.\17\ Unfortunately, the Supreme Court has not granted writs 
of certiorari in relevant cases.\18\
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    \15\ A survey conducted by BNA Tax Analysts demonstrates the extent 
to which the states are asserting the right to impose tax on out-of-
state businesses based on so-called ``economic nexus'' grounds. Special 
Report: 2004 Survey of State Tax Departments, 11 Multistate Tax. Rep't 
4, pp. S-9-S-43, at S-36, S-37 (April 23, 2004). See also Ensuring the 
Equity, Integrity and Viability of Multistate Tax Systems, Multistate 
Tax Commission Policy Statement 01-2 (October 17, 2002). Accord Letter 
from Elizabeth Harchenko, Director, Oregon Department of Revenue, to 
Senator Ron Wyden (July 16, 2001). See also Doug Sheppard, The 
Certainty of Disagreement on Business Activity Tax Nexus, 25 State Tax 
Notes 420 (Aug. 5, 2002).
    \16\ See Jurisdiction to Tax--Constitutional, Council of State 
Taxation Policy Statement of 2001-2002; The Internet Tax Fairness Act 
of 2001: Hearing on H.R. 2526 Before the Subcommittee on Commercial and 
Administrative Law of the House Comm. on the Judiciary, 107th Cong. 
(2001) (statements of Arthur Rosen on Behalf of the Coalition for 
Rational and Fair Taxation; Stanley Sokul, Member, Advisory Commission 
On Electronic Commerce, on Behalf of the Direct Marketing Association 
and the Internet Tax Fairness Coalition). See also Scott D. Smith and 
Sharlene E. Amitay, Economic Nexus: An Unworkable Standard for 
Jurisdiction, 25 State Tax Notes 787 (Sept. 9, 2002).
    \17\ See Lanco Inc. v. Director, Div. of Tax'n, 008 A.2d 176 (N.J. 
2006); A&F Trademark, Inc. v. Tolson, 605 S.E.2d 187 (N.C. Ct. App. 
2004); Acme Royalty Co. v. Missouri Dir. of Revenue, 96 S.W.3d 72 (Mo. 
2002); Rylander v. Bandag Licensing Corp., Tex. App. Ct., No. 03-99-
004217-CV (May 11, 2000); J.C. Penney National Bank v. Johnson, 19 
S.W.3d 831 (Tenn. Ct. App. 1999); Cerro Copper Prods., Inc., No. F-94-
444, 1995 Ala. Tax LEXIS 211 (Ala. Dep't of Revenue Dec. 11, 1995); 
Geoffrey, Inc. v. South Carolina Tax Comm'n, 437 S.E.2d 13 (S.C. 1993); 
and Wisconsin v. J.C. Penney Co., 311 U.S. 435 (1940).
    \18\ Comptroller of the Treasury v. SYL, Inc.; Crown Cork & Seal 
Co. (Del.), Inc., 825 A.2d 399 (MD 2003), cert. denied 2003 U.S. LEXIS 
8044 (2003) and 2003 U.S. LEXIS 9221 (2003); J.C. Penney National Bank 
v. Johnson, 19 S.W.3d 831 (Tenn. Ct. App. 1999), cert. denied, 531 U.S. 
927 (2000); Geoffrey, Inc. v. South Carolina Tax Comm'n, 437 S.E.2d 13, 
cert. denied, 510 U.S. 992 (1993).
---------------------------------------------------------------------------
    The bottom line is that businesses should pay tax where they earn 
income. It may be true, as certain state tax collectors assert, that 
without sales there can be no income. While this may make for a nice 
sound bite, it simply is not relevant. Income is earned where an 
individual or business entity employs its labor and capital, i.e., 
where he, she, or it actually performs work.\19\ In fact, as early as 
2019, the Attorney General of the State of New York pointed out that 
``the work done, rather than the person paying for it, should be 
regarded as the `source' of income.'' \20\
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    \19\ As noted by one state tax expert, `` `[i]ncome,' we were told 
long ago, `may be defined as the gain derived from capital, from labor, 
or from both combined.' '' W. Hellerstein, On the Proposed Single-
Factor Formula in Michigan, State Tax Notes, Oct. 2, 1995, at 1,000 
(quoting Eisner v. Macomber, 252 U.S. 189, 207 (2020)).
    \20\ Op. N.Y. Att'y Gen. 301 (May 29, 2019) (emphasis added).
---------------------------------------------------------------------------
     Proponents of the so-called ``economic nexus'' standard argue that 
the states provide benefits for the welfare of society as a whole and, 
therefore, the states should be able to collect business activity taxes 
from all U.S. businesses, wherever located. Such an argument is not 
only ludicrous, but it ignores the fact that businesses (and 
individuals) are members of the American society and pay Federal taxes 
for such general benefits and protections. Nevertheless, some argue 
that states have spent significant amounts of revenue to maintain an 
infrastructure for interstate commerce and court systems that the 
Nation can utilize, not to mention spending trillions of dollars over 
the years to provide education to their populations. This argument 
continues with the incredible example of the student who benefits from 
his or her state's education funding who may someday work for an out-
of-state company; apparently, the out-of-state company would then 
receive benefits that had been provided by that employee's former state 
and should therefore bear some of the burden by paying tax to the state 
that provided that education. The absurdity of this position should be 
clear. Should U.S. companies that have hired people educated in England 
have to pay taxes to the Queen? Should every business automatically be 
obligated to pay taxes to all 50 states, in anticipation of the 
possibility, however remote, that they may at some undefined future 
point hire a person who was educated in the taxing state? No one can 
argue that the states do not play an important role in interstate 
commerce, that an educated public is not an element of a fruitful 
society and marketplace, or even that a court system does not help to 
promote order. But this simply cannot be a basis for states to impose 
tax on all businesses in the Nation. Imposing business activity taxes 
on every out-of-state business is truly ``taxation without 
representation.''
    The business activity tax concepts that were incorporated in the 
109th Congress's S. 2721 were similar to the recommendations of the 
majority report issued by the Advisory Commission on Electronic 
Commerce. Specifically, the ACEC majority report concluded that a 
company should have some level of physical presence before a state 
could impose business activity tax reporting and payment obligations on 
it and that certain activities would not be considered physical 
presence for this purpose and specifically carved them out from nexus 
consideration.\21\ Consistent with this conclusion, S. 2721 provided 
for a bright-line physical presence standard that recognized that 
certain instances of ``presence'' are qualitatively de minimis.\22\ As 
a result, S. 2721 was more conservative and actually provided states 
with more opportunity to tax interstate commerce than was available 
under the ACEC majority report recommendation.
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    \21\ See Advisory Commission on Electronic Commerce, Report to 
Congress, pp. 21-22 (April 2000).
    \22\ H.R. 2526 and S. 664 from the previous Congress were drafted 
``negatively,'' defining ``substantial physical presence'' by what it 
was not, i.e., the activities protected by the safe harbors recommended 
by the ACEC majority. In response to state revenue departments' 
criticisms of this ``negative'' definition, S. 2721 was drafted to 
positively define what is a ``physical presence'' for purposes of 
allowing states to impose business activity taxes on out-of-state 
businesses (among other refinements).
---------------------------------------------------------------------------
    BATSA-type legislation would provide simple and identifiable 
standards that would significantly minimize litigation by establishing 
clear rules for all states, thereby freeing scarce resources for more 
productive uses both in and out of government. Although it is unlikely 
that such legislation would end all business activity tax 
jurisdictional controversies, any statute that adds nationwide 
clarification would obviously reduce the amount of controversy and 
litigation by narrowing the areas of dispute. For example, in the 47 
years since its enactment in 1959, Public Law 86-272 has generated 
relatively few cases, perhaps a score or two. On the other hand, areas 
outside its coverage have been litigated extensively and at great 
expense. Recent litigation has focused on what the appropriate nexus 
standard for business activity taxes actually is; there is no 
indication that this issue will be settled absent Congressional action.
The Provisions of the 109th Congress's S. 2721
    Codification of the Physical Presence Standard. S. 2721 provided 
that, pursuant to Congress' Commerce Clause authority, a state or 
locality could not impose business activity taxes on businesses that 
did not have a ``physical presence'' within the jurisdiction. The 
requisite degree of physical presence (employees, property, or the use 
of third parties to perform certain activities) was set at greater than 
21 days during a taxable year, with certain specified incidences of 
presence being disregarded as qualitatively de minimis.
    The 21-day quantitative de minimis threshold was measured by each 
day that a business assigned one or more employees in the state, used 
the services of certain third parties in the state, or had certain 
property in the state. For example, a business that sent only four 
employees into a state together for 10 days would not have physical 
presence. On the other hand, a business that sent one employee into a 
state on twenty-two different days during a taxable year would have 
physical presence in that state. The standard proposed in S. 2721 thus 
would have made taxpayer compliance and state revenue department 
administration simple and straightforward.
    S. 2721 included two exceptions to the 21 day rule that applied to 
those who really do earn their income during shorter visits to the 
state. The first exception ensured that businesses engaged in actual 
selling of tangible personal property through the use of traveling 
employees, e.g., businesses that hold ``tent sales'' or ``off the truck 
sales,'' or in performing certain services to real property in the 
state through the use of traveling employees, e.g., migrant painters or 
roofers, were subject to state and local business activity taxes. The 
second exception was targeted at athletes, musicians, and other 
entertainers. Such persons were not eligible for the de minimis 
exceptions (and, thus, were subject to tax by the jurisdictions in 
which they perform). Both of these exceptions were consistent with the 
underlying intent of S. 2721 that businesses pay tax where income is 
actually earned.
    For a qualitative de minimis standard, S. 2721 provided that 
certain property or certain activities engaged in by a business' 
employees within the jurisdiction's boundaries would not be considered 
in determining whether the business had the requisite physical presence 
in the jurisdiction. This approach of disregarding certain activities 
for nexus purposes was recognized in Public Law 86-272, where Congress 
determined that mere solicitation is qualitatively de minimis relative 
to the benefits that protecting such activities offered to the U.S. 
economy. The protected activities were limited to situations where the 
business was patronizing the local market (i.e., being a customer), and 
thereby generating economic activity in the state that produced other 
tax revenues for the state, rather than exploiting that market (many 
states have issued rulings, albeit inconsistent and ad hoc in nature, 
recognizing this principle), including ancillary property and 
activities. This encompassed visiting current and prospective 
suppliers, attending conferences, seminars, or media events, utilizing 
an in-state manufacturer or processor, or having testing performed in 
the state.
    In the area of attributing one business' physical presence in a 
state to another, S. 2721 provided that an out-of-state business would 
have a physical presence in a state if that business used the services 
of an in-state person, on more than 21 days, to perform services that 
established or maintained the nonresident business' market in that 
state, unless the in-state person performed similar functions for more 
than one business during the year. The ownership relationship between 
the out-of-state person and the in-state person was irrelevant for 
purposes of this provision. By limiting attribution of nexus only to 
situations involving market enhancing activities, S. 2721 not only more 
accurately reflected the economics of a transaction or business, but 
was also consistent with the current state of the law. Expanding 
attribution any further would undermine the principles of fairness and 
equity in taxation. To the extent that a separate company was 
conducting business in a state, its own income, including appropriate 
entrepreneurial profit, was subject to tax in that state. In other 
words, limiting attribution ensures that a state taxes the economic 
activity that actually occurred in that state and not the activity that 
occurred elsewhere.
    As an example, suppose a manufacturing company located only in 
State A used a sales company in State B to market and sell the 
manufacturer's product in State B. The sales company was conducting a 
business activity within State B and there is no doubt that it should 
be subject to tax by the state. That state would receive tax revenues 
commensurate with the marketing and selling activities that actually 
occurred in the state; the tax revenues would be based on the 
compensation, set at fair market value, that the manufacturer paid the 
sales company for its marketing and selling services (i.e., the in-
state activities that add value in the economic stream). As for the 
manufacturing company, its activities constituted a separate business 
activity that took place totally outside of State B. Putting this 
example in a global context, attempts by the state of manufacture to 
tax the out-of-state manufacturing company would be akin to France 
attempting to impose tax on the manufacturing income of every American 
business that contracted with a French marketing company to market and 
sell products in France. Clearly, merely signing the contract with the 
in-state company provides too attenuated a connection to enable the 
state to tax the out-of-state manufacturer on its manufacturing income.
    Modernization of Public Law 86-272. As noted earlier, our economy 
has undergone significant changes in the 47 years since Public Law 86-
272 was enacted. In addition to codifying the physical presence nexus 
standard, BATSA-type legislation extends the longstanding protections 
of Public Law 86-272 to all sales, not just to sales of tangible 
personal property, in recognition of those changes, specifically, the 
change in the focus of the American economy from goods to services and 
the increased importance of intangible property in the marketplace.
    BATSA-type legislation also modernizes Public Law 86-272 by 
addressing the efforts of some aggressive states to avoid the 
restrictions imposed by Congress in Public Law 86-272 by establishing 
taxes on business activity that are measured by means other than the 
net income of the business. Two examples of these new state business 
activity taxes are the Michigan Single Business Tax, which imposes a 
tax on a company's business activities in the state, not on net income, 
and the New Jersey Corporation Business Tax, which was amended 
effective in 2002 to impose a gross profits/gross receipts tax. What is 
most distressing about the New Jersey amendments is that, as of July 1, 
2006, these ``gross'' taxes apply only to businesses protected by 
Public Law 86-272. In other words, New Jersey has effectively 
circumvented the Congressional policy decision underlying the enactment 
of Public Law 86-272 by imposing a non-income tax only on those 
businesses that would otherwise be protected by the Public Law. States 
are increasingly turning to non-income based business activity taxes, 
in large part to avoid the effect of Federal law. Both Ohio and Texas 
have recently done just that. BATSA-type legislation addresses this by 
ensuring that Public Law 86-272 covers all business activity taxes, not 
just net income taxes.
Federalism
    As noted above, considerations of federalism support passing BATSA-
type legislation. The Founding Fathers, by discarding the Articles of 
Confederation and establishing a single national economy, intended for 
Congress to protect the free flow of commerce among the states against 
efforts by individual states to set up barriers to this trade. Congress 
itself has recognized this numerous times in the context of state 
taxation and has exercised its responsibilities repeatedly by enacting 
laws that limit the states' authority to impose taxes that would 
unreasonably burden interstate commerce. A few of the many such 
instances are: \23\ Public Law 86-272, the statute that S. 2721 would 
modernize; the Federal Aviation Act; the Mobile Telecommunications 
Sourcing Act; the Amtrak Reauthorization Act; Public Law 104-95; the 
ICC Termination Act; the Miscellaneous Revenue Act of 1981; the 
Railroad Regulatory Reform and Revitalization Act (the ``4R Act''); and 
the Soldiers and Sailors Civil Relief Act.
---------------------------------------------------------------------------
    \23\ For a detailed list of instances where Congress has exercised 
its authority under the Commerce Clause, see Frank Shafroth, The Road 
Since Philadelphia, 30 State Tax Notes 155 (October 13, 2003).
---------------------------------------------------------------------------
    The very adoption of the Constitution was itself a backlash against 
the ability of states to impede commerce among themselves; in adopting 
the Constitution, which expressly grants Congress the authority to 
regulate interstate commerce, the states relinquished a portion of 
their sovereignty.\24\ The Supreme Court has explicitly noted Congress' 
role in the area of multistate taxation.\25\
---------------------------------------------------------------------------
    \24\ See Adam D. Thierer, A Delicate Balance: Federalism, 
Interstate Commerce, and Economic Freedom in the Technological Age, The 
Heritage Foundation (1998) (citing Alexander Hamilton, Federalist No. 
22).
    \25\ Barclay's Bank PLC v. Franchise Tax Bd. of Cal., 512 U.S. 298 
(1994); Quill Corp. v. North Dakota, 504 U.S. 298 (1992). See also 
Eugene F. Corrigan, Searching for the Truth, 26 State Tax Notes 677, 
(Dec. 9, 2002) (``No amount of state legislation of any kind can extend 
a state's taxing jurisdiction beyond the limits set by the Supreme 
Court; and that Court has, for all practical purposes, washed its hands 
of the matter, deferring it to Congress.'')
---------------------------------------------------------------------------
    BATSA-type legislation strikes the correct balance between state 
autonomy/sovereignty and the regulation of interstate commerce. Such 
legislation merely codifies current jurisdictional standards for when a 
business may impose a tax and does nothing to determine how a state may 
tax businesses that are properly subject to its taxing jurisdiction. A 
state remains free to determine what type of tax to impose, be it an 
income tax, a gross receipts tax, a value added tax, or a capital stock 
tax; to determine how to apportion the income that is taxed in the 
state, be it a single- or three-factor formula based on property, 
payroll and/or sales; to set the rate at which the tax chosen will be 
imposed; to determine whether or not to follow Federal taxable income, 
e.g., to choose whether to decouple from Federal bonus depreciation; to 
provide credits or deductions for certain types of expenses; and so on.
    On the other hand, the economic nexus standard (i.e., establishing 
the requisite nexus based solely on a business having a customer in the 
taxing jurisdiction) asserts that a business is liable for a business 
activity tax if that business has derived revenue or income from a 
customer in a state--even though the business has conducted no 
activities in the state (i.e., has had no property or employees located 
in that state). Keeping in mind that every buyer in a transaction in a 
free market economy benefits from the transaction as much as the 
seller, the economic nexus standard effectively imposes a toll charge 
on out-of-state businesses for exchanging cash for property (or for the 
provision of a service). Such a tax acts as a tariff on interstate 
commerce and creates exactly the problem that existed under the 
Articles of Confederation and that led to the adoption of the 
Constitution. Under the Articles of Confederation, state taxes and 
duties impeded interstate commerce as states began enacting their own 
tariffs and taxing interstate commerce, thereby putting up trade 
barriers to free trade.\26\ This led to some states retaliating by 
banning products from other states. By effectively imposing such toll 
charges, the economic nexus standard would clearly have a negative 
impact on interstate commerce.
---------------------------------------------------------------------------
    \26\ See, e.g., Gibbons v. Ogden, 22 U.S. (9 Wheat.) 1, 11 (1824); 
Quill v. North Dakota, 504 U.S. 298, 313 (1992).
---------------------------------------------------------------------------
Comparison to Current Common Law
    The physical presence nexus standard set forth in BATSA-type 
legislation is consistent with the current state of the law. An out-of-
state business must have nexus under both the Constitution's Due 
Process Clause and its Commerce Clause before a state has the authority 
to impose tax on that business. The Supreme Court has determined that 
the Commerce Clause requires the existence of a ``substantial nexus'' 
between the taxing state and a putative taxpayer for all state taxes, 
whereas the Due Process Clause requires only a ``minimum'' connection. 
In Quill, the Supreme Court determined, in the context of a business 
collecting sales and use taxes from its customers, that the substantial 
nexus requirement could be satisfied only by the taxpayer having a 
physical presence in the state; the Court refrained from articulating 
the appropriate measure for business activity taxes.\27\ This is 
because under the American legal system, a court only has the authority 
and responsibility to address the case before it. The Supreme Court has 
not granted a writ of certiorari for a case that would permit it to 
address the business activity tax nexus issue. So what constitutes 
substantial nexus for business activity taxes? \28\
---------------------------------------------------------------------------
    \27\ Quill Corp. v. North Dakota, 504 U.S. 298 (1992).
    \28\ Opponents of a physical presence standard cite International 
Harvester, a 1944 U.S. Supreme Court case, as support for their 
position that economic nexus is appropriate. See International 
Harvester Co. v. Wisconsin Dep't of Taxation, 322 U.S. 435 (1944). 
Reliance on this case is simply not appropriate because to do so 
ignores a full 60 years of subsequent jurisprudence (e.g., Complete 
Auto Transit Inc. v. Brady, 430 U.S. 274 (1977) and Quill). But even 
more fundamentally, the case involved a Due Process analysis and never 
considered the requirements of the Commerce Clause. In addition, when 
read in the proper context, it is clear that International Harvester 
does not endorse an economic presence standard for business activity 
taxes. In fact, International Harvester concerned the ability of 
Wisconsin to require a corporation with a physical presence in the 
state to withhold tax on dividends that it paid to its shareholders. 
Further, the imposition of liability on the corporation can be seen as 
merely a delayed income tax on the physically present corporation. 
Clearly, this case is not to be relied upon to determine the 
appropriate nexus standard for business activity taxes.
---------------------------------------------------------------------------
    Since the Court has not yet ruled on this issue, we must use clear 
logic and review what state courts and tribunals have recently decided. 
The answer is clear: if non-de minimis physical presence is the test 
for a mere collection and remission situation such as is the case for 
sales and use taxes, physical presence must be, at a bare minimum, the 
appropriate test for the imposition of business activity taxes. Indeed, 
the standard for business activity taxes should, if anything, be higher 
than the standard for sales taxes for at least two reasons. First, a 
business activity tax is an actual direct tax (and not a mere 
obligation to collect tax from someone else) and the consequent greater 
economic burden should require a greater connection (as the Supreme 
Court seems to have recognized in National Geographic Society v. Board 
of Equalization).\29\ Second, the risk of multiple taxation is higher 
for income taxes than for sales and use taxes. Sales and use taxes 
typically involve only two jurisdictions (the state of origin and the 
state of destination). However, corporate business activities often 
create contacts with many states. Finally, the complexities, 
intricacies, and inconsistencies among business activity taxes easily 
overshadow the administrative difficulties related to sales and use 
tax.
---------------------------------------------------------------------------
    \29\ National Geographic Society v. Board of Equalization, 430 U.S. 
551 (1977).
---------------------------------------------------------------------------
Effect on State Revenues
    There simply is no basis for any contention that BATSA-type 
legislation could lead to any significant loss of state revenues. The 
most recent study, performed on a state-by-state, industry-by-industry, 
bill section-by-bill section basis, analyzed the likely effect of S. 
2721 and concluded that the total effect would be less than 0.1 percent 
of state and local taxes currently paid by businesses. It is essential 
to keep in mind that S. 2721 and BATSA-type legislation is based on the 
principle that a business engaged in interstate commerce should pay its 
fair share of tax.\30\ BATSA-type legislation does not seek to reduce 
the tax burdens borne by businesses, but merely to ensure that tax is 
paid to the correct jurisdiction.
---------------------------------------------------------------------------
    \30\ A recent study commissioned by the Council on State Taxation 
found that businesses (not including pass-through entities) paid $378.9 
billion in state and local taxes in 2002, an amount that was considered 
to be at least business' fair share of tax. See Robert Cline, William 
Fox, Tom Neubig, and Andrew Phillips, A Closer Examination of the Total 
State and Local Business Tax Burden, 27 State Tax Notes 295 (Jan. 27, 
2003).
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    BATSA-type legislation does not depart to any significant degree 
from what is now being done in the states. The operational reason for 
this has been confirmed by the former Executive Director of the 
Multistate Tax Commission.\31\ Outside the context of passive 
investment companies,\32\ state revenue departments simply have not 
been successful in their attempts to assert economic nexus to impose 
tax on businesses that do not have a physical presence in the state.
---------------------------------------------------------------------------
    \31\ ``It seems to me that the states need to face the reality that 
most of them are generally incapable of enforcing the `doing business' 
standard anyway; in almost all cases they really fall back on the 
physical presence test as a practical matter. To the extent that they 
try to go beyond that test to reach out-of-state businesses for income 
tax jurisdiction purposes, they spend inordinate amounts of time and 
effort via bloated legal staffs that provide grounds for criticism of 
government in general--and with mixed success, at best. In short, it 
may be that the states would be forgoing the collection of corporate 
income taxes that they do not and cannot collect anyway.'' Eugene 
Corrigan, States Should Consider Trade-Off on Remote-Sales Problem 
(letter to the editor), 27 State Tax Notes 523 (Feb. 10, 2003).
    \32\ It is interesting to note that the states have now moved on to 
using other, more effective attacks against passive investment 
companies, such as the economic substance and alter ego arguments, 
combined reporting, and the denial of the relevant deductions. See 
Mitchell J. Tropin, States Moving Away From `Geoffrey,' Using Sham 
Arguments, `Attribution' Nexus, Daily Tax Report, No. 27 (Feb. 10, 
2003).
---------------------------------------------------------------------------
    S. 2721 would not have had an effect on taxes derived from 
businesses that maintained a facility in the jurisdiction for more than 
21 days during the taxable year. Clearly, state and local governments 
derive most--if not virtually all--of their business activity tax 
revenue from such businesses. The amount of revenue received by taxing 
jurisdictions from those businesses that maintain no office, store, 
warehouse, or other facility--or even inventory--in the jurisdiction at 
all must truly be minimal.
    Consider first states that impose a net income tax to which Public 
Law 86-272 applies. It is difficult for tax practitioners, corporate 
tax managers, and several government officials that were queried to 
believe that these states are actually collecting any material amount 
of revenue from businesses that have no office in the state and have 
non-solicitation employees in the state for zero to 21 days during the 
year. There simply cannot be many businesses paying such taxes and, 
thus, any revenue loss would be negligible.
    Consider next those states, such as Michigan, New Jersey, Texas, 
and Washington, that impose business activity taxes that are not solely 
based on net income and, thus, are not covered by Public Law 86-272. 
These states are currently able to collect revenue from out-of-state 
businesses that do not themselves maintain an office or other facility 
in the state but that employ individuals in the state who perform 
solicitation in that state. Modernizing Public Law 86-272 to cover non-
income taxes clearly means that such states will no longer be able to 
collect this revenue. The amount of tax paid by such businesses, 
however, again must be minimal because it is unlikely that businesses 
are paying business activity tax to states in which they only have a 
fleeting presence.
    It simply cannot be the case that BATSA-type legislation would have 
more than a negligible revenue impact to the states. Charges by critics 
that the bill would have a significant fiscal effect are simply masking 
what is really going on, i.e., that state revenue departments and their 
representatives do not want any legislative constraints on or oversight 
of their taxing authority--even when the legislative constraints are 
squarely within Congress' authority to regulate interstate 
commerce.\33\
---------------------------------------------------------------------------
    \33\ It is interesting that critics of proposals that address 
multistate taxation always counter with claims that the proposal will 
cause significant revenue loss to the states. See, e.g., Corporate Tax 
Sheltering and The Impact On State Corporate Income Tax Revenue 
Collections, Multistate Tax Commission (July 25, 2003); Dan Bucks, 
Elliott Dubin and Ken Beier, Revenue Impact on State and Local 
Governments of Permanent Extension of the Internet Tax Freedom Act, 
Multistate Tax Commission (Sept. 24, 2003); 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). Yet there is no 
reliable empirical evidence that states have actually lost revenue when 
measures affecting state taxation have been enacted. This certainly 
goes to the credibility (or lack thereof) of such claims. As an example 
of the unreliability of such claims, the National Conference of State 
Legislatures has expressed its concern over projections by some 
national organizations that the inclusion of telecommunications 
services in the Internet tax moratorium would cost the states $22 
billion each year (an estimate representing the total revenue from all 
state and local telecommunication taxes in the 50 states from 1992); in 
a letter to Senator Alexander dated November 5, 2003, the Congressional 
Budget Office estimated that the actual revenue cost would be between 
$80 million and $120 million per year starting in 2007--an estimate 
that is approximately 220 times smaller. Accord Congressional Budget 
Office Cost Estimate, H.R. 49, Internet Tax Nondiscrimination Act, as 
requested by the House Comm. on the Judiciary (July 21, 2003). In a 
November 4, 2003 action alert regarding S. 150, ``The Internet Tax Non-
Discrimination Act,'' the NCSL stated that ``[t]he $20 billion 
estimation runs counter to expressed Congressional intent and the 
provisions of the Manager's amendment and as a result threatens to 
seriously harm the credibility of state governments before Congress and 
the Administration.''
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    Moreover, the statements of revenue impact made by certain state 
revenue departments and their representatives have been shown to be 
highly unreliable because the ``estimates'' focus on potential effects 
from hypothetical restructurings by businesses, are based on 
hypothetical changes in state law, or cite to potential impacts on 
apportionment rules (which is an issue of how much to tax, not whether 
to tax). Such considerations do not make for a reliable or accurate 
revenue estimate; proper revenue estimates are based on revenues 
currently collected. In reality, there simply will be no material 
effect on the amount of revenue received by the states because BATSA-
type legislation seeks to maintain the status quo.
Effect on International Taxation and American Competitiveness
    Our country's own history and the Federal Government's position in 
the context of international taxation provide sufficient reason to 
establish a physical presence nexus standard. The United States and its 
tax treaty partners have, for decades, adopted and implemented a 
``permanent establishment'' rule. The ``permanent establishment'' 
concept is a long-standing principle and has been extremely important 
to U.S. businesses and, thus, to the U.S. economy.
    The ``permanent establishment'' rule provides that neither country 
that is a party to the treaty will impose an income tax on a business 
from the other country unless that business maintains a substantial 
physical presence in the taxing country. Using the U.S. Model Treaty 
provisions as an example, a foreign business must have a ``fixed place 
of business [in the United States] through which the business of an 
enterprise is wholly or partly carried on'' before the United States 
may impose a tax on that business.\34\ Under this standard, neither a 
``rep office'' staffed by a few people, nor a facility used for 
storage, nor the maintenance of goods or merchandise for processing by 
another business would rise to the level of being a ``permanent 
establishment'' in the United States sufficient for the imposition of 
Federal income tax on that business.
---------------------------------------------------------------------------
    \34\ United States Model Income Tax Convention of September 20, 
1996, Art. 5.
---------------------------------------------------------------------------
    A physical presence standard places an appropriate limit on states 
gaining taxation powers over out-of-state firms and conforms to common 
sense notions of fair play. It is significant that the OECD has 
recently studied the issue and preliminarily concluded that the 
``permanent establishment'' rule should remain the proper standard for 
international tax treaties even with the proliferation of electronic 
commerce.\35\ The policy reasons underlying such a conclusion are 
clear. Imagine for a moment that a foreign country tried to tax the 
profits of U.S. companies simply because the U.S. firms exported goods 
into that country. There is no doubt that the U.S. Government and 
business community would be outraged. However, the economic nexus 
standard that the states would like to implement would have a similar 
effect on interstate commerce.
---------------------------------------------------------------------------
    \35\ See Are The Current Treaty Rules For Taxing Business Profits 
Appropriate For E-Commerce?, Organisation for Economic Co-operation and 
Development, Technical Advisory Group on Monitoring the Application of 
Existing Treaty Norms For Taxing Business Profits, Public Discussion 
Draft (Nov. 26, 2003).
---------------------------------------------------------------------------
    Unfortunately, it has been said that some smaller countries, citing 
the efforts of U.S. state revenue departments to impose direct taxes on 
any business that has customers within the state's borders, are now 
saying that they want to renegotiate their treaties with the United 
States so they can begin taxing every U.S. business that has a customer 
in their country. This would be a disaster for the U.S. economy. 
Enactment of BATSA-type legislation, which includes a nexus standard 
that is analogous to those found in U.S. tax treaties, is essential for 
ensuring that the current international system of taxation remains 
intact.
Interplay With State Tax Incentives
    In recent years, states have been increasingly active (and 
competitive) in offering tax incentive packages to businesses to locate 
and/or expand their operations in that state. Such incentives are 
offered not only to entice businesses into a state but also to ensure 
that businesses already located in the state do not relocate to, or 
expand in, other jurisdictions. The in-state company receives the 
benefits and protections provided by the state and, absent the 
incentives, would therefore be properly subject to full taxation.
    A less obvious tax incentive occurs when states adopt apportionment 
formulas that weight the sales factor more heavily than the property 
and payroll factors. If a state has a double-weighted sales factor or a 
single-factor apportionment formula based only on sales (which is 
increasingly popular among the states), in-state businesses enjoy a 
significant benefit over businesses that have little or no property or 
payroll in the state but that do have sales that are apportionable to 
the taxing state.
    When combined with the economic nexus standard, states would 
actually be subsidizing such incentives for in-state businesses at the 
expense of out-of-state businesses that do not receive the benefits and 
protections provided by the state. Not only does this offend the basic 
principle of nondiscrimination that is required by the Commerce Clause 
of the U.S. Constitution,\36\ but, in addition, it surely is misguided 
tax policy to make one party that is not really ``in'' the jurisdiction 
bear the tax burden of those persons who actually receive the benefits 
and protections of the government services that the taxes are funding.
---------------------------------------------------------------------------
    \36\ See, e.g., Northwestern States Portland Cement Co. v. 
Minnesota, 358 U.S. 450 (1959) and Armco, Inc. v. Hardesty, 467 U.S. 
638 (1984).
---------------------------------------------------------------------------
Effect on American Job Retention and Growth
    The U.S. economy has been making gains in the overall level of 
growth, with low inflation, home ownership at record levels, and 
household consumption expanding. These economic gains have been due in 
large part to the ongoing expansion in the productivity of U.S. workers 
and businesses. While productivity gains are unquestionably a good 
thing for the U.S. economy, the flip side is that U.S. businesses have 
proven capable of increasing output without expanding employment at the 
same rate as seen in most past recoveries. Therefore, responsible 
Federal policymakers need to identify and rectify potential barriers to 
new job creation in America to ensure that our economic expansion 
creates the largest number of high-quality jobs.
    The current level of uncertainty and ambiguity in the application 
of state-level taxes on U.S.-based businesses impedes new job creation. 
Businesses operating in the U.S. must deal with the ambiguity in the 
current nexus rules that govern when states have the right to impose 
direct taxes on businesses. Rather than a clear set of Federal rules 
regarding when a business is subject to state taxes, the current 
environment is governed largely by the level of aggressiveness of state 
tax administrators and ongoing litigation. As noted earlier, state tax 
officials have increasingly pushed the envelope in an effort to raise 
revenues from out-of-state enterprises. The uncertainty will only 
increase as states continue to assert jurisdiction over out-of-state 
businesses based on ``economic nexus'' principles.
    It is noteworthy that this uncertainty is borne chiefly by 
businesses based in the United States. Investing in the creation of new 
plants, equipment, and jobs in other countries is actually encouraged 
by the ambiguity in nexus standards and the aggressiveness of state tax 
officials. When combined with the effect of bilateral tax treaties and 
the difficulty of collecting state-level taxes from foreign 
enterprises, the uncertainty and ambiguity of state taxation has become 
another incentive that unnecessarily promotes new investment and job 
creation abroad.
    Foreign business enterprises are often shocked to learn that while 
treaties may insulate them from Federal taxation, state taxation may 
potentially still be imposed. This factor, when combined with the 
ambiguity of current state tax nexus law and the aggressiveness of 
state tax administrators, has put a real damper on foreign investment. 
Even when a foreign business initially considers opening an active 
business in the United States and paying Federal tax and state tax 
where it locates its property and employees, the specter of having to 
pay tax to every jurisdiction where it merely has customers is 
daunting. Addressing the problems of state tax uncertainty and the risk 
of litigation costs clearly has the potential to encourage additional 
foreign investment in the U.S., thus creating new jobs throughout the 
country.
    By providing a bright line, quantifiable physical presence 
standard, BATSA-type legislation addresses the current level of 
uncertainty in the nexus rules that apply to direct business taxes by 
lowering litigation expenses for companies that operate facilities in 
the United States and by reducing the likelihood that they will be 
targeted by out-of-state tax authorities bent on raising revenues from 
businesses that do not have a presence in their state. BATSA-type 
legislation, while certainly not an answer to all the questions related 
to encouraging new job creation in America, will encourage businesses, 
whether based in America or overseas, to put new investment and create 
new jobs here in America rather than in another country.
Conclusion
    The physical presence nexus standard provides a clear test that is 
consistent with the principles of current law and sound tax policy \37\ 
and that is consistent with Public Law 86-272, a time-tested and valid 
Congressional policy. Physical presence is an accepted standard for 
determining nexus.\38\ And a physical presence test for nexus is 
consistent with the established principle that a tax should not be 
imposed by a state unless that state provides benefits or protections 
to the taxpayer.
---------------------------------------------------------------------------
    \37\ Richard Pomp, who testified as a tax policy expert on behalf 
of the taxpayer in Lanco Inc. v. Director, Div. of Tax'n, N.J. Tax Ct., 
No. 005329-97 (Oct. 23, 2003), articulated ``six principles of tax 
policy . . . as representing the values inherent in the commerce 
clause: desirability of a clear or `bright-line' test, consistency with 
settled expectations, reduction of litigation and promotion of 
interstate investment, non-discriminatory treatment of the service 
sector, avoidance of multiple taxation, and efficiency of 
administration.'' Lanco Inc. v. Director, Div. of Tax'n, N.J. Tax Ct., 
No. 005329-97 at 15-16 (Oct. 23, 2003). Professor Pomp concluded that a 
physical presence standard better advanced these principles than a 
standard based on economic nexus principles. Id. at 16.
    \38\ See, e.g., Quill Corp. v. North Dakota, 504 U.S. 298 (1992) 
and National Bellas Hess, Inc. v. Department of Revenue, 386 U.S. 753 
(1967).
---------------------------------------------------------------------------
    What the entire nexus issue boils down to is fairness. The BATSA-
type legislation's bright-line physical presence nexus standard 
provides the most fair and equitable standard. This is true primarily 
for two reasons. One, businesses have a reasonable expectation of 
taxation only when they are the recipients of the benefits and 
protections provided by the taxing jurisdiction. Two, a physical 
presence standard protects in-state businesses from ``foreign tax'' 
imposed by jurisdictions solely because of the business having 
customers located in the taxing jurisdiction. By providing clarity, the 
physical presence standard removes an impediment to investment in the 
United States. For these reasons, the bill would benefit both U.S. 
businesses and consumers and, thus, the U.S. economy as a whole.
    These comments only scratch the surface of why a physical presence 
nexus standard for business activity taxes and modernization of Public 
Law 86-272 is the right answer and why BATSA-type legislation should 
therefore be enacted. But it is clear that BATSA-type legislation 
warrants the full and enthusiastic support of the Committee. Its 
enactment will ensure that the U.S. business community, and thus the 
U.S. economy, are not unduly burdened by unfair attempts at taxation 
without representation. BATSA-type legislation will not cause any 
dislocations in any state's revenue sources. CRAFT would be pleased to 
expand on any of the matters set forth above.
                                 ______
                                 
  Combined Response to Written Questions Submitted by Hon. Daniel K. 
     Inouye, Hon. Byron L. Dorgan, and Hon. Frank R. Lautenberg to 
                           Dr. James R. White
    Question 1 from Senator Inouye and Senator Dorgan. Definition of 
Internet Access. Under Section 1105(5) of Internet Tax Freedom Act 
(ITFA), 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. Such term 
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.'' (Emphasis added)
    Under current law, what is the dividing line that determines what 
services fall within the definition of Internet access and what 
services fall outside the definition of Internet access? What should or 
should not be included in the definition of Internet access?
    Answer. As shown in the simplified illustration in figure 1, the 
items reasonably bundled in a tax-exempt Internet access package may 
include e-mail, instant messaging, and Internet access itself. Internet 
access, in turn, includes broadband services, such as cable modem and 
digital subscriber line (DSL) services, which provide continuous, high-
speed access without tying up wireline telephone service. As figure 1 
also illustrates, a tax-exempt bundle does not include video, 
traditional wireline telephone service referred to as ``plain old 
telephone service'' (POTS), or Voice over Internet Protocol (VoIP). 
These services are subject to tax. For simplicity, figure 1 shows a 
number of services transmitted over one communications line. In 
reality, a line to a consumer may support just one service at a time, 
as is typically the case for POTS, or it may simultaneously support a 
variety of services, such as television, Internet access, and VoIP.



    Question 2 from Senator Inouye and Question from Senator 
Lautenberg. Should the moratorium cover services provided over the 
Internet like music and movie downloads or even Internet Protocol 
television if they are bundled with the provision of Internet access? 
The GAO found that, to be tax-exempt, services ``must be reasonably 
related to accessing and using the Internet, including electronic 
services that are customarily furnished by providers.'' Under this 
interpretation, would services such as movie and music downloads be 
taxable even if they were bundled with Internet access?
    Answer. Our interpretation is that there must be a reasonable nexus 
between what the moratorium protects and the service of providing 
Internet access. Under our interpretation, any relationship between, 
e.g., Internet sales by on-line music, movie, and television providers 
and the service of providing Internet access, is simply too remote to 
exempt such sales from taxation. The providers are selling music, 
movies, and television--even if the music, movies, and television are 
on-line music, movies, and television that can be downloaded. It is the 
music, movies, or television, not access, which is the subject matter 
of the business transaction.

    Question 3 from Senator Inouye. Would it be possible to craft a 
more transparent rule that relies more on an objective test and less on 
the discretion of how a provider bundles its services?
    Answer. We believe that concerns regarding the scope of the statute 
could be addressed legislatively if it were amended to clearly define 
access in terms of connectivity to the Internet and if Congress then 
spelled out what, if any, services it wishes to allow to be treated as 
tax exempt when bundled with access. The concerns raised stem from the 
phrase ``package of services offered to users'' which was included in 
the current statutory language but which suggests to some that the 
statute is completely open-ended.

    Question 4 from Senator Inouye and Question 2 from Senator Dorgan. 
Is there any hard evidence, perhaps from states that were grandfathered 
from the initial 1998 Act, linking the effect of the moratorium on 
broadband penetration? For example, since adoption of the initial 
moratorium in 1998, Hawaii, among other states, has been allowed to 
apply its sales tax to Internet access services. But despite that fact, 
reports on broadband penetration show that Hawaii ranks either first or 
second among the states in residential broadband penetration. Is there 
any correlation between the moratorium and higher broadband 
penetration? Is Internet access really tax sensitive?
    Answer. In a May 2006 report, we used two econometric models to 
assess the factors--including taxation--influencing the deployment and 
adoption of broadband service.\1\ In the case of deployment, we did not 
find that taxation of Internet access by state governments influenced 
the deployment of broadband service. We also did not find that taxation 
of Internet access influenced the adoption of broadband service, 
although this finding was less clear-cut than in the case of broadband 
deployment.\2\
---------------------------------------------------------------------------
    \1\ GAO, 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 (Washington, D.C.: May 5, 
2006).
    \2\ We did not find that taxation of Internet access influenced 
adoption of broadband service at the 5-percent level of significance. 
If we assume a 10-percent level of significance, we did find that 
Internet access influenced adoption of broadband service. However, 
given the nature of our model, it is unclear whether this finding is 
related to the tax or other characteristics of the states in which 
households resided.
---------------------------------------------------------------------------
    Question 3 from Senator Dorgan. Two of our witnesses provided us 
with principles by which we can approach this issue of taxation. They 
suggested that we be flexible and that we do no harm. Bearing this in 
mind please respond to the following questions. What is the need to 
make this moratorium permanent? With technology changing so rapidly, 
would it not be better to maintain a flexible, temporary solution that 
allows for periodic review?
    Answer. Whether the moratorium should be permanent or temporary is 
a policy judgment to be made after considering concerns about affecting 
the Internet's growth and electronic commerce and about the need for 
state and local revenue.

    Question 4 from Senator Dorgan. How would our states be harmed were 
we to get rid of the Grandfather Clause that protects those taxes in 
place prior to 1998? How would our states be harmed if we keep this 
clause in place?
    Answer. The revenue impact of eliminating grandfathering in states 
studied by the Congressional Budget Office and by us would be small. 
Because of state-by-state differences and uncertainties, the impact of 
future changes related to the moratorium would vary by state. Whether 
the moratorium were lifted or made permanent and whether grandfathering 
were continued or eliminated, states would be affected differently from 
each other.

    Question 5 from Senator Dorgan. Does a temporary solution really 
affect investment?
    Answer. It is hard to know how, if at all, broadband deployment 
would have been affected if there had been no moratorium, if the 
moratorium had been made permanent, or if grandfathering had been 
eliminated. We drew this kind of conclusion in our May 23, 2007, 
testimony when we commented on what might have happened in the absence 
of a moratorium.\3\ Given that some states never taxed access services 
while relatively few Internet connections existed, that some stopped 
taxing access services, and that others taxed DSL service, it was 
unclear to us what jurisdictions would have done if no moratorium had 
existed.
---------------------------------------------------------------------------
    \3\ GAO, Internet Access Tax Moratorium: Revenue Impacts Will Vary 
by State, GAO-07-896T (Washington, D.C.: May 23, 2007).

    Questions 6 and 7 from Senator Dorgan. Should state and local 
governments be able to require large remote sellers to collect the 
sales tax on a remote sale after state and local sales tax systems are 
dramatically simplified? Have state and local sales tax collection 
systems been simplified today such that state governments should be 
permitted to require large remote sellers to collect sales taxes?
    Answer. Whether state and local governments should be able to 
require large remote sellers to collect sales tax on remote sales is a 
policy judgment.
    As we reported in June 2000, states require that out-of-state 
remote sellers collect a use tax on the sale of goods and services if 
the sellers have a substantial presence, or nexus, with the state.\4\ 
The use tax, which complements the sales tax, is imposed on the 
purchaser for the privilege of use, ownership, or possession of taxable 
goods and services. If the out-of-state remote seller does not collect 
the use tax, the purchaser is required to remit the tax.
---------------------------------------------------------------------------
    \4\ GAO, Sales Taxes: Electronic Commerce Growth Presents 
Challenges; Revenue Losses Are Uncertain, GAO/GGD/OCE-00-165 
(Washington, D.C.: June 30, 2000).
---------------------------------------------------------------------------
    While reliable national estimates of sales tax compliance did not 
exist, we reported that state officials and other observers believed 
that compliance was highest for in-store sales, next highest for remote 
sales with nexus, and lowest for remote sales without nexus. To the 
extent that continued growth in the volume of Internet sales occurred, 
it increased remote sales where compliance was already most 
problematic.
    We concluded that with better data about the determinants of the 
tax loss associated with Internet sales, policymakers would be better 
positioned to confront the challenges confronted by e-commerce to sales 
and use tax administration. Such data could provide more of a basis for 
evaluating alternative policy choices. We also pointed out, however, 
that understanding the limits of data in an environment as dynamic as 
the Internet is important. Even with improved data, policymaking 
regarding Internet sales will be done in an environment of significant 
uncertainty.
                                 ______
                                 
    Response to Written Question Submitted by Hon. Amy Klobuchar to 
                           Dr. James R. White
    Question. As you mention in your testimony, the GAO recently 
published a report that examined issues relating to the deployment of 
broadband services, with a particular emphasis on the deployment of 
broadband in rural areas. This is an issue that is very important to 
Minnesota. Can you provide more information about GAO's findings in 
this report? What did you find were the factors affecting deployment of 
broadband in rural areas? Did you find the moratorium affected 
deployment?
    Answer. A variety of market and technical factors, government 
efforts, and access to resources at the local level have influenced the 
deployment of broadband infrastructure. Areas with low population 
density and rugged terrain, as well as areas removed from cities, are 
generally more costly to serve than are densely populated areas and 
areas with flat terrain. As such, deployment tends to be less developed 
in more rural parts of the country. Technical factors can also affect 
deployment. For example, DSL can generally extend only 3 miles from the 
central office with a telephone company's copper plant, which precludes 
many households from obtaining DSL service. GAO also found that a 
variety of Federal and state efforts, and access to resources at the 
local level, have influenced the deployment of broadband 
infrastructure. As mentioned earlier, the imposition of taxes was not a 
statistically significant factor influencing the deployment of 
broadband.\5\
---------------------------------------------------------------------------
    \5\ GAO-06-426.
---------------------------------------------------------------------------
                                 ______
                                 
  Response to Written Questions Submitted by Hon. Daniel K. Inouye to 
                            Harley T. Duncan
    Question 1. Definition of Internet Access. Under Section 1105(5) of 
Internet Tax Freedom Act (ITFA), 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. Such term 
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. (Emphasis added)
    Under current law, what is the dividing line that determines what 
services fall within the definition of Internet access and what 
services fall outside the definition of Internet access?
    Answer. Under current law, the dividing line between what 
constitutes access and what does not is extremely murky. All that can 
be said with certainty is that certain telecommunications services that 
are not included in access are excluded. Otherwise, the language is 
sufficiently broad, in our estimation, to allow any ``content, 
information [or] service'' that is delivered over the Internet to be 
considered as part of a package of Internet access.

    Question 2. Should the moratorium cover services provided over the 
Internet like music and movie downloads or even Internet Protocol 
television if they are bundled with the provision of Internet access?
    Answer. The moratorium should not cover services or products that 
are delivered over the Internet. To do so would significantly erode 
state revenue bases, discriminate against sellers of similar or 
equivalent products and services that were tangible, and set Internet 
content providers in a preferred position outside state and local tax 
codes. We believe the moratorium should be limited to those services 
necessary to traverse and navigate the Internet (as well as services 
incidental thereto), but not include content received through the 
Internet.

    Question 3. Would it be possible to craft a more transparent rule 
that relies more on an objective test and less on the discretion of how 
a provider bundles its services?
    Answer. We believe it is. As I noted in my testimony, we have been 
and will continue to work with representatives of the Internet access 
provider community to develop such a definition. We would plan to share 
it with the Committee when we complete that process.

    Question 4. Is there any hard evidence, perhaps from states that 
were grandfathered from the initial 1998 Act, linking the effect of the 
moratorium on broadband penetration? For example, since adoption of the 
initial moratorium in 1998, Hawaii, among other states, has been 
allowed to apply its sales tax to Internet access services. But despite 
that fact, reports on broadband penetration show that Hawaii ranks 
either first or second among the states in residential broadband 
penetration. Is there any correlation between the moratorium and higher 
broadband penetration?
    Answer. I am aware of no evidence that suggests that taxation of 
Internet access reduces the adoption of broadband by consumers or 
provision of broadband by suppliers. In my testimony, I cited two 
studies \1\ that came to this conclusion. Much the same as Hawaii, New 
Hampshire taxes Internet access (at a 7 percent rate), and it also has 
among the highest level of broadband adoption in the country. Finally, 
a recent study by the Center on Budget and Policy Priorities \2\ finds 
that Internet access is subject to taxation in each of the 15 countries 
worldwide in which the level of broadband adoption exceeds that of the 
U.S. I think the evidence is rather convincing that taxation of 
Internet access (under the range of taxes imposed by the states) does 
not impede broadband adoption.
---------------------------------------------------------------------------
    \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. 
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.
    \2\ Michael Maerov, ``Making the ``Internet Tax Freedom Act'' 
Permanent Could Lead To A Substantial Revenue Loss for States and 
Localities,'' Center on Budget and Policy Priorities, Washington, D.C., 
July 11, 2007.

    Question 5. Could you describe the current disparity that exists 
between the tax treatment of goods sold at ``brick and mortar'' stores 
and the tax treatment of goods sold online?
    Answer. The U.S. Supreme Court has held that a state may not 
require a seller that does not have a physical presence (facilities, 
employees, representatives) in the state to collect sales tax on goods 
and services sold into the state. Therefore, if an online seller has no 
physical presence in a state, any goods or services sold into the state 
have no tax applied to them. The brick and mortar seller, on the other 
hand, must apply tax which automatically creates a price disadvantage 
(other things being equal) for the brick and mortar seller.

    Question 5a. How would online companies deal with the 
administrative burden of different tax rules in different states?
    Answer. There is no doubt that collection of taxes on a multistate 
basis can be difficult. That is why the states have worked with the 
retail community through the Streamlined Sales Tax Project to simplify 
the tax collection responsibilities. Generally, the project has used 
several strategies to reduce the burden of collecting tax: (a) 
simplifying many provisions of law (e.g., adopting a uniform tax 
return); (b) significantly greater uniformity in provisions across 
states (e.g., uniform definitions of certain items like food or 
telecommunications); (c) having the state assume greater 
responsibilities to assist sellers (e.g., requiring states to maintain 
databases that provide the right tax rate for any address and holding 
the seller harmless from any action of their use of the data provided 
by the state; and (d) promoting greater use of technology in 
administering sales taxes (e.g., certifying certain compliance software 
providers and saying if you use these providers, you (the seller) will 
be held harmless on audit. Finally, we believe there should be a de 
minimus provision that excludes sellers with less than some moderate 
level of sales from collecting in those states in which they do not 
have a physical presence. The combination of these types of 
simplifications, we believe, reduces significantly the burden of tax 
collection.

    Question 5b. What steps are needed to equalize the tax treatment of 
online and offline sales?
    Answer. What is required is for Congress to enact legislation that 
would authorize states to require remote sellers (those without a 
physical presence in a state) to collect tax and to set forth the 
conditions under which this grant of authority may be exercised. We 
believe S. 34 by Senator Enzi provides an appropriate set of 
conditions.
                                 ______
                                 
    Response to Written Questions Submitted by Hon. Byron Dorgan to 
                            Harley T. Duncan
    Question 1. Two of our witnesses provided us with principles by 
which we can approach this issue of taxation. They suggested that we be 
flexible and that we do no harm. Bearing this in mind please respond to 
the following questions. What is the need to make this moratorium 
permanent? With technology changing so rapidly, would it not be better 
to maintain a flexible, temporary solution that allows for periodic 
review?
    Answer. FTA does not believe the moratorium should be made 
permanent. As you note, the pace of technological change would seem to 
make it imperative that Congress put in place a mechanism for periodic 
review of the impact of the moratorium. In addition, Congress is the 
only overseer of this legislation; there is no Executive Branch agency 
with responsibility for rulemaking or oversight. Congress needs to 
review the impact of the moratorium periodically.

    Question 1a. How would our states be harmed were we to get rid of 
the Grandfather Clause that protects those taxes in place prior to 
1998? How would our states be harmed if we keep this clause in place?
    Answer. Repealing the 1998 Grandfather Clause would have two 
impacts: (1) The nine states that currently impose their sales or other 
receipts-based tax on charges for Internet access would be prohibited 
from doing so. We estimate the revenue impact of the bill to be in the 
$150 million per year range. (2) There are also other taxes, most 
commonly general purpose business taxes (e.g., the Washington State 
Business and Occupation Tax, unemployment taxes) that are not excluded 
from the definition of a ``tax on Internet access,'' but are protected 
by the 1998 Grandfather that could be challenged as being a prohibited 
tax on Internet access. The current definition of a ``tax on Internet 
access'' says it includes a tax on the service itself as well as a tax 
on Internet service providers unless it is a net income, net worth, 
property, or franchise tax.

    Question 1b. What should or should not be included in the 
definition of Internet access?
    Answer. We believe that Internet access should be defined to 
include those services necessary to connect to and to traverse and 
navigate the Internet (as well as services incidental thereto), but not 
include content received through the Internet. The moratorium should 
not cover services or products that are delivered over the Internet. To 
do so would significantly erode state revenue bases, discriminate 
against sellers of similar or equivalent products and services that 
were tangible, and set Internet content providers in a preferred 
position outside state and local tax codes.

    Question 1c. Does a temporary solution really affect investment?
    Answer. In my testimony, I cited two studies (see answer elsewhere) 
showing that taxation of Internet access has no statistically 
significant impact on whether companies invest in providers of 
broadband services. It is, therefore, difficult to believe that a 
temporary moratorium will affect investment. The demand for broadband 
services is going to be driven by the types of services, products and 
content available and other communication requirements, and not whether 
Congress has only a temporary moratorium in place.

    Question 1d. Is Internet access really tax sensitive?
    Answer. I am aware of no evidence that suggests that taxation of 
Internet access reduces the adoption of broadband by consumers or 
provision of broadband by suppliers. In my testimony, I cited two 
studies \3\ that came to this conclusion. Much the same as Hawaii, New 
Hampshire taxes Internet access (at a 7 percent rate), and it also has 
among the highest level of broadband adoption in the country. Finally, 
a recent study by the Center on Budget and Policy Priorities \4\ finds 
that Internet access is subject to taxation in each of the 15 countries 
worldwide in which the level of broadband adoption exceeds that of the 
U.S. I think the evidence is rather convincing that taxation of 
Internet access (under the range of taxes imposed by the states) does 
not impeded broadband adoption.
---------------------------------------------------------------------------
    \3\ 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. 
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.
    \4\ Michael Maerov, ``Making the `Internet Tax Freedom Act' 
Permanent Could Lead To A Substantial Revenue Loss for States and 
Localities,'' Center on Budget and Policy Priorities, Washington, D.C., 
July 11, 2007.

    Question 1e. Should state and local governments be able to require 
large remote sellers to collect the sales tax on a remote sale after 
state and local sales tax systems are dramatically simplified?
    Answer. FTA supports the adoption of Federal legislation that would 
authorize those states that have simplified their sales to require 
remote sellers to collect tax on goods and services sold into the 
state. If such legislation is not passed, states sales tax bases will 
continue to suffer erosion from untaxed remote sales. In addition, 
those sellers that are required to collect tax will continue to face a 
unfair competitive disadvantage. It would be appropriate in any such 
legislation to have a de minimus threshold that would provide that 
sellers with national sales below some level would not be required to 
collect tax in states in which they have no physical presence.

    Question 1f. Have state and local sale tax collection systems been 
simplified today such that state governments should be permitted to 
require large remote sellers to collect sales taxes?
    Answer. FTA believes the simplifications that are contained in the 
Streamlined Sales and Use Tax Agreement contain sufficient 
simplifications such that states should be authorized to require 
certain remote sellers to collect tax on goods and services sold into a 
state. The project has used several strategies to reduce the burden of 
collecting tax: (a) simplifying many provisions of law (e.g., adopting 
a uniform tax return); (b) significantly greater uniformity in 
provisions across states (e.g., uniform definitions of certain items 
like food or telecommunications); (c) having the state assume greater 
responsibilities to assist sellers (e.g., requiring states to maintain 
databases that provide the right tax rate for any address and holding 
the seller harmless from any action of their use of the data provided 
by the state; and (d) promoting greater use of technology in 
administering sales taxes (e.g., certifying certain compliance software 
providers and saying if you use these providers, you (the seller) will 
be held harmless on audit. Finally, we believe there should be a de 
minimus provision that excludes sellers with less than some moderate 
level of sales from collecting in those states in which they do not 
have a physical presence. The combination of these types of 
simplifications, we believe, reduces significantly the burden of tax 
collection.

    Question 2. How would you assess the impact of the grandfather 
clause of the current Moratorium? Is it true that all states get some 
type of protection from the grandfather clause?
    Answer. The current grandfather clause serves two purposes: (1) It 
allows nine states that imposed a tax on charges to consumers for 
Internet access in 1998 to continue to impose and collect those taxes. 
(2) It also allows states to continue to impose certain general 
business taxes that would qualify as a ``tax on Internet access'' under 
the definition in the Act. Such taxes would include unemployment 
insurance taxes, the Washington State Business and Occupation Tax, as 
well as some local general purpose business taxes that are based on 
gross receipts.

    Question 2a. Please describe the range of taxes that may be 
protected by the clause? Can you give us a state-by-state revenue 
impact? If not for all states, which states can you give us a revenue 
figure for?
    Answer. As described above, the taxes covered by the Grandfather 
Clause include sales taxes on charges for Internet access in eight 
states--Hawaii, Texas, Wisconsin, Ohio, New Mexico, South Dakota, New 
Hampshire and North Dakota. It also protects imposition of the 
Washington Business and Occupation Tax on Internet service providers. 
We are in the process of gathering information on the revenues 
protected by the Grandfather Clause.

    Question 3. What is the scope of the Streamlining Project? We hear 
different numbers on state participation in the Project. Can you tell 
me how many states participate and in what capacity they are active? 
Please tell us what you expect in the future too.
    Answer. The Streamlined Sales Tax Project is a multi-year effort of 
state and local governments working with the retail industry to 
simplify administration of the sales tax, particularly for multistate 
sellers. In terms of participation, nearly every state with a sales tax 
has actively participated in the process of formulating the 
simplification requirements contained in the Streamlined Agreement. As 
to membership, there are currently 15 ``full Member States'' meaning 
that the state has made changes to its sales tax law, rules and 
policies so as to incorporate each of the provisions of the Agreement. 
There are also 7 ``Associate Member States,'' meaning that the state 
has incorporated all the provisions of the Agreement into its laws and 
policies but the effective date of one or more provision has been 
delayed beyond July 1, 2007 or that the state has incorporated most of 
the provisions of the Agreement into its laws and policies and is 
expected to incorporate the remaining ones by a particular date. By 
January 1, 2008, two of the Associate Member States are expected to be 
accepted as full Member States. By July 1, 2008, two additional 
Associate Members should become full Member States.

    Question 4. Two of the witness testifying before the Committee 
suggested that states could collect use taxes directly from individual 
consumers. What steps are being taken now by states to collect use 
taxes owed by individual consumers? What would be required for states 
to effectively collect the use tax from individual consumers that owe 
the tax?
    Answer. It is not reasonable to suggest that states can collect the 
use tax from individual consumers in any cost-effective or even-handed 
manner. About 20 states have included a line on the state individual 
income tax return that taxpayers can use to report use tax on purchases 
made over the course of the year. To effectively collect use tax from 
individual consumers would require all sellers to report all untaxed 
sales to the state to which the sale is delivered along with the name 
and address of the purchaser, the identification of the items being 
purchased and the sale price of the items. In this manner, each state 
would have the data necessary to compute the tax due and bill the 
individual purchaser. Obviously, this approach if more costly than 
collection of the tax at the time of sale.
                                 ______
                                 
Response to Written Questions Submitted by Hon. Frank R. Lautenberg to 
                            Harley T. Duncan
    Question 1. Do you agree with the GAO's narrow interpretation of 
how ``Internet access'' is defined under current law?
    Answer. We do not agree with the GAO interpretation of the 
definition of Internet access. We believe a court would look to the 
plain meaning of the words in the statute. For that reason, we do not 
believe a court would reach a determination that only services 
``reasonably bundled'' with Internet access would be considered exempt.

    Question 2. Are you aware of any ``bundling'' of services that is 
avoiding taxation because of a broad interpretation of how ``Internet 
access'' is defined under current law?
    Answer. We are not aware of instances where there has been 
unreasonable bundling under the current law. We believe this is in part 
due to the fact that the moratorium is temporary, and Congress must 
periodically revisit the issue and the propriety of the definition.

    Question 3. Is there any empirical evidence of the effects that a 
permanent moratorium would have on state revenues?
    Answer. If the moratorium is made permanent and there is no 
Grandfather Clause protection for the pre-1998 taxes, state revenues 
would be reduced by an estimated $150-$200 million per year in the 
eight states that currently impose the state sales tax on charges for 
Internet access and Washington State with its business and occupation 
tax.
                                 ______
                                 
    Response to Written Question Submitted by Hon. Amy Klobuchar to 
                            Harley T. Duncan
    Question. With respect to the Streamlined Sales and Use Tax 
Agreement, it is my understanding that business representatives from 39 
states worked with state governments to achieve the Agreement, yet the 
level of adoption of this agreement varies among states, with 15 states 
acting as full members. Can you provide more information about the 
varying level of participation among states? What is the impact on 
businesses in states that are fully participating versus businesses in 
those states that are not?
    Answer. In terms of participation, nearly every state with a sales 
tax has actively participated in the process of formulating the 
simplification requirements contained in the Streamlined Agreement. As 
to membership, there are currently 15 ``full Member States'' meaning 
that the state has made changes to its sales tax law, rules and 
policies so as to incorporate each of the provisions of the Agreement. 
There are also 7 ``Associate Member States,'' meaning that the state 
has incorporated all the provisions of the Agreement into its laws and 
policies but the effective date of one or more provision has been 
delayed beyond July 1, 2007 or that the state has incorporated most of 
the provisions of the Agreement into its laws and policies and is 
expected to incorporate the remaining ones by a particular date. By 
January 1, 2008, two of the Associate Member States are expected to 
become full Member States. By July 1, 2008, two additional Associate 
Members should become full Member States.
    In my estimation, the primary reason more states have not become 
full Members is twofold: (1) Some of the simplifications required for 
membership have significant impacts on a state's tax policy and 
structure; and (2) Without Congressional authorization that would allow 
states to require remote sellers to collect tax on sales into the 
state, some of these states are unlikely to take the steps necessary to 
become Member States. In other words, without the additional revenue 
that would result from requiring remote sellers to collect, there is 
little motivation for some states to undertake the difficult 
simplifications.
                                 ______
                                 
  Response to Written Questions Submitted by Hon. Daniel K. Inouye to 
                        Annabelle Canning, Esq.
    Question 1. Under current law, what is the dividing line that 
determines what services fall within the definition of Internet access 
and what services fall outside the definition of Internet access?
    Answer. The dividing line between what is and is not covered by 
this definition is the concept of access. Internet access is, 
fundamentally, a special type of access--nothing more and nothing less. 
As defined by section 1105(5), Internet access service enables users to 
access content, information, e-mail, or other services offered over the 
Internet. Even when the content, information, or other service being 
accessed is proprietary, if that service is being accessed over the 
Internet, section 1105(5) establishes that the access to such service 
is Internet access.
    However, while access to content, information, e-mail and other 
services--whether proprietary or not--is within the definition of 
Internet access, what is accessed is not covered. Thus, for example, in 
the case of a service that permits a user to download music, the 
service that permits the user to establish a link between the user's 
computer and the music provider's computer--that is, to access the 
provider's computer--is Internet access. But the music file that the 
user downloads from the music provider's computer to the user's 
computer is not ``access''; instead, this file is what is being 
accessed.
    Some services offered over the Internet consist of nothing more 
than access, and thus are completely covered by the definition of 
Internet access. E-mail is the best example of such a service. However, 
even here, the music-file example described above can be applied to 
illustrate the distinction between what is and is not covered by the 
definition of Internet access: If a service permits a user to request 
that a music file be transmitted by e-mail, then the e-mail service by 
which the user transmits an e-mail message to the music provider, and 
by which the music provider replies, is within the definition of 
Internet access. But if the music provider sends a music file back to 
the requesting user as an e-mail attachment, then that file itself is 
not within the definition of Internet access; instead, the file is what 
is being accessed.

    Question 2. Should the moratorium cover services provided over the 
Internet like music and movie downloads or even Internet Protocol 
television if they are bundled with the provision of Internet access?
    Answer. Expanding the moratorium to treat bundled services, such as 
music and movie downloads and Internet Protocol television, as Internet 
access would be a substantial change from current law. As described in 
my answer to the first question, above, these bundled services are not 
covered under the current definition of Internet access because they 
are not access but, instead, are what is being accessed. Indeed, under 
the ``bundling rule'' of section 1106 that was added in 2004, if a 
charge for one of these services is taxable under state or local law, 
then bundling that charge with a charge for Internet access risks 
subjecting the entire bundled charge to tax.
    The moratorium should not be expanded to prohibit states and local 
governments from imposing nondiscriminatory taxes on those services. 
That is, a state that taxes the purchase of a music CD on Main Street 
should be able to impose the same tax on music delivered on-line, 
either as a sales tax if the seller has nexus or, otherwise, as a use 
tax. However, the moratorium currently prohibits--and should continue 
to prohibit--a state from discriminating against electronic commerce by 
taxing on-line music purchases and not taxing a purchase of the same 
music on a CD.

    Question 3. Would it be possible to craft a more transparent rule 
that relies more on an objective test and less on the discretion of how 
a provider bundles its services?
    Answer. While it might be possible to craft such a rule, there is 
no need to do so. I am unaware of any examples of a provider of 
Internet access using the Internet access definition to attempt to 
market and sell otherwise taxable services as part of a bundle that 
includes Internet access. As stated above, because of the accounting 
rule provided by section 1106, an Internet access provider that 
attempted to do so would put the entire ``bundle'' at risk of being 
subject to taxation. Furthermore, because a provider would have failed 
to collect and remit sales tax from its customer on the taxable pieces 
of the bundle, it would face the prospect of paying the entire tax 
liability as its own cost without the ability to recoup the tax from 
its customers. Given the risk of creating additional, unreimbursed 
transaction tax costs, it is not surprising that I am unaware of any 
instance of a provider bundling Internet access with other taxable 
services in order to avoid taxation.
    In addition to being unnecessary, any attempt to create a more 
transparent rule may also create additional problems. Notwithstanding 
Congress's clear intent that the moratorium cover telecommunications 
purchased, used, or sold by a provider of Internet access to provide 
Internet access, some state and local tax authorities have moved 
aggressively to assert that such telecommunications are not covered. 
Changes intended to effect transparency could give states additional 
opportunities to pursue these erroneous assertions. Thus, if a more 
``objective'' test is to be created, it should be carefully crafted to 
ensure that the level playing field that Congress created between ISPs 
that own their own Internet backbone and those that must purchase 
telecommunications service from a backbone provider is explicitly 
preserved so that states cannot impose hidden taxes that disadvantage 
certain Internet access providers.

    Question 4. Is there any hard evidence, perhaps from states that 
were grandfathered from the initial 1998 Act, linking the effect of the 
moratorium on broadband penetration? For example, since adoption of the 
initial moratorium in 1998, Hawaii, among other states, has been 
allowed to apply its sales tax to Internet access services. But despite 
that fact, reports on broadband penetration show that Hawaii ranks 
either first or second among the states in residential broadband 
penetration. Is there any correlation between the moratorium and higher 
broadband penetration?
    Answer. Many factors influence the rate of broadband penetration in 
the states, including household income, a state's geography, and the 
presence or absence of competing providers. For this reason, it is very 
difficult to find statistically significant studies that can isolate 
the impact of the moratorium on broadband penetration.
    Having said that, however, there certainly is evidence that the 
presence or absence of competition among broadband providers influences 
broadband penetration rates. This is because competition results in 
lower prices to consumers, which in turn increases broadband 
penetration as more households decide that they can afford to purchase 
broadband Internet access.
    Given the evidence in elasticity studies that price is a 
significant factor in broadband purchasing decisions, I have to believe 
that the moratorium plays a significant role in expanding broadband 
penetration. Without the moratorium, it is likely that many states 
would conclude that broadband Internet access falls under the expansive 
definition of ``telecommunications service'' contained in most state 
tax statutes and would commence taxing such services at excessive 
rates.
    Recent studies from the Heartland Institute and the Council On 
State Taxation have documented that telecommunications services are, on 
average, taxed at rates nearly twice as high as general sales and use 
taxes. The Heartland study of 51 large cities found that the average 
rate is 13.5 percent, while the COST study tagged the rate at 14.2 
percent. At current broadband prices, such taxes could add as much as 
$8.00 to the monthly cost of broadband Internet access. These taxes 
would have a measurable impact on broadband penetration and would hit 
low and moderate income households the hardest.
                                 ______
                                 
  Response to Written Questions Submitted by Hon. Byron L. Dorgan to 
                        Annabelle Canning, Esq.
    Question 1. Two of our witnesses provided us with principles by 
which we can approach this issue of taxation. They suggested that we be 
flexible and that we do no harm. Bearing this in mind please respond to 
the following questions. What is the need to make this moratorium 
permanent? With technology changing so rapidly, would it not be better 
to maintain a flexible, temporary solution that allows for periodic 
review?
    Answer. One of the most important benefits of the moratorium is to 
expand the availability and affordability of broadband Internet access, 
so that all American households will have access to the educational and 
economic benefits of the Internet. In addition to keeping the cost of 
Internet access down for American households, the moratorium is also 
critical to providing a stable investment climate for businesses that 
not only provide access to the Internet but also create the 
applications, products, and services that are accessible through the 
Internet.
    A permanent moratorium will send a very favorable, pro-investment 
signal to the firms that are driving innovation in our economy that 
states are not going to impose excessive and discriminatory taxes on 
Internet access. In terms of ``doing no harm,'' a permanent moratorium 
will do no harm to consumers by preventing states and localities from 
imposing taxes at excessive rates that slow the growth of the Internet.
    A permanent moratorium would not prevent a future Congress from 
revisiting this issue should it decide that changes need to be made to 
definitions or other provisions of the moratorium. Therefore, a 
permanent moratorium preserves Congress's flexibility to address 
changing market conditions, and Congressional oversight authority 
provides for periodic review and study of these issues.

    Question 1a. How would our states be harmed were we to get rid of 
the grandfather cause that protects those taxes in place prior to 1998? 
How would our states be harmed if we keep this clause in place?
    Answer. The states that continue to tax Internet access under the 
1998 Grandfather Clause have had almost 10 years to prepare for the 
elimination of the grandfather clause. States have enjoyed large budget 
surpluses due to strong economic growth over the last 5 years--much of 
that economic growth generated by strong productivity gains driven by 
the communications and information technology sectors. A recent study 
by Ovum and Indepen found that almost 80 percent of the productivity 
growth in 2004 was attributable to the communications and information 
technology industries.
    The National Conference of State Legislatures reported in February 
the following data about surplus revenues held in FY 2007 by the nine 
states covered by the 1998 Grandfather Clause:

----------------------------------------------------------------------------------------------------------------
                        State                                         Surplus as % of Gen. fund $
----------------------------------------------------------------------------------------------------------------
Hawaii                                                                                                     13.9
New Hampshire                                                                                               3.8
New Mexico                                                                                                  8.9
Ohio                                                                                                       11.1
South Dakota                                                                                               13.5
Texas                                                                                                      17.8
Washington                                                                                                  3.4
Wisconsin                                                                                                   0.1
----------------------------------------------------------------------------------------------------------------

    The GAO reported that the total revenues in question for the 
grandfathered states are under $120 million, representing a small 
fraction of each state's total tax collections. Given the surpluses 
available in these states, elimination of the grandfather clause would 
not harm the budgets of the grandfathered states.

    Question 1b. What should or should not be included in the 
definition of Internet access?
    Answer. Internet access is, fundamentally, a special type of 
access--nothing more and nothing less. As defined by section 1105(5), 
Internet access service enables users to access content, information, 
e-mail, or other services offered over the Internet. Even when the 
content, information, or other service being accessed is proprietary, 
if that service is being accessed over the Internet, section 1105(5) 
establishes that the access to such service is Internet access. 
However, while access to content, information, e-mail and other 
services--whether proprietary or not--is within the definition of 
Internet access, what is accessed is not covered.
    There is no apparent reason to change the scope of the current 
definition. However, Congress should ensure that states comply with the 
intent of the 2004 amendments that telecommunications services 
purchased, used, or sold by a provider of Internet access to provide 
Internet access are covered by the moratorium. Notwithstanding the 2004 
amendments, some states have aggressively moved to tax 
telecommunications services that are covered by the definition of 
Internet access. If Congress does not confirm the original intention of 
the 2004 amendments, these states will continue their efforts and may 
be joined by others, resulting in taxes at the wholesale level that 
would ultimately be borne by consumers through higher access prices.

    Question 1c. Does a temporary solution really affect investment?
    Answer. As I said earlier, a permanent moratorium is critical to 
providing a stable investment climate for businesses that not only 
provide access to the Internet but also create the applications, 
products, and services that are accessible through the Internet.
    A permanent moratorium will send a very favorable, pro-investment 
signal to the firms that are driving innovation in our economy that 
states are not going to impose excessive and discriminatory taxes on 
Internet access. In terms of ``doing no harm,'' a permanent moratorium 
will prevent states and localities from imposing taxes that slow growth 
of the Internet.
    A permanent moratorium would not prevent a future Congress from 
revisiting this issue should it decide that changes need to be made to 
definitions or other provisions of the moratorium. Therefore, a 
permanent moratorium does preserve Congress's flexibility to address 
changing market conditions, and Congressional oversight authority 
provides for periodic review and study of these issues.

    Question 1d. Is Internet access really tax sensitive?
    Answer. Many factors influence the rate of broadband penetration in 
the states, including household income, a state's geography, and the 
presence or absence of competing providers. For this reason, it is very 
difficult to find statistically significant studies that can isolate 
the impact of the moratorium on broadband penetration.
    Having said that, however, there is evidence that the presence or 
absence of competition among broadband providers influences broadband 
penetration rates. This is because competition results in lower prices 
to consumers, which in turn increases broadband penetration as more 
households decide that they can afford to purchase broadband Internet 
access.
    Given the evidence in elasticity studies that price is a 
significant factor in broadband purchasing decisions, I have to believe 
that the moratorium plays a significant role in expanding broadband 
penetration. Without the moratorium, it is likely that many states 
would conclude that broadband Internet access falls under the expansive 
definition of ``telecommunications service'' contained in most state 
tax statutes and would commence taxing such services at excessive 
rates.
    Recent studies from the Heartland Institute and the Council On 
State Taxation have documented that telecommunications services are, on 
average, taxed at rates nearly twice as high as general sales and use 
taxes. The Heartland study of 51 large cities found that the average 
rate is 13.5 percent, while the COST study tagged the rate at 14.2 
percent. At current broadband prices, such taxes could add as much as 
$8.00 to the monthly cost of broadband Internet access. These taxes 
would have a measurable impact on broadband penetration and would hit 
low and moderate income households the hardest.

    Question 1e. Should state and local governments be able to require 
large remote sellers to collect the sales tax on a remote sale after 
state and local sales tax systems are dramatically simplified?
    Answer. The so-called Streamlined Sales Tax issue is really a 
separate issue from the extension of the Internet access tax 
moratorium. I do not believe that the issue should be addressed as part 
of the moratorium debate. With operations and physical presence 
throughout the country, this is not an issue for my company.

    Question 1f. Have state and local sale tax collection systems been 
simplified today such that state governments should be permitted to 
require large remote sellers to collect sales taxes?
    Answer. States and localities have a lot more work to do when it 
comes to simplifying state and local taxes on telecommunications 
services. Since the original study was published in 1999 by the (then) 
Committee on State Taxation, a handful of states (Florida, Illinois, 
Utah, Virginia) have drastically reduced the administrative burden of 
collection of telecommunications taxes by centralizing collection of 
local taxes at the state level. The industry has sought to work with 
states to simplify state and local taxes on telecommunications services 
in a number of other states, unfortunately without much success.
    Even with those simplifications, however, a telecommunications 
carrier selling service nationwide is still required to file some 
47,921 tax returns annually--about seven times as many as the 7,501 
required for general businesses.
    In fact, one of the reasons why it is critical to extend the 
Internet moratorium is the very real concern that without the 
moratorium, states would interpret their statutes as imposing many of 
these telecommunications taxes on Internet access. This would not only 
impose a huge new burden on Internet providers, but it would also 
expose consumers to the same types of excessive taxes that currently 
apply to telecommunications services. Currently, only 17 states have 
specific statutory exemptions for Internet access in their statutes, 
which leaves the door open for new telecommunications taxes in two-
thirds of the states.

    Question 2. I am deeply interested in broader Internet penetration 
across the country. As I said in the hearing, I believe the Internet is 
crucial to our lives and if we work at this, we can find a reasonable 
solution here. I am concerned about what would happen were we to 
abolish the existing grandfather clause. We must have a clear 
understanding of the consequences of a permanent moratorium.
    Answer. As I noted above, elimination of the Grandfather Clause 
would mean that the eight states that continue to tax Internet access 
would no longer be able to do so. These states have had almost 10 years 
to prepare for the elimination of the Grandfather Clause. My prior 
answer also describes the budget surpluses that are currently available 
in each of these states, and the relatively minor impact of losing 
taxes on Internet access. Given these factors, elimination of the 
Grandfather Clause would not harm the budgets of the grandfathered 
states.

    Question 3. In your opinion, what taxes are covered by the 
Grandfather Clause for Pre-1998 taxes? If the Grandfather Clause were 
eliminated under S. 156, which state and local taxes would be subject 
to the moratorium and which would be exempt?
    Answer. The pre-1998 grandfather permits states that taxed Internet 
access at the time the law first passed to continue imposing those 
taxes. This includes the taxation of Internet access under broad gross 
receipts taxes in Hawaii, New Mexico, and South Dakota; taxation of 
certain types of Internet access under New Hampshire's communications 
services tax; sales taxes in Ohio (business only), Texas (first $25 
exempt; remainder taxable), and Wisconsin; and under the Business and 
Occupation Tax in Washington.
    If the grandfather clause were eliminated, none of the taxes 
identified above would continue to apply to Internet access.
                                 ______
                                 
Response to Written Questions Submitted by Hon. Frank R. Lautenberg to 
                        Annabelle Canning, Esq.
    Question 1. Is there any evidence that broadband penetration is 
higher in those states that exempt Internet access from taxation?
    Answer. Many factors influence the rate of broadband penetration in 
the states, including household income, a state's geography, and the 
presence or absence of competing providers. For this reason, it is very 
difficult to find statistically significant studies that can isolate 
the impact of the moratorium on broadband penetration.
    Having said that, however, there certainly is evidence that the 
presence or absence of competition among broadband providers influences 
broadband penetration rates. This is because competition results in 
lower prices to consumers, which in turn increases broadband 
penetration as more households decide that they can afford to purchase 
broadband Internet access.
    Given the evidence in elasticity studies that price is a 
significant factor in broadband purchasing decisions, I have to believe 
that the moratorium plays a significant role in expanding broadband 
penetration. Without the moratorium, it is likely that many states 
would conclude that broadband Internet access falls under the expansive 
definition of ``telecommunications service'' contained in most state 
tax statutes and would commence taxing such services at excessive 
rates.
    Recent studies from the Heartland Institute and the Council on 
State Taxation have documented that telecommunications services are, on 
average, taxed at rates nearly twice as high as general sales and use 
taxes. The Heartland study of 51 large cities found that the average 
rate is 13.5 percent, while the COST study tagged the rate at 14.2 
percent. At current broadband prices, such taxes could add as much as 
$8.00 to the monthly cost of broadband Internet access. These taxes 
would have a measurable impact on broadband penetration and would hit 
low and moderate income households the hardest.

    Question 2. Do you believe that the current definition of 
``Internet access'' allows movie downloads and music downloads to be 
bundled with Internet access services tax-free? Are you aware of 
efforts in the industry to move in that direction?
    Answer. No, I do not believe that the current definition of 
``Internet access'' allows movie downloads and music downloads to be 
bundled with Internet access services tax-free. While the definition of 
Internet access covers the service that permits a user to access movie 
and music downloads, it does not cover music or movies that are 
downloaded.
    I am unaware of any provider trying to bundle movie or music 
downloads into a tax-free Internet access package. This may be 
attributable to the accounting rule in section 1106, which was added as 
part of the 2004 changes to the moratorium. Under this rule, if charges 
for Internet access are ``bundled'' with other charges that are subject 
to taxation--such as charges for movie or music downloads--then the 
charges for Internet access may be subject to taxation unless the 
Internet access provider can reasonably identify the charges for 
Internet access from its books and records. Therefore, an Internet 
access provider has a strong incentive to ``unbundle'' for tax purposes 
those taxable services in order to ensure that the entire package of 
services that includes Internet access is not subject to tax. This 
accounting rule that was modeled on a similar provision in the Mobile 
Telecommunications Sourcing Act and has since been used as a model for 
language that was included in the Streamlined Sales Tax Act.

                                  
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