By Gary H. London
In a world where “bricks and mortar” retail stores are fast losing ground to Internet-based sales, why is it that the state of California, as well as most other states, is not capturing sales taxes on these transactions?
It is estimated that there are $487 billion in retail transactions annually in the state, 2.6 percent of which, or more than $12.5 billion, are not being taxed. That equates to a loss to our state treasury of an estimated $1.1 billion at the (average) 9.1 percent tax rate in the state (it varies by municipality).
That amount is more than half of the $1.7 billion that the governor proposes to recapture by eliminating redevelopment agencies.
Not to worry. There are two bills working their way through the legislative process, Assembly Bill 153 and Assembly Bill 155, which are designed to rectify this situation. The key problem the bills would solve is that in the brick-and-mortar retail world, the consumer pays the sales tax at the register. In the Internet retail world, the consumer is actually required to report the sale. In other words, Amazon is not required to collect the sales tax.
This is a problem because few consumers actually report these purchases to the State Board of Equalization. These bills correct that problem by placing the collection burden for any retail sale, regardless of the platform, on the retailer.
Proponents include the California Retailers Association which recognizes the uneven playing field. I suppose the hope is that if consumers realize they pay taxes regardless of who they purchase from, then they would be more inclined to buy at the local store.
Can ‘Brick and Mortar’ Survive?
It may not play out that way. The legislation should be passed because it plugs a taxing loophole that is unfair to all of us as taxpayers. But I do not believe it will save brick-and-mortar retailers, who are under assault by the Internet.
While it can be true that the cost of a “big ticket” item is less if the consumer doesn’t pay the sales tax, it’s just not a big piece of the overall retail pie. It is usually not the taxing system which drives consumers to one store or another, whether it is “real” or “virtual.”
The point is that whether it is competition from the Internet or lower spending, bricks and mortar spending is doomed. Look around. Borders is in bankruptcy because digital reading is rapidly replacing actual book reading. The penetration is not yet large — only 3.4 percent of “reading” sales so far are digital (e.g. Kindles, iPads, etc.). But it is increasing exponentially.
And the impact is not just in the obvious candidates such as books, videos (Blockbuster is in Chapter 11) and music (when was the last time you bought a record packed in a cover?). The business plans of many if not most other retailers who formerly traded in a bricks-and-mortar-only platform have been contemporized to address changing shopping propensities. Among those who have become “early adapters” in the retail world include Restoration Hardware, Gap and Best Buy, all of whom are downsizing their stores.
Fiscal Zoning and Generation Y
However, taxation does play a bigger role in another problem involving retail. Cities in California are still incentivized to engage in what is termed “fiscal zoning.” This is the practice of encouraging and favoring the entitlement of commercial land uses over residential. Why? Because cities receive a share of the sales tax (1.85 percent of the approximately 9.1 percent that the state collects, it returns to the local jurisdictions).
But it makes for terrible land use. Especially now: Because of the competition from the Internet coupled with predicted lower consumer spending levels, we will need less commercial space. And after decades of incentivizing commercial land use, we have a shortage of housing. In an ironic twist on the fiscalization of land use, the commercial and housing worlds start to converge as people sit at home and make purchases on their iPads.
The problem is that since the recession, consumer spending, which was responsible for an astounding 60 percent to 70 percent of the nation’s gross domestic product, has diminished. Many people have less money or simply want to spend less of their money, and these habits may carry on for a generation. The biggest population cohort in our society is Gen Y’s — there are an estimated 82 million Americans who fit into this category — who are now young adults. Their entry into adulthood was accompanied by a recession. They have learned economic pain early.
Nationally, we have estimated that if there is just a 10 percent reduction in overall consumer spending over the lifetime of this single population group of Gen Y’s, it would reduce future demand for retail space in the nation by more than 217 million square feet during the next 20 years. We ran these numbers for San Diego, as well, and determined that it would reduce prospective new retail construction by some 2.5 million square feet. That is larger than Fashion Valley Shopping Center.
Amidst the “right minded” retail legislation of ABs 153 and 155, there is also some “wrong minded” legislation. State Sen. Juan Vargas from San Diego is sponsoring “big-box” legislation to require economic impact studies for all new big-box retailers. The idea behind Senate Bill 469 is to require that an independent economic study be commissioned for all new “big-box” development proposals to weigh in on whether the big box (think Wal-Mart and a little bit Target) emasculates existing community retailing.
Does a big-box retailer so dramatically impact the sales and revenues of local retailers as to forever change the dynamics of the community, much less put them out of business? They probably do. But in all of the studies that we have completed on this subject we have never found an instance where a new big box owed its success to “capturing” the sales that formerly went to existing retailers. Normally what they do is “recapture” or draw back the consumers who spent their money out of the market.
In other words, big boxes create efficiency in a marketplace. Along the way, there is no question in my mind that they also capture sales that formerly went to existing, in place retailers, particularly boutiques and supermarkets. But that is because of market efficiency: Consumers generally know where to find the best bargain. It seems to me that this proposed legislation is a stalking horse to the broader issue relating to wage levels and unionization. In other words, the supermarkets have union agreements with their workers, who get paid more than big-box workers. If supermarket revenues go down, wages and/or jobs are cut. This is all part of the wage and fiscal dialogue being staged across the nation.
Consumers will behave in the most efficient way. They will make more purchases on the Internet if they are not taxed, particularly if they are purchasing a “big ticket” item. If the state modifies the way they collect these taxes, this will undoubtedly return some of those purchases to the “bricks and mortar” store. But this leveling of the playing field — while critical from a taxing perspective — is likely to be only a temporary benefit for the retailers who are losing retail sales and market positioning to their Internet brethren. That is absolutely inevitable.
The same is true with the rise of the big boxes. They have, are and will impact the “small boxes.” Existing brick-and-mortar retailers have cause to be alarmed. They should give the consumer a reason to buy from them, and not from the big-box competition and not on the Internet.
Neither the taxation system nor stupid anti-big-box legislation will stop the rapid transformation of the retail sector any more than they could stop the slippage of our manufacturing sector to overseas competitors. They have to adapt on their own. Just ask the owner of a buggy whip store.