Revenue Implications Grow as More Kentuckians Shop Online

To explore the potential impact of these trends, the Center presents alternative annual forecasts of lost state revenue. In the year 2004, the Center estimates that revenue losses from unpaid sales and use taxes could range from a low of about $8 million to a high of $57 million. Cumulative losses over the six-year period examined, 1999-2004, could be as high as $187 million. The Center’s projections are based on a range of factors, including the potential volume of electronic sales, the lower rates of Internet use and consumer expenditures found in Kentucky, and likely rates of compliance with tax laws.

These survey results also suggest that many of Kentucky’s online buyers will not likely pay the taxes they owe the state. Nearly half of Kentuckians (45 percent) reported that they were either "somewhat unlikely" or "very unlikely" to pay the use taxes due the state. Importantly, however, a significant portion of those surveyed (60 percent) reported that they had never heard of the use tax they were expected to pay on online purchases.

Because sales and use taxes presently comprise roughly 35 percent of Kentucky’s total general fund revenue collections, the growth of online commerce could have serious implications for the state budget, as millions of dollars in unpaid use taxes are lost. However, the Streamlined Sales Tax Project and the Uniform Sales and Use Tax Administration Act represent attempts to simplify sales and use tax collection laws across the country and will likely lead to increased collection of these taxes by retailers. Nonetheless, some analysts have cautioned that Internet-based tax-compliance systems will not be in broad use for years.

Consequently, if online purchases continue to increase while use tax compliance remains low, the sales and use tax base will gradually erode. Other sources of revenue will have to be found or state expenditures will have to be adjusted accordingly. Also, the use tax is regressive, since individuals with higher incomes appear to be more likely to shop online and less likely to comply with the use tax requirement. Thus, the results presented in this analysis suggest that tax reform may be in Kentucky’s future.