Friday, August 26, 2011

Amazon and the Sales Tax--It's The Constitution, Stupid

Most residents of California, as well as selected other states are aware of the struggle involving and other online retailers over the collection of sales tax. This has resulted in a strange set of bedfellows and combatants, as businesses and consumers take different sides of the issue depending on whose ox is being gored. But despite what you might hear from the media and politicians about fairness, tax loopholes and what's right, this is first and foremost a question of constitutional law and federal power over interstate commerce.

To narrow the legal issue, instead of focusing on or Overstock or whomever, just say you're a California resident who likes to keep your closet clean, so you regularly dispose of clothing you no longer wear. Perhaps in the old days you gave them away to Goodwill, but more recently, you've been going on EBay and selling these items to people around the country. So let's look at that pair of shoes you sold to a buyer on Kodiak Island. Do you have to collect Alaskan sales tax on that transaction and remit it to the Alaskan government, or for that matter, pay income tax to Alaska on any profit you made? Of course not. The reason is that you're here in California and Alaska has no jurisdiction over you, and under the U.S. Constitution they cannot make you collect or pay tax. Of course, this transaction is not tax free. Alaska, like any other state, requires the buyer to remit an equivalent "use tax" on the retail purchase of goods where the seller is beyond the state's jurisdiction. But for some reason, people just aren't as diligent in paying their state use tax liability as they are in paying state income taxes. (Fortunately I make few online retail purchases, so I don't need to confront that dilemma.)

So for the same reason you don't pay taxes to Alaska, neither does Now you might think that is bigger than you are, so they should be required to collect sales or use tax on sales to Alaskan residents where you aren't. But don't forget we are talking Constitutional principles here, and under the Constitution size doesn't matter. Under the most recent constitutional interpretation by the Supreme Court, unless a seller is physically present in a state, it is not liable to collect sales and use tax.

Of course the states know this, so how can they try to make collect their taxes? Well, by redefining physical presence in their state. The most common attack is the click-through referral. If a California resident is an Amazon affiliate and has a website that links to Amazon's, and if Amazon pays the Californian a fee for each click through, California says Amazon is present in California in the person of the affiliate. Now this isn't entirely far fetched, as a taxpayer may be present in a state by employing independent contractors, e.g., using a warehouse in the state owned by a third party to deliver local sales. However, using a California affiliate click through does seem to stretch the concept of presence pretty far. (California has set a minimum $500,000 sales threshold so most of you Ebay sellers are safe.) In any event, Amazon merely avoids this potential presence by getting rid of all of its California affiliates, so in the end it may be that these associates suffer the most. California also says that because an Amazon subsidiary is located in California, which is charged with Kindle research, that there is attributional presence in California. This is a more interesting approach that could possibly be upheld by a court, as are other activities which Amazon may engage in under an economic presence concept applied by a target state.

Now there are any number of ways this dilemma will play out. Amazon is trying to have California voters approve a ballot initiative to repeal the new California law. California is proposing a new version of the law that would forbid contrary ballot initiatives. Congress does have the power to pass legislation that would require the Amazons of the world to collect the tax with some minimal level of economic presence. Or the Supreme Court may or may not reinterpret the constitution to align with computer age business practices (certainly Justice Scalia wouldn't go for this) and discard the physical presence test for an economic presence test. Only time will tell who wins this Amazon battle.

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