U.S. Supreme Court declines to hear case on whether New York's so-called “Amazon” or Internet sales tax legislation is constitutional
The timing seemed perfect. On the busiest online shopping day of the year, Cyber Monday, the U.S. Supreme Court declined to hear a case regarding the constitutionality of New York's so-called online affiliate nexus laws. In typical fashion, the Court turned down petitions from Amazon and Overstock.com without explanation. Consequently, the decision by New York’s highest court upholding the state’s 2008 affiliate nexus statute remains the law of New York. The decision in New York was covered in a prior Multistate Tax Update. Interestingly, an affiliate nexus law similar to that in New York was overturned by Illinois’ highest court, creating a divergence in the precedent by the highest courts in two states. The laws were substantially similar, yet the highest court of each state reached opposite conclusions.
Affiliate nexus statutes are a relatively new trend and only a minority of states has enacted such statutes. Under New York’s affiliate nexus law, sufficient nexus exists with New York “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[.]” The website owner essentially becomes the in-state affiliate of the company. Thus, the out-of-state retailer is deemed to have sufficient nexus and is required to collect and remit sales tax to New York.
To be clear, the U.S. Supreme Court reiterated in the seminal case of Quill Corp. v. North Dakota, 504 U.S. 298 (1992), that physical nexus in a state is required in order for a state to be able to obligate an out-of-state retailer to collect and remit sales tax. State laws contrary to this rule would violate the commerce clause of the U.S. Constitution and be deemed to be unconstitutional. The legal stretch under affiliate nexus statutes in general is that the residence of the owner of a website creates nexus (or in this case, the equivalent of a physical presence) due to the compensation paid to the in-state resident.
Let us take the example of a blogger residing in New York City who blogs about running shoes and apparel. The blogger enters into an agreement with Amazon. Amazon will pay the blogger a commission for any click-through sales. The blogger places Amazon links on his blog to various running products sold on Amazon’s site and people use these links to ultimately purchase Amazon products. Based on this fact pattern, Amazon would have nexus with New York because of the commission paid to the blogger. Amazon would be deemed to have nexus in New York even if the person clicking through to Amazon from a link on the blogger’s website resides outside of New York. New York's law focuses on the activity and residence of the blogger—the deemed agent of Amazon soliciting in New York—and not on where the buyer actually purchases the goods or where the goods will be sent. The buyer may in fact reside in a state where Amazon does not currently collect sales taxes and does not pay sales tax on his or her purchase.
These laws certainly shake up the current status quo. For example, if you are an Amazon customer in a state where Amazon has no offices, no employees, no property, and no warehouse fulfillment centers (no nexus), you are likely accustomed to not seeing a sales tax charge on your orders. This is because Amazon does not have a physical presence in your state. If you live in a state that imposes sales and use tax, by law you are required to pay use tax to the state on such purchases from online retailers that do not collect sales tax from you. The problem is that few people pay any or all of their use tax liability to the state. Conversely, when retailers are legally required to collect and remit sales tax, they are generally collected and remitted—businesses have a much stronger track record in this area. The states’ solution to the problem is to attempt to place as much onus as possible on businesses in order to actually collect the taxes owed. Affiliate nexus statutes have been one such attempt to force businesses to collect and remit sales tax in situations in which they would not typically have nexus.
States are no doubt being more aggressive on the sales tax issues on multiple fronts. Legislators have passed new laws to obligate out-of-state businesses to either collect sales tax or report customer information to the state. In addition, tax collecting authorities are aggressively pursuing individuals for sales and use tax.
It is believed that this sales and use tax collection problem has resulted in billions of tax dollars never being paid to the states annually. At the same time, states are in dire need of funds to balance their budgets. According to a report by the National Conference of State Legislatures, an estimated $23.3 billion in sales and use tax dollars will be lost from 2012 alone due to the states’ inability to require online and catalog retailers to collect sales tax. Sales taxes are also one of the most contentious issues in the modern retail world. Brick-and-mortar retailers claim that the failure to impose the obligation to collect sales tax on online retailers gives online retailers an unfair advantage. Customers may choose to purchase an equally priced product online and neglect to pay use tax, which some customers may view as a built-in discount. Some customers go to brick-and-mortar stores just to see the physical product with the intention of ordering that product online in order to avoid paying sales tax (to be fair, online retailers may have a better price, regardless of taxes).
The Supreme Court’s failure to address the ultimate issue will likely embolden the states that have passed affiliate nexus statutes and may also grab the attention of lawmakers in states where such laws have not been passed. Thus far, some state lawmakers have been hesitant to pass such laws due to potential consequences to state residents, as well as opposition from large online retailers. One such consequence occurred in connection with the passage of the New York affiliate nexus law discussed in this article—Overstock.com dropped its affiliate program with New York residents to avoid the burdens of New York sales tax compliance. Another potential consequence is that costly lawsuits will be filed against the state taxing authority. In New York’s case, Amazon and Overstock.com then immediately filed suit challenging the law that now has risen to the level of the U.S. Supreme Court, albeit with the Court declining to hear the case.
The Multistate Tax Update will continue to follow developments in this contentious area of online retailer sales tax nexus.
Virginia: Same-sex married couples denied joint filing status, businesses may be required to make adjustments
The Virginia Department of Taxation (the Department) recently issued Tax Bulletin 13-13. Legal counsel to the Department advised “that Article I, § 15-A of the Constitution of Virginia and Va. Code § 20-45.2 require Virginia to deconform from the federal income tax treatment of same-sex marriage.” The Department decided to heed this advice and take the position that it is disallowing joint tax return filing status to same-sex married couples.
The federal income tax treatment that the Department’s statement is referring to is Internal Revenue Service Revenue Ruling 2013-17. Revenue Ruling 2013-17 held, in part, that: (1) “husband” and “wife” include an individual married to a person of the same sex if the individuals are lawfully married under state law, and the term “marriage” includes such a marriage; and (2) a marriage of same-sex individuals that was validly entered into in a state whose law authorizes the marriage of two individuals of the same sex will be recognized by the IRS even if the married couple is domiciled in a state that does not recognize the validity of same-sex marriages.
As a result of the Department’s position and Virginia law, same-sex married couples who filed jointly for federal income tax purposes will be required to file individually for Virginia income tax. This will affect many federally-reported line items for the individuals, including above-the-line deductions to each of their adjusted gross incomes, and standard or itemized deduction amounts reported.
The Tax Bulletin also covers adjustments that must be made by businesses that claim deductions for certain expenses incurred for same-sex partners of employees. For example, if your business claimed a federal deduction for payments of fringe benefits to employees’ same-sex spouses and dependents, your business may be required to adjust the deductions claimed for Virginia income tax purposes. The Department may not recognize these deductions because the Department does not recognize same-sex marriage.
Tennessee: Department of Revenue issues guidance on tax treatment of series LLCs
The Tennessee Revised Limited Liability Company Act permits the establishment of one or more designated series within a limited liability company (often referred to as the Master LLC). If certain statutory requirements are met, then each series is treated as a separate entity with respect to its debts, liabilities, obligations, and expenses. The Master LLC is also treated as an entity separate from the series. The Tennessee Department of Revenue (the Department) has issued guidance (Notice #13-15) providing that each series in a series LLC is treated as a separate entity for state tax purposes.
The tax classification of the Master LLC and each series must be determined as though it were a separate limited liability company. The Department explained that generally, for Tennessee franchise and excise tax purposes, the Master LLC and each series will be classified in the same manner that it is classified for federal income tax purposes. However, if the Master LLC or a series would be disregarded for federal income tax purposes, then the Master LLC or a series is disregarded for Tennessee franchise and excise tax purposes only if the Master LLC or a series is wholly owned by a corporation. The Department stated in a separate notice, discussed below, that it interprets “corporation” in this context to include any entity that is classified as a corporation for federal income tax purposes. All other federally disregarded Master LLCs or series are treated as separate entities for Tennessee franchise and excise tax purposes.
The Department also explained that the Master LLC and each series must separately register with the Department and set up separate tax accounts before doing any business in Tennessee.
The Department said that the Master LLC and each series must file a separate tax return unless the Master LLC or a series is classified as a disregarded entity for franchise and excise tax purposes. Unless disregarded, the Department will treat the Master LLC and each series as a separate entity for purposes of assessments, refund and taxpayer remedies.
Notice regarding classification of single member limited liability companies
In a separate notice (Notice #13-16), the Department clarified whether a single member limited liability company (SMLLC) will be disregarded for Tennessee franchise and excise tax purposes if: (1) the SMLLC is disregarded for federal income tax purposes; and (2) its sole owner is not a corporation under state law, but is classified as a corporation for federal income tax purposes. The Department stated that it interprets “corporation” in this context to include any entity that is classified as a corporation for federal income tax purposes, such as a business trust, a limited liability company or a limited partnership. Therefore, a SMLLC that is disregarded for federal income tax purposes will be disregarded for Tennessee franchise and excise tax purposes if its sole member is federally classified as a corporation.
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