Stateline Story

States Want a Say on Cyber-Space Calls

  • February 03, 2005
  • By Pamela Prah
Using the Internet to make phone calls may sound futuristic, but nearly 1 million tech-savvy people already are using the new technology, called Voice Over Internet Protocol (VoIP), and the number could climb to 16 million by 2008, according to Frost & Sullivan, a market research firm. More companies are jumping on board to offer Internet phoning. Comcast Corp., for example, said in January it hoped to attract 8 million customers to the cable giant's new cyberspace phone service over the next five years.

"This is definitely a big issue," said Nick Steidel of the National Conference of State Legislatures. "There are quite a few entanglements regarding regulation, taxes and fees."

The problem for states is that the technology is so new and is changing so fast that no one has decided yet how to regulate it or even what to call it. A major question for states is this: Is Internet-based phoning a "telecommunications service," which states and the federal government generally regulate and tax, or is it an "information service" such as e-mailing that, for the most part, isn't subject to state regulation?

The difference is important. Among other things, companies that provide interstate "telecommunications services" must chip in and pay into special funds that in 2003 provided some $4.6 billion to help poor people get discounts on telephone services, wire rural areas and link public schools and libraries to the Internet as part of a program called the federal Universal Service Fund.

Currently, all telecommunications companies that provide service between states, including long-distance companies, local telephone companies, wireless telephone companies, paging companies, and payphone providers, are required to contribute to the universal fund.

Twenty-four states also have their own state programs, collecting another $1.9 billion to help make sure the poor and rural areas have telephone service. The more that people switch and go online to make calls over the Internet, the less money for these services because there are fewer old-fashioned phone calls generating fees.

Separate from fees is the issue of state taxes on phone calls. On the tax front, Congress last year made clear that states and cities can continue to collect taxes on telephone services, even over the Internet, but only through 2007. Members of Congress already are pushing to stop states from taxing cybercalls. States and localities collect some $12 billion in telecom taxes.

"It's a huge issue," said Michael Mazerov, a state tax expert at the Center on Budget and Policy Priorities, a Washington group that focuses on policies that affect the poor. "If the laws have ambiguity as to whether (Internet calling) continues to be taxable, then a substantial chunk of that $12 billion is at risk," according to Mazerov, who wrote a paper on the topic.

Internet-based phone companies argue their services are akin to sending e-mails because the technology essentially converts voice signals to packets of information that are sent over a high-speed Internet connection. Critics contend that a telephone call is a telephone call regardless of whether it is made using a traditional circuit-switched system or the Internet and that all should be covered by the same federal and state requirements. Cell phones generally have to comply with the same rules as traditional phones.

Internet companies "shouldn't have a special advantage that other carriers don't," said Brian Adkins, legislative director of the National Association of Regulatory Utility Commissioners (NARUC), a trade group of state telecom regulators.

A coalition of Internet phone companies is voluntarily forking over some state and local 911 fees. But it argues that the service is "a new frontier in communications" and that policy-makers should refrain from applying traditional telecom regulations that could stifle Internet phoning benefits, said Jim Kohlenberger, spokesman for the coalition. He said benefits include more choice and lower prices for consumers, greater competition and new jobs. "We recognize that states have an important role, but we need to find new ways of getting at these issues," he said.

Even states aren't sure what to think. The Florida Legislature in 2003 chose not to regulate telecommunications services offered over the Internet, and similar proposals are pending this year in Colorado and Virginia . Colorado state Rep. Matt Knoedler (R) said he introduced the Colorado measure ( HB 05-1158 ) because he wanted to make sure cities didn't get addicted to slapping local taxes on the cybercalls. He said 30 percent of a local telephone customer's bill in Colorado is state, local and federal taxes.

Several states, however, are challenging recent moves from federal courts and regulators that essentially strip states of some authority to regulate Web phone services in the same way they regulate traditional phones. California, Ohio, Minnesota and New York are appealing a December 2004 federal appeals court decision that Minnesota didn't have the right to regulate an Internet phone company called Vonage because it was nearly impossible to tell whether the call was local, interstate or international in nature. Since the service couldn't practically be separated into "intrastate" and "interstate" components, federal regulations trumped.

New York's Public Service Commission said it feared the ruling would prompt traditional phone carriers to switch their traffic to Internet providers to avoid state regulation and taxes.

"States are worried about the revenue, but, let's face it, there also are some jurisdictional issues here. ... States have traditionally had this authority, and now the feds are just going to come in and preempt it. That's going to create some tension," said Michael Keegan, director of tax and fiscal policy for the American Legislative Exchange Council, a group that represents conservative state lawmakers.

But states that want to regulate cyberspace calls still have hope. Neither the Federal Communications Commission nor the courts have addressed the bigger issue of whether Internet-based phoning is a telecommunication or an information service. Industry observers expect an FCC ruling on the matter later this year. Congress, too, is expected to weigh in. The Telecommunications Act of 1996 is due for an overhaul, and observers expect Web-based phoning to be a major component when lawmakers take it up. "This is a debate about what is the future of telecom oversight, and ... (Internet phoning) is a main issue," Adkins of NARUC said.

The nation's governors and other state and local government leaders have been working with top telecom business leaders since December to come up with ideas to revamp state and local telecommunications tax laws. "It's important that we come together for a system that is fair, equitable, predictable and more simple," National Governors Association (NGA) chairman Virginia Gov. Mark Warner (D) said in December after the first meeting. "We recognize that this is a big challenge, but the best news is that industry was at the table and government was at the table, we've agreed to continue with these discussions," Warner said in a statement.