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A 21st Century Way Of Collecting Sales Taxes

By Dan Haar

April 03, 2013

If the state could add $200 million a year to its coffers without raising tax rates, giving handouts to corporations, borrowing on Wall Street or begging the Feds for more cash, most people would say, "Do it!"

That's what a start-up firm from New York might be able to pull off for Connecticut, with what it says is a simple software program — sending sales tax dollars directly to the state almost as soon as they're rung up at the cash register.

The way state sales taxes have worked for decades, merchants charging the tax have been allowed to wait as long as four months before sending the state its share of taxable sales on food, clothing, screwdrivers or whatever. Some of that money never makes it to the state — the retailer goes out of business or just plain doesn't pay, and hopes the state Department of Revenue Services never catches up.

Capturing that money before it disappears is easy, at least for credit card purchases, say the partners of the New York firm, Sales Tax Automated Collection, or STAC Media Inc. The key is to install software — which STAC claims it has patented — that allows credit card processors to identify what money belongs to the state, and divert it directly into state accounts.

The merchant would never handle the sales tax on credit card sales.

"You cannot manipulate a credit card transaction," said Pino Luongo, one of two partners in STAC.

"It's silly to think of how simple this is," said William Gordon, the other partner.

Simple in concept, at least. Turning on the switch is a different story — technically and politically.

There are other methods of capturing state sales tax dollars, notably a system that lets merchants set up escrow accounts to hold the money before it's finally handed over to the tax collectors. And now, there's a debate at the state Capitol about which method, if any, makes the most sense.

Retailers are opposed. Diverting the money directly would not work smoothly, they argue, in part because only store owners know which purchases are taxable and which ones are wiped out by returns, which can happen weeks later.

And Kevin B. Sullivan, the state's tax commissioner, wants to take the time to make the right decision — even though, STAC's principals say, we should be in a rush as hundreds of millions of dollars are slipping through the cracks every year.

"Fortunately or unfortunately, Kevin is taking a remarkably simple concept and making it more complicated," Gordon said.

Sullivan, a former lieutenant governor and state Senate President, served at the Capitol alongside William A. DiBella, a developer and chairman of the Metropolitan District Commission, who's been hired by STAC to help sell its system in Connecticut. Sullivan is right to be skeptical since it's technically a challenge just to change a tax rate — let alone to alter the way money flows.

Either way, the stakes are high. How high? No one knows because we can't measure the amount of money the state never sees. The sales tax in 2013-14, at 6.35 percent, will raise an estimated $4.1 billion, second only to the $8.95 billion personal income tax.

Credit card purchases account for two-thirds of all transactions, and a higher percentage of total spending. In the current system, the processor sends the merchant the entire amount charged; it's up to the merchant to send in the sales tax to the state, typically monthly for businesses of good size.

The amount that's never sent into the state is at least 4 percent by most expert accounts, and could be as high as 10 percent.

Using cautious math, that's at least $130 million a year for Connecticut, probably a lot more. Think of that total in two months, when lawmakers huddle without sleep for three straight days and nights trying to figure out how to keep the parks open without raising income tax rates.

And that savings doesn't even count taxes on online purchases. That's a whole different issue that Sullivan and others are also addressing. But clearly, an automated system at the credit card processor will make collection of the sales and use tax in online purchases a heck of a lot easier, when and if we can agree to that common-sense change.

Under STAC's method, the processor sends the merchant only the purchase price, and sends the tax directly to the state.

For now, the debate is over a bill before the legislature, which would require Sullivan to study the various options, pick the ones that work and put them in place. Sullivan would prefer to study the issue and get back to the legislature by next Jan. 1, and let the legislature decide in 2014 what to do.

The merchants, through an industry group, say this whole experiment might not work.

"Altering the current process to require credit card companies to remit sales tax to the state of Connecticut, would not increase sales tax remittance," said Tim Phelan, president of the Connecticut Retail Merchants Association, in testimony to the legislature's finance committee. "It will, however, increase the cost of credit to consumers because these regulations would cause credit card companies to invest in new software and create new processes in an attempt to comply with these proposed regulations."

Phelan has a point about cost. As it stands now, merchants typically pay the processors and the credit card issuers between 2 percent and 3 percent of each transaction — more than $1 billion a year. The STAC method, paid by processors, would add about $8 million a year for all Connecticut collections, Gordon and Luongo said.

That's tiny, but neither the merchants nor the credit processors should pay for it — rather, the state should pay. It's the taxpayers who would see a benefit and there's no reason to further burden store owners who would lose the benefit of holding millions of dollars for months before mailing it to Sullivan.

One large processor, First Data Corp., said it helped develop a business called Pay My Taxes, which sets up escrow accounts for sales tax money – a method that would compete against the STAC system. That can be done at no added cost, a First Data executive testified.

Pay My Taxes was developed along with Peter Pavlidis, whose family owns Christie's Diner in Torrington. In 2008, Pavlidis testified, the state shut down his family's Rainbow Pizza because the business didn't have the sales taxes it had collected from customers.

"At that point I said to myself, 'You know, if I could escrow my taxes like I do my real estate taxes, I wouldn't be in this mess.'" Pavlidis said. "That's when I started the company Pay My Taxes LLC in partnership with First Data Corp."

Escrow accounts, which would be competing methods against the STAC system, are not as lock-tight as automated payments to the state, of course. Under one option being discussed, only merchants that are delinquent would be forced to use one of these methods.

Something is going to happen here, because we have graduated beyond 1980s technology under which store owners pore over records for months before figuring out how much to send in. Merchants that send in their taxes on time should not object to progress, and giant chains that are already fully automated have no right to sit on the money in the first place.

STAC is working with several states including Texas and New York, none of which has made a commitment yet. "Somebody is going to say 'Hey, I'm not going to waste another $100 million before I take my finger out of my ear'," Gordon said, demonstrating why he needs the well connected DiBella to deliver a smooth sales pitch.

Regardless, Gordon is right. Gordon and Luongo say their patent covers any system that splits sales tax at the processor and sends it to states — their software or anyone else's.

Whether they do or don't have a lock on the idea, it seems easy to do and, as Sullivan agrees, it's probably where we'll be in five years. We can wait till next year and get it right. But with the windfall, the winners should be the taxpayers — with a lower sales tax rate and a higher collection rate.