TAXING NET SALES.

Charles Collins leads an effort to make sure the state gets its due from e-commerce on the World Wide Web.

James Hill Stockton, third-generation owner of Norman Stockton Inc., has developed a sixth sense for Internet shoppers. They're the browsers who check the Winston-Salem haberdashery's high-end suits -- some selling for up to $1,200 -- then leave without buying. A few weeks later, they're back, seeking alterations on suits exactly like those they were perusing. Where did they get them? The Internet. By buying from online retailers, they can skirt paying the 6% state sales tax, saving themselves up to $72 on a $1,200 suit.

Stockton privately calls them chumps and has started making them pay dearly for alterations, which are free if you buy from him. But he knows they are onto something. He has joined other bricks-and-mortar retailers lobbying Congress to pass legislation that would help states collect sales taxes on purchases from out-of-state vendors. "I'm not saying tax the Internet. Let's just have a level playing field."

He didn't need to go to Washington, D.C., to find a champion for his cause. One works in Raleigh. Charles Collins, director of the N.C. Department of Revenue's sales-and use-tax division, is responsible for an estimated $5 billion a year of state taxes. But these days, he's more concerned with the $110 million to $140 million a year he doesn't collect -- from remote sellers such as catalogs, television shopping channels and the Internet "e-tailers." It's the Net that really has him worried. The explosive growth of dot-com retailing -- Forrester Research Inc. estimates that $20.2 billion of merchandise was sold over the Web in 1999, up from $8 billion in 1998 -- could double the amount of lost N.C. sales tax by 2003, Collins says. Without a solution, that amount could continue to grow.

As co-chairman of the Streamlined Sales Tax Project, a coalition of state revenue officials, Collins guides the latest effort to create a system for states to collect sales taxes on Internet and other out-of-state transactions. His work has transformed him into a minor celebrity. Before he started the project, he typically got two or three calls a year from reporters with questions on North Carolina tax issues. Now, after 30 years in the state Revenue Department, he finds himself fielding four or five calls a week from reporters around the country.

Collins, 54, still talks like a bureaucrat, but these days he is a bureaucrat on a quest. "Some of those other projects, one of the reasons they were never able to come up with recommendations is because they had voting members from state government, local government, business -- they had so many varying backgrounds and motives that I don't think they were really ever able to come together. The people at the table in our group are the ones who have the experience, who know what it takes to come up with compliance."

Not everyone is excited about the prospect of closing the sales-tax loophole. Some in the high-tech community are keeping wary eyes on Collins and his group, concerned that the tax collectors won't be sensitive to issues facing business, particularly dot-coin start-ups. "We sort of have a love-hate relationship with them," says Mark Nebergall, spokesman for the Washington, D.C.-based Internet Tax Fairness Coalition, which represents high-tech companies. His members don't believe online sales should be exempt from taxes, Nebergall says, but they want a solution that is fair, uniform and simple to implement.

And they're not just whining about losing a built-in discount for customers. In the United States, there are 7,000 separate taxing jurisdictions levying sales taxes at 30,000 different rates. Major retailers have in-house tax departments to deal with the complex system.

E-commerce groups say start-ups would be hard-pressed to collect and remit taxes at all those varying rates. "What we are trying to make sure is that anything they do, they get it right," says Larry Good, vice president of the Electronic Commerce Association, another Washington high-tech lobbying group. "We see no point in going through this exercise and coming up with something faulty. It's not that simple. We have been working with various state groups for a year and a half now. In that time, there have been a number of notions that simply would not have worked."

In an unusual reversal of roles, the high-tech contingent is urging a go-slow approach, while traditional bricks-and-mortar retailers want swift, decisive action on the sales-tax issue. "Our most important issue is to get parity between brick-and mortar merchants and Internet merchants," says Andy Ellen, general counsel of the North Carolina Retail Merchants Association. "Our people here in North Carolina, who are good corporate citizens, are getting pushed further and further into the hole and are put further and further at a disadvantage."

Disadvantage in this case is a relative thing. Taxable retail sales in North Carolina have continued a steady climb this year despite the rise of the Internet. For the 12 months ended in April, those sales reached almost $11.5 billion, about a half-billion more than the previous year. The gripe traditional merchants have is that they can see a fast train coming in the form of the Internet, and they want to at least slow it down by eliminating the sales-tax advantage. "The Internet is going to blow away the effect that catalogs had," Ellen says.

The debate that Collins has inserted himself into is an old one, with its beginnings in a time before Internet use took off. Sales taxes and their counterpart, the use tax (collected on items bought in one state for use in another) have been around since the 1930s. Retailers with shops collect sales tax from customers and remit the revenue to the state. It wasn't until the 1980s, when catalogs and, later, television shopping programs mushroomed, that states mounted a concerted effort to collect "lost" taxes. Many, including North Carolina, passed laws requiring catalog retailers to collect and remit sales taxes to the states in which sales were made. Catalog companies balked.

The fight went to the Supreme Court, which issued a landmark ruling in 1992. The state taxes passed legal muster, the court ruled, but the complex tax-collection system represented an undue burden on remote retailers and would hamper interstate trade. The decision mandated that only companies with a physical presence in a state had to collect the sales tax. In other situations, the state would be responsible for collecting the tax from individual consumers.

That led to a series of attempts to get consumers to cough up unpaid taxes. North Carolina and other Southeastern states track big-ticket items such as boats, planes and jewelry on which sales records are kept. Collins' office routinely reviews reports it gets from other states and sends notices out to consumers, advising them that they may owe sales taxes. That system brings in about $7 million a year.

North Carolina also started a voluntary reporting system as part of annual income-tax filing, asking individuals to declare out-of-state purchases and pay sales tax on them. During the 1990s, the state received from 1,500 to 4,000 voluntary tax declarations and collected $250,000 to $400,000 each year. The declarations required a separate tax form until 1999, when the state added a line item on its personal-income-tax forms. That meant the sales-tax issue stared taxpayers in the face, putting a scare into enough of them that the state expects to collect $4.5 million this year. That's chump change, considering that the state estimates more than $100 million will go unpaid. The prospect of getting its hands on that revenue provided impetus for the state to seek a more comprehensive solution.

With the backing of the Merchants Association, the General Assembly authorized the Department of Revenue to work with other states on a solution. Enter Collins, who worked the phones to find like-minded state sales-tax collectors. In March, after a meeting in Denver, revenue officials from Wisconsin, Michigan, Missouri, South Dakota, Wyoming, Tennessee and North Carolina joined forces, naming Collins and Diane Hardt of Wisconsin co-chairs. "She and I had strong support from our governors and legislatures," Collins says. "We were familiar with the issues. We agreed to accept the challenge."

The group adopted the name Streamlined Sales Tax Project to reflect its stated goal of finding a simplified, workable method of collecting taxes on remote sales. Most of the group's work over the next few months was the sort of stuff only a tax wonk could love: drafting uniform definitions for every conceivable taxable item; devising uniform administration and audit procedures; figuring methods for assessing, collecting and remitting taxes to the states. Along the way, other states joined. At last count, 28 had become full members. Eleven others have not gotten legislative support but participate as observers.

Still, the group can claim participation from 39 of the 45 states that levy sales taxes. "There is a tremendous amount of interest in the work of the project," Collins says. Interest yes, but money from those states is another factor altogether. The project itself has no budget; individual states pay the expenses of project committee members when they meet and work through the group's various proposals.

One of those is to demonstrate that a software system can be devised to compute the correct tax based on the location of the buyer. The pilot project is being tested in North Carolina, Kansas, Michigan and Wisconsin. The four states have contracted three high-tech companies to create software capable of computing sales taxes based on buyers' ZIP codes, with the sellers paid a percentage of the taxes they collect.

But as Internet lobbyists point out, it's not as easy as it might seem. Tax districts overlap, and figuring out where the lines fall in residential areas can be daunting. A ZIP code might not provide information precise enough to tell which local tax rates and exemptions apply. Further complicating matters: Counties and cities are enacting special-project sales taxes to pay for roads and public-works projects.

Though they have their doubts, e-tailers aren't rejecting it out of hand because they know pressure to resolve the issue is mounting. "We think it is inevitable," Good says. "That is the reason we are trying to steer it in a direction our members can live with."

Individual companies are more open in their opposition. Take How Stuff Works.com Inc. of Cary, a start-up Internet company ("How How Stuff Works Works," October 2000). As its name implies, the company provides information on the Internet about how stuff works. Want to know how chewing gum is made or how a cell phone operates? It's all there, for free.

How does How Stuff Works make money? Mostly from advertising, but also from an on-line retail store that peddles about 300 different items, including T-shirts, mugs, toys and science-project kits. If you live in North Carolina and buy something, the company collects North Carolina sales taxes because How Stuff Works is headquartered here. The same goes for California, where the company maintains an office. But if you live anywhere else in the country and make a purchase, it's your responsibility to pay the sales tax in your state.

And that's the way How Stuff Works wants to keep it. Retail sales account for less than 10% of revenue. But that percentage is growing, and the company doesn't want to see anything done to stunt that growth. "Five percent can make you or break you," says David Almeida, How Stuff Works' director of distribution and customer service. "Even if it's 3%, it can make you or break you. ... If you analyze the economy as a whole, all the growth over the last five years was driven by the Internet. I wouldn't say it's a matter of us deserving a tax break. It's a matter of not trying to kill the Internet."

Press him and Almeida acknowledges that Internet sales will be taxed someday. He just wants more time to develop his business without the added cost of sales taxes.

Not all Internet companies agree that delaying the inevitable is the best course. Several have signed up to participate in the pilot project in North Carolina, although Collins would not identify them. They have agreed to share information on sales with one of the three software companies running the pilot program. On each sale, the software company would compute the tax, which the retailer would collect from the buyer and pass along to the software company. The software company would be responsible for maintaining tax records and passing along the taxes to the appropriate state collectors.

Those companies will be set up as third-party payers who can link with remote vendors the same way shippers already do. Using the third-party payer, an Internet company will be able to assess the appropriate sales tax and send the amount to the third-party payer, who will then remit it to the state. The company is not responsible for the tax. The third party is. The company just tells the third party enough information so that the third party can figure out the tax. The retailer's participation would be entirely voluntary.

If the pilot project works, it would be opened up to other states. Collins still has no authority to require an out-of-state retailer to collect the sales tax. The pilot project -- in fact, the effort in general -- revolves around devising a uniform, simple system that will satisfy states and merchants.

That could remain a problem. As one high-tech lobbyist noted, Collins' group seems more intent on using technology to collect taxes than on simplifying the system to make it more palatable. To which Collins replies: guilty as charged. Despite his group's name, he is not out to replace state taxing systems but to find a way they can operate across state lines. "You have to start somewhere. The burden is on us to come up with a system that begins to simplify and modify and to prove that it works."