Pennsylvania Voluntary Compliance Program

A lot of sellers have been getting letters from Pennsylvania indicating that the sellers have nexus in Pennsylvania due to inventory and that they should take advantage of the special, voluntary compliance program.

So, why is Pennsylvania sending these letters?

Pennsylvania, like the majority of states, believes that when you have inventory in their state this creates enough of a link or connection to create nexus. Once you have nexus, the state can then require you to collect their sales tax or pay their income tax.

So if you have inventory in Pennsylvania, the state believes that you should have been collecting their sales tax and paying their income tax. So they're using the carrot and the stick method, which they've done quite often in the past. Pennsylvania is offering the carrot and saying, “Hey we've got this great program and it’s really gonna work well for you. We're going to waive everything prior to January 1st of 2019, and you only need to pay two years’ worth of back income and sales tax. We’ll also waive all the penalty, and then you just need to continue collecting and paying going forward.”

If you don't take advantage of this program, the state is saying “We know who you are and we're coming after you.” If you're an Amazon seller, you could have inventory in the state as far back as 2010. So in theory, the state could go back to 2010 or whatever the first year was you had inventory in Pennsylvania. Two years is a lot better than 11 years of back tax, penalty, and interest. That’s the stick. The state is saying to do this with the implied threat that “If you don’t we know who you are and we are coming after you.” So that's why they're sending this letter. They're reminding you that inventory in their state does create nexus and they want you to comply.

Historically, if you don't take advantage of their carrots, they come out with a big stick and they make examples of people. The state can add extra penalties and interest. Their thought process has been, “We were nice guys and you didn't listen to us. You didn't believe us. We warned you we were coming.” 

Many who received this letter are Amazon sellers, and Amazon has been collecting tax in Pennsylvania since April of 2018. So why are they getting this letter?

While Amazon is collecting and remitting the sales tax, they are not paying the income tax. The income tax comes out of the seller’s pockets. Pennsylvania is telling you that they want the income tax from everybody who should be paying the income tax including Amazon sellers who have inventory in Pennsylvania. 

On the sales tax side, even though Amazon is collecting and remitting the tax, the inventory in the Pennsylvania warehouses still creates nexus. So if you're selling on Shopify or WooCommerce or BigCommerce or your own website, Pennsylvania is telling you even if you're underneath the thresholds, you have inventory and that's a physical presence.

Physical presence is almost universally always going to override an economic presence, therefore you should be collecting in remitting tax on all of these other platforms. If you're only selling on a marketplace like Amazon, eBay, Etsy, or walmart.com, then you don't have to worry about the sales tax, but you still have to worry about the income tax.

FBA sellers sometimes say it's debatable that inventory creates a nexus and it's not a settled issue. 

This is an argument that FBA sellers speak about quite often. Unfortunately, we believe the states are on fairly firm ground and that this is a fairly well-settled area. The argument that FBA sellers make is that they did not move their inventory into the state that Amazon moved it. However, states say if you own inventory in their state it creates nexus. The states don’t discuss who moved the inventory they are only concerned with who moved it. And if we are going with Amazon being like a consignment sale, most states believed that consigned inventory still creates nexus.

To be fair, since Amazon began collecting sales tax for third parties, some states have changed their position on inventory stored in an Amazon warehouse if that inventory is only used to fulfill Amazon sales. The states of Arizona, Illinois, and Texas no longer believe it creates nexus. But the vast majority of states still believe that inventory in an Amazon warehouse is nexus-creating.

If you own inventory, and I don't think there's any argument that these FBA sellers own the inventory, that's the position of the states. Fairly well settled. That's been the issue for all companies, not just eCommerce companies, for years. The second issue is that FBA sellers sometimes want to make the argument that, “Hey, we shouldn't have had to pay the tax looking backward.”

What about income tax? Does this appear to be an altogether new issue?

This is actually an issue that's been around since 1959. In 1959, we had a U.S. Supreme Court case where the U.S. Supreme Court said, “Hey, states can pretty much tax interstate commerce anyway that they want.”

There was a lot of fear and Congress moved very quickly to nullify the impact of the U.S. Supreme Court. Within 7 months, Congress passed what's called the Interstate Income Act of 1959 or Public Law, 86-272. This public law basically says if your only activity in a state is the sale of tangible personal property (TPP), which is sent outside the state for approval, and then is fulfilled from a point outside the state, then the state's not allowed to impose a net income tax. 

Most FBA sellers sell TPP, and most of their sales are approved from a point outside the state. The problem is that not all sales are fulfilled from a point outside the state if there is an Amazon warehouse in the state. The protection is all-or-nothing protection. You can't say “I only had a hundred sales fulfilled from inside the state, and I had 500 sales fulfilled from outside the state.” It's all or nothing. Like it or not, this is not new. It's been around since 1959. 

It's become an issue now for a couple of reasons. Number one is the states are hurting for cash. This pandemic has not just hurt companies and individuals, it's hurt states too. The state coffers are very low and need to be replenished. Income tax is one way they will do this. We've seen California reach out and specifically start pursuing FBA sellers for income tax, and now we see Pennsylvania. We expect to see a lot more states follow.

It’s not just FBA sellers that need to worry about income tax. We are seeing a growing number of other states getting more aggressive. States like Connecticut, Florida, Illinois, Kentucky, South Carolina, Texas, and Wisconsin to name just a few.

Because of Wayfair, a number of states and the Multistate Tax Commission (MTC) believe that many of the protections of Public Law 86-272 don’t apply anymore. The net result is that more states will be pursuing more eCommerce sellers across the board. They are just starting with FBA sellers because the states see them as low-hanging fruit. 

Does this Pennsylvania situation apply only to Amazon Sellers?

No, it's about anyone who has inventory in Pennsylvania. The reason we've been talking so much about Amazon sellers is that somehow Pennsylvania got on a list of people who have inventory in Pennsylvania, sort of like California did.

So that's why most of these letters are ending up in Amazon sellers’ hands. If you didn't get a letter, you are not scot-free. This is about anyone that has inventory in Pennsylvania. The state's under no obligation to inform you that they know who you are. You can play Russian roulette with whether the state knows about you, or you can take advantage of this program. The program ends on May 8th. You don't want to find out that the state knew about your after the program ends but just didn't send you a letter.

Are we recommending that sellers take advantage of this program?

Yes, this program is special, as it goes back only to January 1st of 2019. So it's two years plus the current year that the state wants their sales and income tax. If you were to do a normal VDA, the lookback period is three years plus the current year for sales tax and five years plus the current year for income tax. It is a much better program than the normal VDA.

Perhaps the biggest reason you should take advantage is that the state already knows who you are. Once a state contacts you, a normal VDA is off the table. So this program is like a gift. The state is saying even though we know who you are we will allow you to take advantage of this special program.

We believe there is entirely too much risk to not take advantage of this program, especially if you have received a letter and have inventory in Pennsylvania. 

A quick recap

The program began on February 8th. It runs through May 8th. So it's 90 days - a pretty short program.

The lookback for both sales and income tax is 1/1/2019. That means any tax, penalty, and interest due prior to 2019 will be waived. Actually, the penalty will also be waived on any tax this is due after 2019.

The income tax, depending on what type of entity you are, may actually include only one year in the compliance program as the second year may not be due yet.

You still have to pay the interest, still have to pay the back tax. This program is only available for sellers who are not registered. If you have already registered, you cannot take advantage of this program.

“If the program is only available to sellers who are not registered though, why are some sellers who are already registered getting these letters?”

This is a great question. It's one that we had. We contacted the state of Pennsylvania and their answer was a “clerical error”. We have been told to just provide the sales tax number on the form that they sent out. Don't put any other information on there. Just send it back with the sales tax number on it.

That's what we're going to be doing for our clients and see if Pennsylvania holds true to its word. 

Now a lot of people are registered for sales tax but are paying income tax. They haven't told us what they're going to do with that yet, but it might be an idea to start paying.

Be sure to listen to our update about this program here.

By: Michael J. Fleming

This blog is intended for educational purposes and not as tax advice. Tax policies and procedures change frequently, so specific information, such as thresholds, rates, etc. included in this blog may have changed since it was originally published. Please request a consultation for more in-depth information.