U.S. Constitution has Two Parts
Which Have a Bearing on State
Taxation of Internet Sales
• 1. Art. 1, Sec 8 the right of the federal
government to regulate interstate
commerce
• 2. 14th Amendment due process clause
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Art. 1, Sec. 8 “to regulate interstate
commerce”
• Based on the concept of whether the state regulation is
good for the national economy
• Federal government has this right, but
• Federal government does not deny the State right to
pass laws which regulate interstate commerce
– As long as the law does not unduly burden interstate commerce.
– That means the state can tax interstate commerce as long as the
tax does not unduly burden interstate commerce.
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14th Amendment due process
clause
• Based on concept of fairness to the selling
business
• If the seller has no connection (nexus) with the
state - - no physical presence in the state, then
the state cannot make the seller collect taxes for
it.
– The “nexus” with the state proves that the seller is
using the state facilities: police, fire fighters,
emergency services, roads, bridges, airports, all the
infrastructure,
– In return for use of the infrastructure, the state has
taxing jurisdiction = authority to make it collect the
states taxes on every sale
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States Levy
• Sales taxes
• Use taxes
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Sales tax
• Is levied on tangible goods bought or
leased within a state that has a sales tax.
• Must be collected by the merchant or
leasor and remitted to the state
– Only if the merchant has “nexus” with the
state (See below)
• Charged on the gross amount
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Use tax
• Is levied on the consumer for tangible goods
purchased out of state for use within the taxing
state, if they paid no sales tax in the state where
and when they bought it
• Live in one state, buy in a state with no sales
tax, still have to pay a use tax to the state you
live in
• Usually consumers do not pay this tax
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Some Sales are Not Taxed
• Food
• Clothing
• Nontangible transactions such as services
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Who taxes?
• 45 states have sales tax on businesses that
have “nexus with the state”
– 5 states do not have any sales tax on or off Internet
• Alaska, Delaware, Montana, New Hampshire, Oregon
– 11 of the 45 were taxing internet access before the
Moratorium may continue
• Connecticut, Wisconsin, Iowa, North Dakota, South Dakota,
New Mexico, South Carolina, Tennessee, Texas, and Ohio
• Counties (parishes) and municipalities also have
sales and use taxes
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Mail Order: Catalog, Direct
Marketing, Cable TV Sellers
• Do these sellers have “nexus” with the taxing
state?
• 1967 National Bellas Hess, Inc. v. Dept. of Rev.
of the State of Ill.,
– Facts: Mass. mail order house had no property,
office, outlets, or any sales representatives in Illinois
– Reasoning: no physical presence or “nexus” in the
state
– Judgment: Do not have to collect sales taxes for
sales in Illinois because had no nexus with Illinois
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Local Main Street Retail Stores
• Do have physical presence and “Nexus”
• Do have to collect sales taxes
• Feel this is unfair to them ( 20 billion
estimated to be lost by the states in 2003)
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Web Sales That Are Made on
the Internet- Like Mail Order?
• No physical presence?
• Do Web sellers have to collect sales or
use taxes?
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1992 Quill Corp. v. North Dakota
• N.D. District Court judgment: because the state had not
spent any of its tax money on Quill, there was no nexus
and N.D. could not require Quill to collect a use tax
• N.D. Supreme Court judgment: reversed and said the
state could require Quill to collect a use tax from N.D.
buyers
– Reasoning: because the mail order business was so huge, and
computers made it easier for interstate sellers to keep track of
the different taxes it must collect in the different counties and
states
• U.S. Supreme Court judgment: reversed the N.D.
Supreme Court- cannot require Quill to collect a use tax
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U.S. Supreme Court
• Due Process Clause and the Commerce
Clause are both applicable to a state’s
taxing power over interstate commerce.
• But - the two Constitutional protections are
analytically distinct.
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How are They Different?
• Congress may allow a state to burden
interstate commerce under the commerce
clause
• Congress may not allow a state to violate
due process under the due process
clause!
• Due process and the commerce clause do
not have the same requirements
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Due Process Requirements Have
Been Met by Quill
• Due process does not require physical presence
• Due process is concerned with notice so as to provide
fairness to the individual
• So, what it really requires for due process is not physical
presence, but:
– purposeful direction of the seller’s activities at the state’s
residents,
– A magnitude of contacts, even if not physical presence.
– The tax is related to the benefits that the seller receives from the
state
• These requirements have been met by Quill.
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However, Commerce Clause
requirements have Not Been Met
by Quill
• The Commerce Clause requirement of
“substantial nexus” for taxing is not the
same nexus that is “minimum contacts”
required for due process
• The Commerce Clause is not concerned
with fairness to the individual, but rather
with structural concerns about the effects
of state regulation on the national
economy
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Commerce Clause
• The Articles of Confederation hindered
and suppressed interstate commerce –
framers of the Constitution wanted to fix
this problem
• The Commerce Clause prohibits
discrimination against interstate
commerce.
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U.S.S.Ct. Overruled the North
Dakota Supreme Court
• Found that Quill could not be taxed, not because
of due process, but because of the commerce
clause: the tax nexus requirement was not met
– The Commerce Clause asks whether the tax is for the
good of the whole structure of the economy
• But the Court told Congress that they were free
to overrule the Court with legislation that allowed
the states to tax mail order houses because
Congress is in control of the national economy
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The Protection Given in Quill
Created a Zone = Drew a Line
• The line is called the “Bright Line”around an
area where an interstate vendor is free from
taxation
• Bellas Hess created a protected zone = this line
around this area is the “Bright Line”
• The Bright Line in Bellas was drawn around
vendors “whose only contact with the customers
in the taxing state was by common carrier or the
U.S. mail.”
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So When Is There a Sufficient
Nexus for the Commerce Clause?
•
•
•
•
•
•
•
•
•
Not mail-order
A retail store in the taxing state
Renting an office or a warehouse in the taxing state
Holding trade shows where employees or agents take
orders from customers in the taxing state
Working with a server in the taxing state
Maintaining inventory in the taxing state
Licensing software to licensing a taxing state
Hiring agents in the taxing state
Falling under the Market Maintenance theory
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Is Nexus Created When a Business
Hires Agents in the Taxing State?
• Scripto, Inc., v. Carson
– Independent contractor, not employee in
taxing state
– Court said this was enough for Commerce
clause nexus
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Market Maintenance Theory
• Vendor’s state activities are significantly
associated with the taxpayer’s ability to
establish and maintain a market in the
state for its sales
– Tyler Pipe Industries, Inc. v. Dept. of
Revenue:
• Through sales contacts, sales reps maintained the
name recognition, market share, goodwill, and
individual customer relations of the company and
therefore, subjected themselves to tax jurisdiction
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Internet Tax Freedom act of 1998
(ITFA)
• Prevents federal, state, and local governments from imposing any
new taxes on the Internet sales for a period of three years
• Can still tax is they have nexus, this is only if they do not have nexus
• 11 states already doing it were OK
• Created the Advisory Commission on Electronic Commerce
– Who have recommended that the moratorium be extended for 5 years.
– It was extended until November 2003
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"3-year moratorium on special
taxation on Internet access
• Bars state or local governments from taxing Internet access (i.e. the
$19.95 or so that many Americans pay monthly to America Online,
CompuServe, Erol's, or other similar services to access the Internet)
from October 1, 1998 until October 21, 2001.
• A limited "grandfather" clause permits the handful of states already
taking steps to tax Internet access--Connecticut, Wisconsin, Iowa,
North Dakota, South Dakota, New Mexico, South Carolina,
Tennessee, Texas, and Ohio--to continue to do so if they can
demonstrate that their taxes had already been "generally imposed
and actually enforced" on Internet access providers prior to October
1, 1998.
• Nevertheless, it is not expected that all of these states will in fact
choose to tax Internet access: Connecticut and South Carolina, for
instance, have already indicated they intend to abide by the national
moratorium.“
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Advisory Commission
• Could not come to a supermajority
• Recommended that the moratorium be
renewed for 5 years until 2006
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Governors Conferences and State
Legislature Conferences
• Lobbying “big time” in favor of Internet
sales tax
• Need the revenue, don’t want an
extension of ITFA
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Sales Tax and the Dormant
Commerce Clause
• Wilson v. Black-bird Creek March
– Even when Congress does not regulate
interstate commerce, the power given to
Congress is dormant, and states may not
regulate interstate commerce
• New Energy Co, of Ind. v. Limbach
• Santa Fe Natural Tobacco, Inc. v. Spitzer
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A New Sales Tax System: The
Stream Line Sales Tax Project
(SSTP)
• An e-business doing business in all states has a
potential sales tax obligation in over 7,500 taxing
jurisdictions, each with its own laws
• STSP: simplify and modernize sales and use tax
collection and administration for remote online and
offline sales transactions.
– Two phases
• Uniform Sale and Use Tax Administration Act (USUTA) = model
state legislation to bring states into uniformity
• Streamlined Sales and Use Tax Agreement (STUTA) = Agreement
• 29 States have adopted both phases of SSTP
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SSTP – Makes the following
uniform from state to state
•
•
•
•
•
•
•
Definitions
Exemptions
Rates
Returns
Remittance Schedule
Audit Procedures
Payment to the merchant
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3 Technology Models
• Model I. Certified Service Provider
• Model II Certified Automated System
• Model III Internal System Certified by the
State
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Internet Tax Moratorium and
Equity Act
• Introduced in the 107th Congress
• Congress may facilitate equal taxation
regarding a traditional retail establishment
with mail order, telephone, or the Internet,
consistent with Quill
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International Internet Taxation
• Organization of Economic Cooperation
and Development Initiatives
– 30 member countries
– Developing a framework for international
taxation
– Committee on Fiscal Affairs Report, 1998
outlined a number of general principles
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The Permanent Establishment
Problem
• Source-based taxation principle – tax income where it
originates
• Residence-based Taxation Principle – tax business’
income where the business lives
• Must define “Permanent establishment” of a business
–
–
–
–
–
–
Web site alone is not enough
Acting as hosting server is not enough
ISPs are not
Software /data is not, and server equipment is
Fixed computer equipment is
No need for human intervention to be a place of permanent
establishment
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Other Countries’ Taxing Laws and
Policies
•
•
•
•
Germany
India
United Kingdom
European Union Value-Added Tax on Internet
Sales (VAT)
– Effective July 1, 2003
– Non-EU vendors must collect and remit a valueadded tax when selling electronic goods such as
music and software in EU member states
– U.S. sellers must figure out the buyer’s country, what
the tax is, remit it to country
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