Over the past decade and a half, the Internet has fundamentally altered the way we engage in commerce. Indeed, online shopping has made record stores, video stores, and book stores, among others, a thing of the past. While the rise of electronic commerce can largely be attributed to convenience, fiscal considerations also play a major role in the new industry’s popularity.
As our spending habits continue to transition to the Internet and online shopping becomes further engrained in our society, brick-and-mortar stores are beginning to cry afoul. A gripe they have with the online shopping industry is the uncertainty surrounding the imposition of sales tax on online purchases. While it is irrefutable that purchasers have a duty to report and remit use tax on such purchases, assuming their respective states impose it, most consumers don’t have the slightest inkling as to the tax’s existence, let alone their reporting and payment obligations pursuant to it.
The root of the online sales tax problem is both political and legal. On the legal end, the problem boils down to the concept of nexus. Nexus, in legal terminology, essentially means that a state or jurisdiction must have a sufficient connection with a person in order to impose their taxing authority. In other words, states cannot impose taxes on just anyone – there must be a profound contact between the state and the taxpayer. In 1992, in Quill v. North Dakota, 504 U.S. 298 (1992), the U.S. Supreme Court re-established the constitutional standard for determining sales tax nexus. That standard, as it remains today, is physical presence.
Specifically, Quill tells us that, in order for a state to have taxing authority over certain purchases, the seller must have a physical presence in that particular state. So when a Maryland resident purchases a taxable item via the Internet from seller based solely in Virginia, Maryland is powerless to impose a collection obligation on the Virginia business (and, assuming the Maryland resident neglects his use tax obligations, Maryland misses out on the tax revenue from the transaction altogether). The overriding problem is that most online businesses have only a single home state, but engage in sales throughout the country and, in some cases, the world. As such, having only collection and remittance obligations to their home state represents only a fraction of an online retailer’s revenue stream.
Congress sits on the political end of the spectrum. The Marketplace Fairness Act (S. 743, H.R. 684) (“MFA”) is the current Congressional solution and it grants the states authority to impose sales tax obligations on out-of-state online businesses. The MFA passed the Senate in May 2013 and has stalled in the House since then. Opponents of the MFA say it is a new tax on online purchases, or an internet sales tax. Proponents claim the bill levels the playing field between online retailers and traditional stores and that it is simply provides a more efficient tool for use tax enforcement.
With typical D.C. gridlock and politicking obstructing progress toward a legislative solution, many states have taken matters into their own hands and have passed laws aimed at online retailers. Call it what you will – a money-grab or good fiscal policy – these laws are likely here to stay, at least for the foreseeable future.
For example, New York passed a law that establishes a rebuttable presumption of nexus when an out-of-state retailer provides consideration to an in-state affiliate that refers customers by a website link to the retailer. The law, dubbed the “Amazon law” because, when enacted, it was perceived to be targeted at the online retailing giant, was upheld by the New York Court of Appeals in Overstock.com v. New York Dept. of Taxn. and Fin., No. 33 &34 (N.Y. March 28, 2013), cert. denied No. 13-252 & 13-259 (2013). Similar versions of this law has been enacted in Arkansas, California, Connection, Georgia, Kansas, Maine, Minnesota, Missouri, North Carolina, Pennsylvania, Rhode Island, and Vermont. However, Amazon laws are not universally accepted. This past October, in Performance Mktg. Ass’n Inc. v. Hammer, No. 114496 (Ill. Oct. 18, 2013), the Illinois Supreme Court struck down a similar law as being a “discriminatory tax” under the Internet Tax Freedom Act of 2007 (H.R. 3678).
Regardless of opinions as to the constitutionality of these Amazon-type laws and the controversy that follows them, states have begun the trend of legislatively finding nexus in activities in which nexus was traditionally lacking. For example, “affiliate nexus” is another legislatively-conceived concept in which a subsidiary’s activities in a particular state affect the taxability of its out-of-state parent company, regardless of whether the parent has a physical presence in that particular state.
With the MFA stalled in the House, and an election year upon us, an imminent, federal solution is unlikely. Furthermore, the Supreme Court generally declines to hear state tax matters, so any definitive guidance as to the constitutionality of these state nexus laws under the Due Process Clause and the Commerce Clause amounts to conjecture. For the time being, the physical presence standard under Quill is the law of the land. But as states continue to loosely interpret the standard’s meaning by crafting their sales tax policies with an e-commerce marketplace in mind, the need for a solution, whether legislative or judicial, becomes more pressing.