Bad news retail sector - online sales taxes won't raise that much and would be a nightmare to administer

Online sales taxes have been a controversial topic for some time. The basic argument - boiled down - is that online retailers have an advantage over physical retailers who have to pay business rates/property taxes to operate on Main Street or the high street or in the local mall.

There’s also huge controversy over (largely) US behemoths, such as Amazon, using perfectly legal mechanisms to pay less tax in certain geographical jurisdictions than others. That’s led to saber-rattling from many quarters, not least in Europe where France tried - and failed - to get European Union states to sign up to a Digital Services Tax. That having crashed and burned, several countries are pushing ahead, in theory, with their own national taxes.

For example, for its part, the UK has done a lot of posturing about imposing an online sales tax to, somehow, help offline retailers to compete better. This is the same Brexit Britain that wants (needs) a trade deal with the US. Trump nearly went to trade war with France over the same idea. Biden’s administration is no friendlier when it comes to this topic.

Now a new study from the UK Institute for Economic Affairs (IEA) think tank has warned that introducing an online sales tax would be problematic for both retailers and for consumers already under pressure from the global cost of living crisis. It warns that - patently obviously - retailers would pass on the costs of any such new taxation to their customers. It would also, the Institute goes on, be an “operational nightmare”.

Problems 

UK finance ministers have suggested that an online sales tax would raise up to £2 billion in revenue, money that would apparently be used to reduce costs for physical retailers and help to level the playing field. But, says the Institute, there’s no evidence to suggest that would be the case. It argues: 

First, there is little hard evidence that online retail is systematically undertaxed, or that this has played a significant part in the decline of traditional High Street shops. Where digital businesses do pay less tax, it is usually for good economic reasons, or as a result of tax breaks that governments themselves have promoted.

Second, it is wrong to assume that the economic burden of taxes is borne by the companies that pay them. In this case, the additional tax on online sales would inevitably be passed on to real people, including to consumers, adding even more to the cost of living.

The real winners here might well turn out to be property landlords who would bump up rents.

Meanwhile the administration of any such online sales tax could be a nightmare as it would be hard to determine which transactions should be taxed, not least because many bricks-and-mortar businesses now have an online presence too. The Institute’s study warns:

The Treasury’s own consultation paper identified a long list of potential problems, including: i. how to define an online sale, and whether this should extend to cover ‘remote’ sales made by phone or post; ii. whether there should be exemptions, for example for ‘click-and-collect’ sales, or for particularly sensitive goods, such as food (business rates do not depend on the type of goods sold); iii. how to treat digital products, such as e-books or newspapers, which compete with purchases of print publications sold by physical shops; iv. whether the tax should only cover goods, or also services (bearing in mind that many transactions have elements of both); v. how to treat sales that cross international borders”

In other words, whatever theoretical benefit would come in terms of revenue generation for the government might most likely be wiped out by the associated costs of administration. All told, it might just be too much trouble and more of a gesture than a practical benefit, in the words of the study, “a clumsy solution to a problem that does not exist, or, at best, is wrongly diagnosed”.

The Institute concludes:

Above all, there is no clear rationale for an online sales tax. The [UK] Government says it is not intended to discourage people from shopping online. But if the only purpose is to raise more revenue in order to reduce business rates, this could be done in other, simpler ways.

This isn’t just a UK issue, it adds:

The share of internet sales in total retail sales shot up during the pandemic, but the latest figure (27% in April) is only a few percentage points above the long-term upward trend (ONS, 2022). This trend is global, and not driven by the UK tax regime. An online sales tax would be unlikely to change this. Indeed, the UK Government does not expect an OST to raise a large amount of money anyway. In part this is because it is not intended to actively discourage people from shopping online, so would be set at a low rate.”

In other words, it’s not going to make enough money to pay for the hassle involved.

There’s also a wider free market economy argument to be made here around taxing new business models that are disruptive to the status quo:

For example, does anyone remember Blockbuster? In the early 2000s Blockbuster was a familiar brand on the high street, renting out videos and DVDs from more than 800 shops around the UK. Ten years later the business was itself ‘bust’, rendered obsolete by online streaming.

The government of the day might have tried to prevent this. It could have imposed an additional tax on the downloading of entertainment via the internet. It could have reduced the business rates charged on video rental shops. The government could even have paid for customers to enjoy discounted rentals on certain days.

But not many people would have thought that these forms of intervention were sensible. Blockbuster was a casualty of technological progress and changing consumer preferences. Few were sorry to see it go. The free market soon found other uses for the properties that it occupied – and other opportunities for the people that it employed.”

Not that any of this negates the fact that there is clearly a problem now in terms of retail taxation that does need to be addressed:

Business rates themselves are also a mess and a fundamentally bad tax, partly due to their inflexibility and problems in the valuation process. But if the only purpose of an OST is to raise more revenue to finance a reduction in business rates, this could be done in many other, probably better ways. Options here include increasing VAT or extending its scope, introducing some form of land value tax, or raising corporate income taxes. However, it would of course be preferable not to go down this route at all.

My take

What we have at present is a mess - and one that’s dividing the retail sector. In the UK. Tesco, Sainsbury’s, Co-op, Morrisons and Kingfisher have come out in favor of an online tax, while the likes of John Lewis, Asos and Marks & Spencer (M&S) have not.

The words of Steve Rowe, until recently the CEO at M&S, resonate here:

It is wrong to pit online and bricks and mortar against each other. Our future requires a blend of digital services with physical retail so customers can shop however and whenever they want. When we get this right, stores can be a true source of competitive advantage – offering a modern, inspiring and convenient shopping experience.

In other words:

The simple fact is, you cannot tax people back to shops. You need to invest and adapt.

That’s the reality. But that doesn’t make for some opportunistic headlines by politicos looking to look tough.