The Internet Tax Freedom Act (ITFA) of 1998 was enacted in order to prevent federal, state, and local governments from taxing Internet access and some related technologies. This is intended to promote the commercial, educational, and informational potential of the Internet by banning unnecessary barriers to Internet access.
How it works
Under the Act, no form of Internet access may be taxed at any level of government. No taxes may be imposed which which discriminate against Internet use, such as taxes on email or bandwidth.
However, under a grandfather clause, any state which had taxed Internet access before October 1, 1998, was allowed to keep doing so. These 10 states are Connecticut, Iowa, New Mexico, North Dakota, Ohio, South Carolina, South Dakota, Tennessee, Texas, and Wisconsin, along with the District of Columbia.
The Act does not prevent the application of existing sales taxes to commerce on the Internet. These sales would be treated in the same way as mail order sales. However, no additional taxes may be appled to Internet-based commerce.
Advisory Commission on Electronic Commerce
In its original form, ITFA also authorized the creation of the Advisory Commission on Electronic Commerce in 1999. Its purpose was to study national tax policy as it applied to the Internet.
At the conclusion of its mandate, the commission closed down. Its final Report to Congress on April 12, 2000, confirmed that eliminating disparate tax treatment of main street and Internet sales and reducing overall transaction tax rates would minimize the digital divide of state and local transaction taxes.
To this end, the commission recommended that the states should be given 5 years to simplify their state and local transaction tax systems in a way which would equilize the burdens of tax collection for remote and local sellers. It also recommended that the federal excise tax on communication services should be eliminated.
A complete tax moratorium on the sale of certain products available in both digital and tangible forms was also among the committee’s recommendations. Specifically, for out-of-state sales, sales tax could be applied by 1 state but not both, and no extra taxes could be charged by either state for the out-of-state sale. This moratorium was included when the Act was first extended.
Finally, the committee also noticed that Internet transactions, and specifically any taxation of Internet use, had a greater potential for consumer privacy violations. For this reason, any disclosure of personal information for tax collection purposes should be minimal.
Congress has extended ITFA 3 times since its original passing, most recently on November 1, 2007. The sales tax moratorium from this extension is valid until November 1, 2014.