Press Room: Tax Release

August 26, 2011

Taxation of Online Retailers: IL and CA Bills Signed by Governors

The State of Illinois has proposed numerous tax increases to help offset its $15 billion budget deficit. California is facing an even more daunting task of decreasing its deficit of $26 billion. Recently, both Governors signed what is commonly known as an “Amazon law” targeting online retailers in an effort to increase annual sales tax revenues.

On March 10th, 2011, Illinois Governor Pat Quinn signed the "Mainstreet Fairness Act," expanding sales tax collection responsibilities to online retailers. This act revised the definition of a “retailer” maintaining a place of business in Illinois to include retailers who contract with an in-state person that refers potential customers to the retailer by a link on the person’s website in exchange for a commission or fee for any subsequent sale of tangible personal property. 

The act specifies that, beginning July 1st, 2011, the definition of a retailer includes “a retailer with a contract with a person in the state…” As such, any retailer with a single online affiliate operating in the state is per se taxable. Physical presence is still the constitutional standard that must be met to subject companies to state sales tax collection/filing requirements, but asserting nexus through commissioned affiliates is the growing trend to expand state tax revenues.

On June 29th, 2011, California Governor Jerry Brown signed into law an Amazon tax, which clarifies the obligations under existing law for out-of-state retailers to collect and remit use tax on sales of tangible personal property to California residents.  The law significantly expands California’s sales and use tax collection requirements by amending California’s definition of “retailer engaged in business” for sales and use tax collection purposes to include three new groups of retailers as follows:

  • Click-Through Nexus
    Modeled on a similar statute in New York, this new law attempts to create a local "click-through nexus" by requiring that out-of-state retailers collect use tax if they have agreements with California-based retailers who refer potential customers to the retailer by website or internet-based links. The definition of “retailer engaged in business” is revised to include any retailer entering into agreements with a person in the state, for a commission or other consideration, where the person refers potential purchasers via its website to the retailer. This provision has been commonly referred to as “click-through nexus” and is similar to laws enacted in New York. Unlike other states, who are targeting remote retailers with unrelated third party affiliates in the state, California’s new law contains a provision that a retailer includes an “entity affiliated with a retailer” which attempts to require any affiliates of the retailer to collect California use tax.
  • Affiliate Nexus
    The California law also focuses on the corporate relationship of a parent and subsidiary working together as a "commonly controlled group." As such, a use tax collection on sales of tangible personal property (TPP) would be required on out-of-state retailers whose in-state sister or parent companies perform design, development or solicitation of sales of TPP on behalf of the retailer.
  • Constitutional Nexus
    Finally, the new law attempts to avoid potential legal conflicts with the U.S. Constitution's "commerce clause" by authorizing the California Board of Equalization (BOE), to the extent permitted by federal law and the U.S. Constitution, to require vendors to collect and remit use taxes. The law modifies the definition of retailer to include any retailer that has substantial nexus with this state for purposes of the commerce clause of the U.S. Constitution and any retailer upon whom federal law permits this state to impose a use tax collection duty. This provision appears to expand California use tax collection requirements to the full extent permitted under the U.S. Constitution.

Illinois estimates its sales tax revenue windfall to be $70-$150 million annually as a result of compliance with the new law. Further, given its estimated $15 billion budget deficit, Illinois will likely be very aggressive in pursuing the 6.25% sales tax on these revenues. The BOE estimates that $1.2 billion of California use tax goes uncollected annually. California lawmakers estimate that the new law will bring more than $200 million in new revenues into the state coffers.

Other states that have passed similar laws include New York, Colorado, North Carolina and Rhode Island. To the extent that states are successful in upholding these laws, this can represent significant exposure to retailers if they choose not to collect sales tax. Every online retailer who uses affiliates to sell its taxable products may wish to re-evaluate its business model with regard to collecting tax or discontinuing affiliate contracts in states adopting Amazon legislation. Amazon and other big online retailers have notified their affiliates they are terminating contracts with all Illinois and California residents in their associate programs when Governor Quinn and Governor Brown signed the respective bills into law. One such Illinois affiliate, FatWallet.com, created a media frenzy when it relocated its business about eight miles north of the Illinois state line to Beloit, Wisconsin to avoid losing its affiliate relationship with Amazon in Illinois. See the story on YouTube

WTAS has an extensive state and local tax practice with experienced tax professionals knowledgeable in all aspects of multistate taxation. Our professionals can assist both individuals and companies with reviewing their business activities to determine if they are subject to the various state tax collection and filing requirements, discuss available options to minimize and resolve current liabilities (e.g., voluntary disclosure, exemption documentation, etc.) and development of compliance systems/processes to mitigate prospective risk/exposure.