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Expanding Your E-Commerce Business into the U.S.

Expanding Your E-Commerce Business into the U.S.

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Foreign taxpayers expanding their e-commerce business into the United States must consider state and local tax planning to minimize exposure. As with many other areas of the law, the tax code must evolve with the technological advances of the business world and, as the law catches up, businesses must be prepared to understand and comply with the new requirements.

Why E-Commerce

We live in an environment in which e-commerce continues to grow and evolve while state legislators attempt to catch up to the ever-changing technology. The laws in the state and local area are frequently evolving and leaving plenty of uncertainties for foreign companies due to inconsistency of treatment between states.

In the absence of federal legislation, states have become increasingly active in their efforts to address the problem of e-commerce sellers that do not collect sales tax and/or file income tax returns. E-commerce companies may wish to consider addressing related business risks and potential unanticipated infrastructure costs. A state’s ability to impose its state and local tax requirements on a seller has historically hinges on whether the seller has the requisite connection, or “nexus” with the state. Traditionally, nexus is established through a physical presence within the state such as having a store or warehouse, inventory, employees, agents, salespeople entering the state or other activities as specified by the taxing jurisdiction, subject to constitutional limitations. In recent years, many states have enacted legislation that expands nexus statutes to include instate activities of affiliated business or advertising relations that are attributed to an out of state or “remote” seller, sales above certain threshold in the state and virtual presence.

Who Is Impacted

Generally, if a seller doesn’t have substantial nexus within a state, that seller is not required to collect sales or use tax from its customers. Thus many e-commerce retailers are able to sell products to customers throughout the U.S. while operating in a limited geographic region and not creating a sales tax obligation. Therefore, the states are looking for ways to impose sales and use tax collection requirements on e-commerce companies.

Most notably, states argue that by not charging tax, e-commerce sellers have a distinct competitive advantage over local, traditional brick and mortar business, which must charge tax a result of their physical presence in the particular state. However, most importantly states are pushing for sales tax legislation due the revenue the States are losing on remote seller transactions where sales tax is not collected. In the absence of federal legislation, states are becoming increasingly active in their efforts to address the problem of remote sellers that do not collect sales tax.

One of the first states to push these alternative nexus theories is Ohio. In 2005, the state adopted the “factor presence test” for purposes of determining what companies are subject to the Commercial Activity Tax (CAT). Under this test, companies with no connection at all to Ohio are still subject to the CAT if they have sales in Ohio of at least $500,000. Following Ohio’s lead, more states adopted “economic nexus.” Under this theory, a company is deemed to have nexus with the taxing state only if it has sales in the state. There is no need to have any physical connection with the state. In sort, under the various economic nexus tests adopted by the states, physical presence is irrelevant.

Continuing in the same footsteps, in 2008 New York enacted the first click-through nexus statute known as the Amazon Law. The law created a rebuttable presumption that an out of state seller is soliciting business in the state (and thus required to register for sales tax purposes and collect and remit tax) if two conditions are met: 1) the seller enters into an agreement with a New York resident under which, for a commission or other consideration, the resident directly or indirectly refers customers to the seller; and 2) the total cumulative gross receipts from sales to New York customers as a result of these referrals is more than $10,000.

The list of states that have followed New York’s lead and enacted in one form or another click-through sales tax nexus standards has grown significantly including but not limited to states such as California, Connecticut, Florida, Georgia, Illinois, Kansas, Maine, Minnesota, Missouri, North Carolina, Ohio, Pennsylvania, Rhode Island and Vermont. Although there is some variation among these states, their click-through nexus standards share a number of characteristics. The template is as follows:

  • Nexus is established through a business relationship between a remote seller and one or more Internet affiliates with an in-state presence.
  • Sales are referred directly or indirectly to the remote seller via a link on the affiliate’s website.
  • In-state customers “click through” the affiliate links to purchase taxable goods or services from the seller.
  • The affiliates are compensated by the seller under a commission sales agreement or similar arrangement.
  • Nexus can be created through a contract with an aggregator, establishing and maintaining a retailer’s relationship with a network of Internet affiliates for a fee or commission.
  • There may also be a requirement that the seller actively solicit sales through the affiliates or otherwise (e.g., through target advertising or promotions).
  • In-state taxable sales must exceed a threshold such as, $10,000 during the previous 12 months, to trigger the sales tax registration requirement.

Next Steps

What should e-commerce companies do, given the growing number of click-through and economic nexus states? The first step is to map out the nexus footprint. It is important to know where the customers are and what the sales volume is in various states and localities. Once this is done, retailers can focus on the jurisdictions where the potential exposure for uncollected sales tax is high. It may be advisable to consult with a state and local tax advisor during the nexus mapping process. This is key in determining what the next steps are, which could possibly include registration and filing of tax returns on a go-forward basis; seeking a voluntary disclosure agreement to close off prior years and avoid penalties, and, restructuring the business to avoid states that have click through nexus and economics nexus requirements.
In any event, now is the time to start the state and local tax planning process. It appears that click-through and economic nexus are here to stay.

Before taking your next step, reach out to a member of Withum’s International Tax Services Team at international@withum.com.

Withum-placeholder Lejdi Karabina
(609) 520 1188
lkarabina@withum.comBrian Lovett LinkedIn

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To ensure compliance with U.S. Treasury rules, unless expressly stated otherwise, any U.S. tax advice contained in this communication is not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

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