Nearly every state charges a state sales tax, and you’ll see this charge on most purchases. However, because there is no national law for sales tax, the amount you’ll pay and the items subject to tax vary.
West Virginia became the first state to pass sales tax legislation in 1921. Today, 45 states, and many local jurisdictions, have some type of sales and use tax. However, there has been a recent political push to switch to a value-added tax, which exists in Europe, or a national sales tax based on federal income taxes and a system of rebates.
“On average, sales taxes generate $150 billion a year and account for nearly one-third of a state’s total revenue,” says Timothy A. Dudek, director, Tax Strategies, at Kreischer Miller. “With the potential to increase this amount by taxing online sales, state governments are not likely to give up on the idea of a national sales tax. And enough state pressure may be able to force the federal government to pass such legislation.”
However, a new theory called “affiliate nexus” is emerging, which may override the older concept of “physical presence nexus.”
Smart Business spoke with Dudek about the latest trends in sales tax imposition and collection.
Recently, states have expanded the sales tax to apply to affiliate nexus. What is affiliate nexus?
Many out-of-state retailers enlist independent in-state websites known as affiliates to promote sales. An affiliate places links on its website to a retailer’s site and receives a commission when someone follows the link and buys goods. This affiliate nexus will now require out-of-state vendors to collect and remit sales tax, even though the vendor does not have a physical presence in the state where the purchaser is located.
New York was the first state to adopt sales tax affiliate nexus legislation, known as the Amazon law. Under the legislation, a remote seller is presumed to be a vendor required to collect New York sales tax if:
? The seller enters into an agreement with a New York state resident, under which a commission or other compensation is paid, if the resident directly or indirectly refers potential customers to the remote seller, whether by link, an internet website, or otherwise, and
? The cumulative gross receipts from sales by the remote seller to customers in New York as a result of referrals total more than $10,000 during the preceding four quarterly sales tax periods.
North Carolina and Rhode Island have adopted similar legislation. In California and Hawaii, New York-type statutes have been vetoed by the governors.
In response to the Amazon law, more than 30 electronic retailers registered as sales tax vendors in New York. New York estimates that it will receive approximately $70 million in revenue for fiscal year 2009-10 from these vendors. According to some sources, as many as 60 sellers have ended their affiliate programs in New York to avoid the burden of collecting New York sales tax from customers.
What other approaches have states adopted to increase sales tax collections?
Several states require more reporting by out-of-state vendors. For instance, on Feb. 24, Colorado signed into law legislation that will impact e-commerce and catalog companies.
The first part states that a remote seller that is a member of a controlled group is presumed to be doing business in Colorado and is therefore required to collect sales tax if any member of the controlled group has a physical presence in Colorado. This includes parent-subsidiary, as well as brother-sister, relationships. This started as an affiliate nexus bill similar to the New York law, but the final law requires an actual corporate relationship to impose the sales tax collection obligation.
The second part is aimed at encouraging customers to pay their fair share; for example, the use tax due on purchases. Remote sellers that are not registered and therefore do not collect sales tax are required to notify customers on the sales invoice of the customers’ responsibility to pay use tax to the state.
Colorado also requires the remote seller in January of the following year to send to customers by first class mail an annual information statement detailing purchases for the prior year. This must also be sent to the Colorado Department of Revenue. To persuade remote sellers to comply, Colorado is imposing penalties for failure to notify customers or to submit the annual information statement.
Oklahoma has also passed legislation requiring remote sellers to notify customers on the invoice of their use tax responsibility, but there is no requirement to submit an annual information statement.
Other states, such as California, are considering enacting similar laws to encourage customers to pay use tax on their purchases.
What is economic nexus, and how is it applied?
Economic nexus is a standard touted by states within the context of net income tax. This concept will appeal to many states within the context of sales tax, since this standard is one without a physical presence.
The result of a widespread economic presence standard would put U.S.-based firms at a disadvantage versus foreign-based competitors. In the expanding global marketplace, this is hardly the right policy choice to promote U.S. competitiveness. U.S. companies should only pay business activity taxes in those states in which they are physically present. The physical presence rule is fair to businesses because it requires tax in exchange for government-provided benefits in every state in which companies employ labor and capital.
Physical presence is also more consistent with the language in U.S. tax treaties and thus creates a more level playing field between U.S.-based and foreign-based corporations doing business in the U.S. The physical presence standard has other benefits, including the promotion of a robust interstate market, maintenance of state tax competition and a reduction in the number of states in which corporations have to pay tax.
For these reasons, Congress should consider moving ahead with the adoption of a physical presence standard for state business activity taxes.
Timothy A. Dudek is director, Tax Strategies, at Kreischer Miller. Reach him at (215) 441-4600 or firstname.lastname@example.org.