The 1998 Internet Tax Freedom Act halted the expansion of direct taxation of the Internet, grandfathering existing taxes in ten states. In the United States alone, some 30,000 taxing jurisdictions could otherwise have laid claim to taxes on a piece of the Internet. The law, however, did not affect sales taxes applied to online purchases. These continue to be taxed at varying rates depending on the jurisdiction, in the same way that phone and mail orders are taxed.
The enactment of this legislation has coincided with the beginning of a period of spectacular Internet growth. Its proponents argue that the benefits of knowledge, trade, and communications that the Internet is bringing to more people in more ways than ever before are worth the tax revenue losses, if any, and that the economic and productivity growth attributable to the Internet may well have contributed more revenues to various governments than would otherwise have been received. Opponents, on the other hand, have argued that the Internet would continue to prosper even if taxed, and that the current federal ban on Internet-specific levies denies government at all levels a much-needed source of revenue.
It must be emphasized that the absence of direct taxation of the Internet does not mean that all transactions taking place online are free of tax, or even that the Internet is free of all tax. In the United States, nearly all online transactions are subject to one form of tax or the other. The Internet Tax Freedom Act merely precludes states in the United States from imposing their sales tax, or any other kind of gross receipts tax, on certain online services. For example, a state may impose an income or franchise tax on the net income earned by the provider of online services, while the same state may be precluded from imposing its sales tax on the gross receipts of that provider. In addition, as noted above, the Internet Tax Freedom Act does not prevent taxation of the sale of goods through the Internet.
Both states and localities have traditionally levied franchise taxes on utilities and cable television operators. Prior to the Internet Tax Freedom Act, many municipalities were studying the possibility of extending their franchise taxes to either ISPs, their customers, or both. The greatest practical problem associated with the collection of franchise taxes is the multiplicity of potential levies on a single retail customer; the ban on multiple taxation in the Internet Tax Freedom Act is a response, in part, to this issue. A correlative issue is the compliance burden on ISPs who must deal with competing franchise taxes in thousands of local jurisdictions, although the likelihood is such a burden would be passed on to customers.
Several countries have proposed taxing Internet usage by volume. The bit tax would not discriminate between telephony, data, voice, images, or other content; it would apply based on the volume of data transferred. Because this is an Internet-specific tax that has no analog in the offline world, it is specifically banned in the U.S. by the Internet Tax Freedom Act.
The concept behind the bandwidth tax is progressivity; it would apply on a graduated scale according to the speed of one's Internet connection. It is also clearly banned by the Internet Tax Freedom Act.
The United Nations has in the past considered proposing an e-mail tax, in an effort to raise funds to boost Internet technology access to poor countries. Citing a "knowledge gap" between the United States and underdeveloped countries, proponents of e-mail taxes believe that its potential redistributive effects make it an ideal tax for implementation on a global scale. According to a report by the United Nations Development Program entitled "Globalization With a Human Face", Internet users are mostly males located in the United States, a situation UN researchers suggest puts the world's undeveloped countries at risk of being left behind in a race for knowledge. "The literally well connected have an overpowering advantage over the unconnected poor, whose voices and concerns are being left out of the global conversation," the UNDP said in a 1999 press release. To "rectify the imbalance" between Internet users and non-users, the report's authors proposed a "tax of one US cent on every 100 lengthy e-mails" which they believed would generate $70 billion a year. Imposition of e-mail taxes by the U.S. government or any of its political subdivisions is banned by the Internet Tax Freedom Act.
There are many conceptual issues involved in the determination of which of several jurisdictions have the authority to tax the Internet, or transactions on it, in some way. Internet taxation has essentially been banned in the United States since 1998, except for those jurisdictions that were grandfathered under existing federal law. Most of involves Internet access taxes, franchise taxes, and telecommunications taxes, although a smattering of other taxes currently exist.
Beyond the questions of direct taxation of Internet access through levies such as bit taxes, bandwidth taxes, email taxes, and franchise fees, a related issue concerns the imposition of sales taxes on Internet sales of goods and services. This taxation is not prohibited by federal statute, but rather by a series of U.S. Supreme Court decisions including Quill Corp. v. North Dakota (1992). Those cases held that state taxation of in-state sales by vendors with no significant physical presence in the state violates the Commerce Clause of the U.S. Constitution. Because of this constitutional prohibition on collecting sales tax from so-called "remote" sales on the Internet, the issue of local jurisdictions taxing goods and services purchased from out of state by their residents using the Internet has not yet raised the conceptual questions discussed below. See tax-free shopping.''
The issue of location—of the Internet user, the user's counterparties in a commercial transaction, the headquarters facilities of any involved commercial entities, and even the servers and switches—is important for tax purposes. For example, of the nine U.S. states that currently tax access in some manner, four make reference to location. In each case, both the provision of service and the billing must take place within the state. Connecticut places the burden of determining whether this is so upon the Internet service provider. But in general, there is no simple way to determine location, owing largely to the Internet's lack of boundaries. Users can and routinely do access their accounts from remote locations; providers are almost always located in multiple taxing jurisdictions; and the data traffic itself, via the Internet's packet-switched architecture, is routed through myriad locations. Such issues are important not only for practical reasons of determining the incidence of the tax and its enforcement, but also because the U.S. Constitution requires that a state or taxing sub-jurisdiction have "nexus" with the transaction in order to exert its taxing power, and that determination rests precisely upon such considerations.
In the United States, some states and taxing authorities distinguish between the initial setup fee for Internet access and the monthly, hourly, or per-minute billing fee for actual access. Nebraska taxes the initial setup, but only if software is provided. It does not tax subsequent monthly billing. Tennessee, on the other hand, taxes both.
A basic issue in determining whether Internet access and Internet usage of various kinds is subject to sales tax, use tax, telecommunications tax, a combination of these taxes, or no taxes at all, is whether Internet access and usage is determined to be a "good" or a "service." If access to the Internet or usage is deemed a service, in general no sales or use taxation applies, while the rates and variants of telecommunications taxes that apply can be different. However, if access requires downloading of user software, some U.S. states (e.g., Massachusetts) may deem that to be a "taxable sale" of goods for their residents.
Collection of Internet taxes presents a complex array of issues. These include whether states themselves should collect the tax; whether the burden instead should be placed on the Internet service provider; the extent to which retailers or value-added intermediaries can be required to perform collection duties; and in all cases, the ways in which this collection can be accurately and meaningfully enforced by the taxing jurisdiction.
The 1998 Internet Tax Freedom Act was authored by Representative Chris Cox, R-CA and Senator Ron Wyden, D-OR and signed into law on October 21 1998 by President Bill Clinton in an effort to promote and preserve the commercial potential of the Internet. This law bars federal, state, and local governments from taxing Internet access and from imposing discriminatory Internet-only taxes such as bit taxes, bandwidth taxes, and e-mail taxes. The law also bars multiple taxes on electronic commerce.
The bill has been extended three times by the United States Congress since its original enactment and was last renewed on October 30, 2007 for 7 years.
French President Nicholas Sarkozy announced on January 8, 2008, that he would propose taxing the internet as a way to fund the country's state-owned television stations.. The proposition came as part of a broader plan for the French audiovisual network; the plan also included provisions such as the "total suppression of advertising on public channels" whose funding would then be aided by "an infinitesimal sales tax on new communication methods, like internet access and mobile telephony."..