Going to the Mattresses Over the Bed Tax

Dan Bucks, the director of the Montana Department of Revenue, recently went online to check out hotel prices in Billings, the state’s most populous city, which is some 250 miles from his office in Helena. Bucks had no immediate plans to make the four-hour drive east. Instead, he wanted to check out his theory that online travel sites were shortchanging the state of Montana.

The travel sites and Montana officials, led by Governor Brian Schweitzer, a Democrat, have been at loggerheads for months over the state’s bed tax on hotel stays. Schweitzer publicly rebuked Sam Gilliland, the head of Travelocity’s parent company, during a September visit that Gilliland paid to Montana to launch an effort to promote tourism in the state.

The upshot was that Bucks instructed his agency to sue a dozen interstate travel Web sites that sell stays at hotels. Bucks suspects the companies are not turning over to Montana the 7 percent tax it legally imposes on these stays. What he saw in the search confirmed his fears, he says. “They have been collecting at least as much as the full tax and more, keeping part of it for themselves and shortchanging our tourism promotion budget and our general fund.”

Montana’s fight with the travel sites may be unusually public and personal, but it is not the only state to take on the issue. Oklahoma filed suit a week before Montana; Florida has filed one as well. Agencies in other states have started preliminary investigations. New York passed a law this year to explicitly include the sites’ fees under its bed tax, and this is expected to bring in $20 million annually for the state. Likewise, North Carolina expects to collect $1.7 million a year because of similar changes that go into effect in January. All told, Bucks counts 68 lawsuits that have been filed around the country on the matter, not only by states but by localities, which in most places are the hotel-tax collectors.

Splitting the bill

At the heart of the dispute is the question of whether the charges that travel sites collect are part of the hotel’s room rate or a separate fee for a separate service. That may sound like splitting hairs, but it determines whether that portion of the payment is taxed and, if so, at what rate.

Using a hypothetical example, imagine that a visitor books her hotel online and pays $100 for the night. Unseen to her, that money would be divided between the hotel and the travel site, say $80 for the hotel and $20 for the site. Many states and localities argue that the site should pay taxes based on the $100 total. In Montana, that would be $7 in taxes. But the online sites say only the $80 going to the hotel should be taxed, resulting in a tax bill of $5.60.

If the money that goes back to the travel site is part of the hotel rate, that means it can be taxed at the same rate as hotel stays, which tend to be subject to steep rates because out-of-towners pay them. On the other hand, if courts rule that the cut for travel sites is a separate transaction for a service, the fees may not be taxed at all, because most states do not tax such services.

Andrew Weinstein of Interactive Travel Services Association , an industry group for travel websites, points out that the travel sites have largely prevailed in those court fights so far. “There is a very clear legal standard emerging in this country,” Weinstein says. “There have been 13 cases around the country that have been decided on the merits of this issue. Of those, 11 have been decided entirely in favor of the industry and the remaining two were split verdicts.”

Weinstein says other intermediaries besides travel Web sites are often part of the process of booking rooms. There are not only travel Web sites, but also traditional travel agents, conference planners and convention bookers. All of them charge something extra.

“That fee has never been taxed,” Weinstein argues. “Those types of businesses have been around for decades. It’s not part of the cost of the actual room. It’s an additional fee charged by someone helping them find a room.” Making the sites pay sales tax on the additional fee they charge, Weinstein argues, would be the equivalent of charging sales tax on the fee for a personal shopper who helps a bride pick out her wedding dress. 

Inventory at issue

Montana officials think that’s ridiculous. “They are not going around as someone trying to buy a dress for a bride and getting a commission for time spent,” says Buck. “They are becoming the merchant of record. They are receiving inventory. They are taking title to inventory.” He pointed to documents that showed the sites book hotel rooms in their own name before transferring them to consumers.

Weinstein counters that it does not matter whether the online seller ever takes control of the hotel room. The most important point is that the sites are not hotel owners. The Montana law clearly says that only hotel owners and operators must pay the occupancy tax, he claims.

The two sides also differ on how much money is at stake. Montana officials claim that “millions” of dollars are involved, but the exact amount cannot be calculated until they get a look at the companies’ books. The industry says the disputed amount in that one state is about ,000.

And the online companies have fought back. When Columbus, Georgia, got permission from a court to start collecting taxes on the travel sites’ fees, the sites started redirecting inquiries for Columbus to neighboring cities instead, including some across the state line in Alabama. A study commissioned by hotels in Columbus found that the city lost $1.3 million in sales tax as a result of the fight. That compares to about $25,000 at issue in the lawsuit, Weinstein says. States and cities filing suit are “stepping over dollars to get to pennies,” he says.

Joseph Henchman, an attorney and tax policy analyst with the Tax Foundation and author of a brief on the issue, agrees. “I think this is really a dead end,” he says. “If they want to tax services, then tax services rather than slip them in through the hotel tax.”