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Online Travel Taxes: DC Files Lawsuit, Santa Monica Loses Theirs

4 min readBy: Joseph Bishop-Henchman

Martin Austermuhle writes on DCist, a website focusing on the local happenings in Washington, that the city government has filed a lawsuit against “deadbeat” online travel companies:

[Mayor Vincent] Gray and Acting Attorney General Irv Nathan announced that the lawsuit would target four online travel giants — Travelocity, Orbitz, Expedia and Priceline — for failing to pay full taxes on hotel rooms they sell in the District. (In early February, legislation went into effect in the District that forces online travel companies to pay taxes on the full cost of the room, not the discounted rate.) Nathan estimated that the losses amounted to between $4 and $10 million a year, and that the lawsuit would be demanding that the companies pay what they owe dating back to 1998. He also said that 40 similar lawsuits have been filed around the country, and three attorneys in his office would be responsible for litigating the case.

DCist seems to think this is just getting the online travel companies to comply with the new law. If so, then why is D.C. seeking revenue from this new taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. (enacted last month) going all the way back to 1998? If DCist had investigated a little bit, they would have found that what’s going on here is highly problematic.

D.C. collects a tax based on the amount of revenue a hotel or motel gets from a paying guest. In many places, this and other tourism taxes (rental car taxes, meals taxes) greatly exceed all other tax rates, for the simple reason that it’s a tax on out-of-towners and they can be made to bear it with little political opposition. There’s no economic rationale for imposing such huge taxes on hotel stays, since the vast majority of local government spending programs (schools, social services, police) are used by residents, not non-residents. Nevertheless, these taxes exist but at least they are restricted to narrow uses by non-residents within the jurisdiction.

D.C. is trying to go beyond that, now; the new law extends the hotel tax to online travel services. Generally, services are exempt from D.C. sales taxA sales tax is levied on retail sales of goods and services and, ideally, should apply to all final consumption with few exemptions. Many governments exempt goods like groceries; base broadening, such as including groceries, could keep rates lower. A sales tax should exempt business-to-business transactions which, when taxed, cause tax pyramiding. : if you hire a lawyer or an accountant or a yoga instructor or a travel planner, sales tax is not owed on the invoice. D.C. isn’t seeking to tax them (they’re all here and they vote, after all), but they are seeking to tax one particular type of travel planning: the online companies that aren’t here in D.C. And the tax will not be the 6% sales tax, but the much higher hotel tax.

If D.C. wants to tax services, they have the legal power to do so. But they ought to tax all services neutrally and do it across-the-board, not single out one service for a specially high rate. The hotel tax is meant to be collected on amounts paid by guests to hotels, not by guests to other service providers. D.C. residents should be willing to pay for the services they demand, not impose them onto the backs of out-of-state individuals and businesses.

Attorney General Nathan is correct that some 40 lawsuits have been filed across the country on the issue, but he didn’t mention that cities and counties have lost almost all of them. The most recent loss was in Santa Monica, California, where the superior court struck down an attempt by that city to collect “back taxes” from online travel companies, identical to what D.C. is doing here:

The hotel transaction is taxed by the City because the hotel’s physical location is in the City. The revenue gained by the entity that provides the physical location (hotel) for occupancy within Santa Monica is the amount paid to the hotel.[…]

Santa Monica argues that excluding from taxation the amount paid to the OTC [Expedia] by the transient [hotel guest] as an increment over and above the wholesale price of the room charged by the hotel operator lies outside the intent of the statute and deprives the Santa Monica ordinance of all serious purpose. This is particularly so, according to the City, because the contractual arrangements between the OTCs and the hotels determine the price that can be charged by the OTCs to the transients. The means to restore rationality to the tax determination, argues the City, is to look at the amount paid by the transient and to tax that amount as the culmination of the transactions.

The problem with this argument is that the language of the Santa Monica ordinance does not support an intention to impose tax on all amounts paid by the transient. Rather, as discussed in detail above, the structure of the tax is based on amounts paid “to [a] hotel,” and the ordinance further contemplates that such an amount may be tendered to the hotel by an intermediary on behalf of the transient.

City of Santa Monica v. Expedia, Inc., et al., Los Angeles Superior Court West District, Case No. SC108568 (decided Mar. 16, 2011).

D.C. would be better served reassigning those three attorneys to more productive work.

More on online travel company taxes here.