Larry Jones
September 8, 2003

Internet Tax Moratorium Bill Threatens to Eliminate Local Telecommunications Taxes

By Larry Jones

Members in both houses of Congress are soon expected to take action on a proposal that threatens to eliminate state and local telecommunications taxes. Floor debate could begin as early as September 9 in the House and later in the Senate. The proposal, called the Internet Tax Non-discrimination Act of 2003 (H.R. 49/S. 150), was adopted by the House Judiciary Committee on July 16 and the Senate Commerce Committee on July 31. The primary aim behind the proposal is to make the existing temporary ban on state and local taxes on Internet access fees permanent. But language was adopted during committee action to expand the definition of Internet access in a way that could prohibit state and local governments from collecting taxes on telecommunication services.

Under current law (the Internet Tax Freedom Act), which is set to expire November 1, state and local governments are prohibited from imposing any new taxes on Internet access. However, states and localities that had such taxes in place when the original law passed in October 1998, were allowed to continue them. The proposed legislation will give state and local governments three years to phase-out these taxes. Ten states and some local governments are currently collecting taxes on Internet access fees.

Also under current law, Internet access is defined as a service that enables a user to gain access to content, information, electronic mail or other services over the Internet. The current law makes it very clear that Internet access "does not include telecommunications services." The change in the definition adopted by the two committees states that Internet access "does not include telecommunication services, except to the extent that such services are used to provide Internet access."

This amendment was intended to ensure parity of tax treatment for all technologies used to access the Internet, but it can easily be interpreted to mean that any telecommunication service used to access the Internet (i.e. digital subscriber lines, cable modem and the cell phone used to provide wireless access) is not taxable. Legal experts believe this vague language undoubtedly will invite legal battles that could be very costly for state and local governments.

If enacted as currently written, this could mean that cities currently collecting local telecommunications and utility taxes on digital subscriber lines (DSL), cable modem, cell phones used to provide wireless Internet access and other broadband Internet access services would lose those revenues. These loses could be enormous both in the near-term and long-term, particularly if the current trend continues as expected with all forms of telecommunication services migrating to broadband networks.

Raising concerns about the amendment during the Senate Commerce Committee's deliberation on July 31, Senator Frank Lautenburg (NJ) said "as worded, the amendment could prohibit any state taxation of content if bundled with Internet access. There is no need for such overly broad and vague language." Senator John Mc Cain (AZ), who chairs the committee, and the two key sponsors of the proposal Senators George Allen (VA) and Ron Wyden (OR) acknowledged that there were problems with the language and pledged to work on refining the definition to ensure that only Internet access is banned from taxation and not any telecommunication services currently taxed by state and local governments. At press time, members seemed to be far from finding language to address this concern.