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Taxes on tap for Internet chat?

CNET's Washington watcher, Declan McCullagh, has the scoop on why IM and VoIP users may soon wind up paying the tax man--if certain politicians get their way.

Tiago Bittencourt Silva started an ambitious programming project last month: an open-source utility that lets small groups of Internet users communicate through instant messages, video links and audio chat.

Silva's project, called p2pCommunity, is designed to appeal to groups of 2 to 100 people who want to collaborate on writing papers or designing software applications. He's already made a pre-alpha release available at no cost on the SourceForge distribution site.

Thanks to a bizarre move by Congress last week, p2pCommunity and hundreds of similar projects could end up paying taxes to state governments to prop up the antediluvian scheme of running copper wires to rural households for analog phone service.

One of the biggest problems for these tax-happy members of Congress is what to do about overseas firms like Skype, which is based in Luxembourg.
Existing law imposes those taxes on cellular and landline customers to subsidize rural customers, and state officials are hungrily eyeing the Internet as a rich additional source of untapped revenue.

"Open-source software like mine can't pay any taxes, so the audio chat features of the program may need to be taken off of the program, or the users will need to pay the tax to use it," Silva says.

It's not clear why programmers like Silva and companies offering commercial voice software must subsidize rural telephone companies. By that logic, Congress should have forced Henry Ford to pay for horse troughs. It should have also extorted cash from laser printer manufacturers on behalf of the dying manual-typewriter industry.

"(Congress is) asking us to tax e-mail to support the U.S. Postal Service," says Jason Talley, CEO of Nuvio, which sells voice over Internet Protocol, or VoIP, service. "Asking us to support the current Universal Service Fund is patently unfair."

Perhaps these "Universal Service" taxes should apply to VoIP companies like Vonage and 8x8, which let their customers make calls through the old telephone network. It may not be a great idea, but it edges closer to being reasonable: They're using the network some of the time.

But why in the world must we tax software for voice chats? Dozens of open-source projects on SourceForge offer that feature. Yahoo's instant-messaging client, Apple Computer's iChat application and a growing number of video games carry voice conversations over the Internet. If they don't use the old phone network, why must they subsidize it? Why not tax e-mail, too?

Twin threats
Two bills in Congress take this chronologically backward approach.

The first is an amendment that Sen. Byron Dorgan, D-N.D., glued onto an otherwise promising VoIP bill last Thursday. It lets states levy Universal Service taxes on "providers of a VoIP application," which is defined as any software permitting "multidirectional voice communications." (That bill has been approved by the Senate Committee on Commerce and is awaiting a vote by the full Senate.)

Dorgan's legislation opens the door to state taxocrats targeting SourceForge projects and companies like Apple, Yahoo, and Microsoft that offer chat clients. It's not clear whether Dorgan meant to target programmers providing free software, but that's what his amendment says.

"Providers of voice applications and chat services should be concerned, because the bill, in its present form, injects uncertainty into an area where people thought the rules of the game were pretty much settled: that regulation(s) and taxes would only apply if you offered voice service for a fee and touched the (public switched telephone network)," says Larry Blosser, a lawyer at Gray Cary.

The second bill, sponsored by Rep. Rick Boucher, D-Va., covers only commercial Internet voice services, so SourceForge projects and free services like Free World Dialup are off the hook. What would be taxable: If Yahoo or AOL offered a subscription-based Internet audio chat client, or if Apple included it with its $100-a-year .Mac package, or if Skype or anyone else decided to charge for a VoIP service that sounded better than a free version.

In one way, Boucher is even more ambitious than his Senate counterpart. His proposal authorizes the Federal Communications Commission to levy 911 regulations, access requirements for the disabled and Universal Service taxes on chat software--even though it has nothing to do with the public telephone network. How would dialing 911 work on a PlayStation 2 equipped with Sony's forthcoming EyeToy Chat feature, anyway?

"Our intent is not to impose Universal Service obligations on providers of free services," Boucher told me. "For example, if Skype continues as a free service, it would not have any Universal Service responsibilities under this bill. On the other hand, if (MSN) or AOL decided they wanted to offer VoIP as a service to their subscribers, then they would be responsible for contributing to the Universal Service Fund."

While both Dorgan and Boucher are Democrats who typically vote for higher taxes, enthusiasm for Universal Service policy is nearly as strong among Republicans who represent rural areas. And because some Universal Service taxes are diverted to causes like schools, libraries and health care, the concept has become politically difficult to oppose--never mind that the Universal Service Program is rife with fraud and waste.

One of the biggest problems for these tax-happy members of Congress is what to do about overseas firms like Skype, which is based in Luxembourg. Why would those companies pay any more attention to tax demands from the United States than they would demands levied by Zambia?

Free projects are even more widely scattered around the globe. Silva, the primary programmer behind P2PCommunity, lives in Curitiba, a city in the Brazilian state of Parana. "I don't know how the U.S. government can tax an international program that uses VoIP," he says.

"This is for the (FCC) to do," Boucher said. "That's why we have a commission. I think that could be an interesting question to be posed at a hearing."

That's not much of an answer. Here's an alternative approach: Leave the Internet alone.