Thursday, March 28, 2013

How to Tax an Internet Retailer Even Without Physical Presence, New York Style

The New York Court of Appeals today upheld a state statutory presumption that internet retailer "associates" operating within the state provide a sufficient nexus for the state to collect sales tax on the retailer's state sales.  The ruling approves New York's end-run around the dormant Commerce Clause rule that a state can impose a sales tax on an out-of-state retailer only if the retailer has a physical presence--including economic activities by the retailer's employees, but not mere advertising.

With the rapid growth of internet sales across state lines, and with the last Supreme Court ruling on anything like this coming as far back as 1992 (on mail-order sales, of all things), this case may be a good candidate for high court review.

But on the other hand, the precise ruling in the case is rather limited.  That's because the plaintiffs in the case pressed only their facial challenge at the Court of Appeals, not an as applied challenge.  The problem here is that the statutory presumption can be rebutted, and an out-of-state retailer that can rebut it will also be exempt from it.  This gives the presumption some wiggle room in certain cases and may be enough to protect out-of-state retailers against state sales taxes when they don't have sufficient business activity to constitute presence.  The Court's ruling only says that the statutory presumption is not unconstitutional on its face.  That's a far cry from saying that it's constitutional in every application.

The case, Overstock.com v. New York State Department of Taxation and Finance, tests New York's statutory presumption that an out-of-state internet retailer's in-state "associate" is soliciting business for the retailer:

a person making sales of tangible personal property or services taxable under this article ("seller") shall be presumed to be soliciting business through an independent contractor or other representative if the seller enters into an agreement with a resident of this state under which the resident, for a commission or other consideration, directly or indirectly refers potential customers, whether by a link on an internet website or otherwise, to the seller . . . .

New York Tax Law Sec. 1101(b)(8)(vi).  The provision exactly describes Amazon's and Overstock.com's "associates"--local web-sites that include links to Amazon.com or Overstock.com and that receive a commission on each purchase through that link.  

But neither Amazon nor Overstock.com has a physical presence in New York.  And according to the Supreme Court in Quill Corp. v. North Dakota (1992), an out-of-state retailer like Amazon or Overstock.com has to have a physical presence in order for New York to impose a tax.  (Quill Corp. involved an out-of-state mail order retailer.  If you don't know what that is (!), click here.) Physical presence includes engaging in economic activities (like selling goods), but not advertising alone.

Enter the statutory presumption.  The presumption says that Amazon's and Overstock.com's "associates"--those New York-based web-sites that contain a link to Amazon or Overstock.com, and receive a commission on each sale--establish a sufficient nexus between the out-of-state retailers and the state so that New York can impose its tax.

And the New York Court of Appeals OK'd it.  The Court said that the retailers' associates were engaged in sufficient economic activity on behalf of the out-of-state retailers--business solicitation, and not mere advertising--to allow the state to tax.  

Judge Smith dissented.  He thought that the associates' links looked more like mere advertising, not business solicitation, and therefore weren't enough to establish a nexus between the retailers and the state.

The Court also rejected the retailers' due process claims, because the presumption is rational.  The Court explained:

It is plainly rational to presume that, given the direct correlation between referrals and compensation, it is likely that residents will seek to increase their referrals by soliciting customers.  More specifically, it is not unreasonable to presume that affiliated website owners residing in New York State will reach out to their New York friends, relatives, and other local individuals in order to accomplish this purpose.

SDS

 

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