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The Mirage of False Federalism in the Marketplace Fairness Act

Several years ago IPI began the Tenth Amendment Coalition because of our observation that state’s rights were being routinely trampled by the U.S. Congress.  Over the years we have had scholars publish papers about the Tenth Amendment to the U.S. Constitution, held events, hosted discussion panels, and generally have tried to increase the understanding of the importance and meaning of the Amendment, and hence state’s rights.

But something odd has happened along the way, or rather something that has existed for a long time has become more prevalent--false federalism.

False federalism is that knee jerk opposition to the federal government doing anything. We recognize that the federal government is doing a great deal it should not be doing, and in many cases has been doing things for years that should never have been shoehorned into the Commerce Clause, but that does not invalidate the Commerce Clause.  Rather, responsible elected officials should take the time and care to understand when the Clause is relevant and when it is not.

False federalism has been on parade recently during the several debates related to taxes and the Internet, including during the debate on the Marketplace Fairness Act. The spectacle reached a crescendo when self-proclaimed conservative after conservative waded into the fray of the recent House hearing arguing that states' rights is the power to tax out-of-state residents, as opposed to the power of the individual states to protect their citizens from other governments.  If their arguments are true, then be prepared to watch foreign governments begin to loot U.S citizens, and the U.S. politicians will have no principled grounds to stop them.  When foreign governments begin looting U.S. citizens they will see the folly of their ways.

In fact, those Congressmen have it all wrong.  States have never had such power, unless one counts that short amount of time that the states had powers under the Articles of Confederation.  Of course, it was this very action of looting across the state lines, taxing without representation, which led to the need for something better–the U.S. Constitution which included the Commerce Clause exactly as a means to stop the overly aggressive states from interfering with interstate commerce.

So what is the implication if Congress drinks at the mirage of false federalism?  It would mean the end of physical presence (the physical presence test is the test to determine the treatment of a person for taxation purposes and may rely on having a place of business in the jurisdiction) as a limitation in the ability to levy tax on a person, organization or corporation.  In other words, such false federalism leads to the end of any limitation on government power.

As George Pieler put it in “Return of the Cybertax: Lamar Alexander's Anti-Federalism,” published by IPI,

So long as the Internet Tax Moratorium was the law of the land, proponents of broadening the reach of state taxation had a serious tactical problem: how to convince politicians (much less the American people) to let states impose a multitude of diverse and conflicting taxes on economic activities that reached across state borders, in the face of a national policy of encouraging free-flowing electronic commerce. Removing that legal barrier provides a window for state and local tax-raisers to seize the revenue streams generated by the Internet and e-commerce.

Their main vehicle, the so-called Streamlined Sales Tax Project, is a blunderbuss aimed not at internet access per se, but at the whole universe of cross-border commerce including sales taxes on purchases made over the internet, but also by ‘old economy’ means such as telephone and mail order. The Streamlined Sales Tax was supposed to buy off business support by ‘simplifying’ compliance with a multitude of different sales tax rules, definitions, and procedures among the states, thereby opening the door to a multistate compact allowing states to establish a constitutional ‘nexus’ with out-of-state sellers that lack a physical presence in the taxing state. For a good, crisp discussion of the ‘nexus’ issue in general, see Bartlett Cleland, ‘Business Activity Taxes: The Next Internet Tax,’ March 21, 2003 (IPI Ideas; available at For a succinct discussion of the Streamlined Sales Tax, see Veronique de Rugy, ‘Internet Tax: The New OPEC for Politicians,’ a commentary published by the Cato Institute on November 19, 2002 and available at”

The issue of physical presence is perhaps the most important issue of the Internet age–is there any limit to government power or does the power of government now spread beyond the physical borders of a government entity, such as a tax authority, or is the power of government now limitless as the Internet means that any business anywhere can connect with customers in basically any governmental jurisdiction anywhere?

The question is fundamental.  Those who believe that government is a creation of the people, and hence should be limited need to say yes to the requirement of a physical presence.

And the people understand what is at stake, just as the Sons of Liberty did in 1773.  A recent survey by Penn Schoen Berland makes clear the thinking of the people.

When the poll explained that currently a person is only required to pay the merchant a sales tax if the retailer has a physical presence in their state, but that a new proposal would require a tax regardless of a physical presence standard, 84% of Americans indicated that they want the Internet sales tax law to stay the same.  Moreover, 60% of Americans overwhelmingly support current law and were willing to defend it, while 64% are likely to be vocal in support of current law in such ways as contacting a Member of Congress, signing a petition, etc. –perhaps even dumping tea in a harbor.

So what motivates those few of the political class to continue to drive madly toward the mirage?  In the end they are serving state government and tax authority interests instead of those of the people.  When the ruling political class did that in the British colony of America, what got dumped was that self-serving government expansionist political class.

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