A sales tax is a tax that is levied on the sales of goods and, in some cases, services. Sales taxes apply to transactions and are based on expenditures. Depending on what types of exemptions are allowed, businesses as well as individuals pay sales taxes. The retail sales tax and the value-added tax are the two most common types of sales tax that are applied to a broad range of goods. The excise tax is a type of sales tax that is applied to a specific commodity or type of goods, such as cigarettes, gasoline, and alcoholic beverages.

Since World War II sales and excise taxes have become a major source of revenue for state and local governments. In the United States 45 states and the District of Columbia have a general sales tax. Mississippi became the first state to apply a general sales tax in 1930. During the 1930s 24 states adopted a sales tax, followed by 6 states in the 1940s, 5 states in the 1950s, and 11 states in the 1960s. Currently Alaska, Delaware, Montana, New Hampshire, and Oregon do not have a state sales tax. In addition, 31 states permit local governments to levy their own sales tax.

In the United States the general sales tax is strictly the function of state and local governments. The United States is the only developed nation that does not levy some type of federal general sales tax. A national sales tax usually takes the form of a value-added tax (VAT). VATs are common in Western Europe, Canada, and other developed countries. A VAT is assessed on the value added at every stage of production and distribution. At each stage the seller pays a tax on the value added, or the difference between the seller's cost and the selling price. Then, the purchaser applies for a credit on that portion of the VAT that has already been paid by the seller. At the retail level, the different VATs that have been paid along the way are incorporated into the selling price to the consumer. The net result is that all of the businesses involved in production and distribution receive credits for the VAT they have paid, and the cost of the VAT is passed along to the consumer.

While the VAT is a multistage tax, the general sales tax that is collected at the retail level is a single-stage tax. The sales tax is usually an ad valorem, or flat-rate, tax that is based on the price of the goods or services being taxed. A VAT is also usually an ad valorem tax. On the other hand, excise taxes are usually assessed on a per unit basis (e.g., per gallon of gasoline or per package of cigarettes).

The tax base for sales tax was originally confined to merchandise or tangible goods. More recently, sales tax has been applied to services as well. One reason for adding services to the sales tax base is that services are accounting for a greater portion of the U.S. economy each year. The size of a state's sales tax base is further affected by any exemptions that have been granted. Sales of goods that will be resold are usually exempt from sales tax. States that have adopted a component part rule exempt ingredients and component parts of products that are manufactured for sale. A direct-use rule extends the sales tax exemption to the sales of machinery, equipment, fuels, lubricants, and similar items used directly in industrial or agricultural production.

Another area that may be exempt from sales tax in some jurisdictions is that of necessities. More than half of all states with a sales tax exempt prescription drugs, for example. Many states do not charge sales tax on food unless it is purchased in a restaurant or has already been prepared as a meal for carry-out. For every exemption granted, a state or local government loses a certain amount of revenue. In addition, a long list of exemptions may make it difficult for the state to administer the tax and for retailers to properly collect it.

Exemptions of specific categories of goods and services from the sales tax are often made in an attempt to make the sales tax more equitable. It is generally recognized that a sales tax is regressive. That is, individuals and families with lower incomes pay a greater proportion of their income for sales taxes than people with higher incomes. By exempting food and other necessities from the sales tax, it is argued, lower-income families are relieved from part of their tax burden.

Businesses as well as individuals pay sales taxes. To date there has been no attempt to exclude interbusiness transactions from sales taxes. To attempt to do so would greatly complicate the administration of the tax. While businesses in states that have adopted a component-part rule or direct-use rule may enjoy exemptions, and goods purchased for resale are also usually exempt, nevertheless businesses and individuals alike must pay the same sales tax on the goods and services they purchase.


Under the Internet Tax Freedom Act (ITFA) passed in 1998, Internet transactions are free from any new federal, state, and local taxes for a period of three years. With the rise of electronic commerce, state governments had been looking at sales taxes on Internet transactions as a possible new source of revenue. When Congress passed the ITFA, which was opposed by the National Conference of State Legislatures, it prevented states from collecting sales tax on Internet transactions for three years. In addition, under the U.S. Supreme Court's 1992 decision in Quill Corp. v. North Dakota, states are not allowed to collect sales tax on electronic purchases from companies that do not reside in the state.

[ David P. Bianco ]


Fox, William F., and Matthew N. Murray. "The Sales Tax and Electronic Commerce: So What's New?" National Tax Journal, September 1997, 573-92.

Hamilton, Amy. "Nation's State Lawmakers Delve into Internet Taxation Issues." Tax Notes, 18 August 1997, 888-90.

Houghton, Kendall L., and Jeffrey A. Friedman. "Lost in (Cyber)space?" Tax Notes, 15 September 1997, 1483-85. Lukas, Aaron. "Don't Bash Internet Tax Freedom." Nation's Cities Weekly, 15 February 1999, 4.

"Sales Tax Revenue." Governing, January 1999, S14. Sheppard, Doug. "Quill Nexus Protection May Not Last Forever." Tax Notes, 26 October 1998, 422-23.

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