Due to a shift from a traditional brick and mortar based economy to e-commerce, states have grappled in recent years with substantial losses in sales and use tax revenues. Unable to assert jurisdiction over “remote” or out of state companies, legislatures have creatively interpreted and expanded the concept of “nexus” in order to collect taxes from such entities. Nexus refers to a company‘s connection with or presence in the taxing state that is substantial enough to allow the taxing authority to collect taxes from that business. Absent nexus, a state cannot assert jurisdiction over a company and require it to collect sales and use taxes from its end-user customers.
Traditionally, nexus has implied a company‘s physical presence in a taxing state. However, the law has evolved, and current precedent outlines two independent nexus tests. The first, established under the Due Process Clause of the Constitution, requires that a taxpayer purposely avail itself of the benefits of an economic market in the state in order to establish nexus for taxation. Under the second test, derived from the Constitution‘s Commerce Clause, minimum contacts with the state, generally interpreted as some physical presence, are required. In order for a taxing authority to assert jurisdiction over a business, both tests must be satisfied.
In recent years, state legislatures have liberally construed the nexus requirements in an effort to expand their tax bases. For example, in 2008 New York enacted controversial legislation requiring out of state retailers to collect and remit sales and use taxes if they maintained commission agreements based upon referrals (including web-based referrals) with in-state residents. Amazon.com challenged the law on nexus grounds. The New York State Supreme Court upheld the law in 2009. In the wake of the so-called “Amazon Law,” several states have crafted liberal legislation designed to establish nexus with out of state retailers.
For example, following New York‘s lead, California, Connecticut, Hawaii, Minnesota, North Carolina and Rhode Island have all considered Amazon-type legislation. On February 5th, Tax Analysts, a non-profit organization providing international tax information, held a roundtable discussion debating the merits of “Amazon Laws” versus a multi-state initiative for tax reform. Various experts have failed to reach a consensus on the issue.
Meanwhile, states continue to propose legislation aimed at the issue. Most recently, a draft bill circulating in Washington state outlines certain economic factors to be evaluated in determining whether nexus has been established. Notably, under the draft legislation, economic nexus with the state could be established if an entity has a threshold percentage or dollar amount of property or payroll in the state or derives a threshold percentage or minimum dollar amount of its sales receipts from the state. Washington is not alone, as other states continue to consider legislation aimed at expanding their tax bases and increasing tax revenues.
States, such as New York, have relied upon similar principles in enforcing telecommunications and VoIP-specific tax laws. For example, New York relies upon a liberal concept of nexus to tax prepaid calling card service providers. Because New York‘s telecommunications tax law is not designed to address the distribution chain common to the prepaid calling card market, the New York legislature has created convoluted “nexus” requirements that the New York taxing authority has strictly interpreted to apply in questionable circumstances.
New York‘s controversial interpretation of its tax law has been subject to numerous challenges. The minimal nexus requirements built into the statute may be sufficient grounds to challenge the law, as applicable to prepaid calling card providers. We can assist clients wishing to pursue these challenges.
In addition to these services, our firm offers clients consultative services, supplier invoice audits, carrier and customer bill audits, investigation and analysis, and overall tax planning services, all with an eye towards helping our clients where it counts the most, in dollars and cents. Our firm takes its wide-ranging knowledge of federal and state telecommunications rules, regulations, and statutes and applies this knowledge and experience to the interpretation and application of tax laws and in creating tax compliance strategies for our clients.
Clients with questions about this Advisory or who would like more information on the firm‘s tax services should contact Allison Rule at firstname.lastname@example.org or 703-714-1312.