On March 28, the New York Court of Appeals, in a 4-1 decision, upheld a state law that requires certain out-of-state companies to collect and remit sales tax on sales to in-state customers despite the fact that the companies lack a physical presence in the state. The state successfully argued that a company’s use of an “associate program” can establish sales and use tax nexus for an out-of-state company because such a program is akin to “active advertising” in the state.
The cases were brought by Amazon.com Inc. and Overstock.com Inc., both of which utilize associates as part of their overall sales and marketing strategy. Associates agree to place links on their websites that direct customers to Amazon’s or Overstock’s websites. In return for the placement of these links, associates receive a commission.
Despite the fact that the New York court concluded an associate program is “active advertising,” the actual work of the associates is passive in nature. The associate has no control over the websites it is linking to and no contact with or control over the customer after the customer leaves the associate’s website. Associates are not “creating a market” for Amazon or Overstock, nor are they actively soliciting business.
Still, the court concluded:
- [E]ven in the Internet world, many websites are geared toward predominantly local audiences -- including, for instance, radio stations, religious institutions and schools -– such that the physical presence of the website owner becomes relevant to Commerce Clause analysis. Indeed, the Appellate Division record in this case contains examples of such websites urging their local constituents to support them by making purchases through their Amazon links. Essentially, through these types of affiliation agreements, a vendor is deemed to have established an in-state sales force.
Viewed in this manner the statute plainly satisfies the substantial nexus requirement. Active, in-state solicitation that produces a significant amount of revenue qualifies as “demonstrably more than a ‘slightest presence’” under Orvis. Although it is not a dispositive factor, it also merits notice that vendors are not required to pay these taxes out-of-pocket. Rather, they are collecting taxes that are unquestionably due, which are exceedingly difficult to collect from the individual purchasers themselves, and as to which there is no risk of multiple taxation.
New York State Commissioner of Taxation and Finance Thomas Mattox praised the court’s opinion saying it recognized “the logical application of existing precedent to the 21st Century economy.” But is that what we want our courts to do? Should we endorse outcome-based jurisprudence that ignores U.S. Supreme Court precedent because our world has changed in the last 30 years?
We are on a dangerous path if we allow state courts to take this approach. The U.S. Supreme Court’s 1992 opinion in Quill Corp. v. North Dakota remains good law. Unless and until it is overturned (or federal legislation is enacted to the contrary), the bright-line physical presence rule established in Quill is the law of the land.
To be fair, the Supreme Court has further addressed what constitutes substantial nexus for sales and use tax purposes. Although substantial nexus requires a physical presence in the taxing state, both direct and indirect physical presence may satisfy that requirement. In the past, an out-of-state company’s use of an in-state independent sales agent has been held to establish nexus for the company. Such attributional nexus is constitutional because the physical presence of the agent is imputed to the out-of-state corporation based on their relationship.
However, attributional nexus is not imputed lightly. An extensive relationship between the in-state agent and customers in the state has been required. For example, an independent agent will call on customers, directly solicit orders, and establish long-term customer relationships on behalf of the company.
Associates for Amazon and Overstock do not undertake such tasks. The associates do not call on customers, directly solicit orders or establish long-term customer relationships on behalf of the companies. In fact, they have no significant association with the companies or customers and, for many associates, the commission they receive is nominal.
This is not to say that the way in which we shop and the way in which companies advertise to customers has not changed since Quill was decided. Much has changed and Quill needs to be reconsidered or federal legislation enacted to address how states can best collect the sales and use tax that is currently due on consumer purchases. But a state court cannot (and should not) issue a ruling that is in direct conflict with U.S. Supreme Court precedent.
The requirement that a company have a physical presence in the taxing state before that state can impose sales and use tax collection and remittance responsibilities was, before the advent of “Amazon laws,” a well-settled concept in state and local taxation. The opinion by the New York court ignores that concept and, undoubtedly, will serve as encouragement for other states to follow suit. It is worrisome that along the way, by ignoring precedent from the highest court of the land, state courts could pave the way for an irrelevant U.S. Supreme Court.