Why Income Tax is the Next Big Battle for eCommerce Sellers
Michael J. Fleming is the founder and president of Sales Tax and More, a full-service consulting and solutions firm with a passion for state tax. He is one of the country's leading authorities on sales tax issues such as consulting and research, registrations, returns, nexus, drop-shipping, eCommerce, and service providers.
Michael is a renowned writer and speaker, and he regularly presents on webinars. He is also the host of the Sales Tax and More Podcast, where he shares his wisdom and learnings with his audience in order to help them navigate the tricky world of taxes.
In this episode…
Just because the government says that a seller should register for income tax doesn't necessarily mean that the seller has to register everywhere. According to the team at Sales Tax and More, it depends on where your exposure is material. So, what does this mean in terms of income tax compliance for online sellers?
For over 60 years, income tax protection has come down to Public Law 86-272. Now, Amazon and eCommerce sellers are battling the ins and outs of this federal law in order to maintain income tax compliance without paying tax in every state. Luckily, Sales Tax and More is here to help you prepare for upcoming income tax changes and challenges in the new year.
In this week's episode of the Sales Tax and More Podcast, Michael J. Fleming and his co-host Ellie Moffat explain why income tax will be the next big battle for eCommerce and Amazon sellers. They discuss the provisions of Public Law 86-272, how different states implement the law, and what online sellers should do to handle issues related to income tax compliance. Stay tuned.
Here’s a glimpse of what you’ll learn:
Michael J. Fleming explains why income tax will be the next big battle for eCommerce sellers: Public Law 86-272
Are FBA and eCommerce sellers protected by Public Law 86-272?
How Public Law 86-272 is under threat
What businesses need to know about income tax compliance
Resources Mentioned in This Episode
Ellie Moffat's email: emoffat@salestaxandmore.com
“California is Sending Out Franchise Tax Letters” Episode on Sales Tax and More
Connect with Michael
Sponsor for This Episode
Sales Tax and More assists companies and their trusted advisors like CPAs with sales tax needs. They offer consulting and research, registrations, returns, and so much more. Over the years they have assisted thousands of sellers both foreign and domestic with their tax issues in the United States and in Canada.
To learn more about their services, visit https://www.salestaxandmore.com/.
Make sure to register and join the Sales Tax and More Webinar to get access to complex materials on tax in an easy-to-understand format.
Episode Transcript - Audio Version
[0:10] Intro: Welcome to Sales Tax and More, your go-to resource for all things state tax-related. Now here is your host, Michael Fleming.
[0:26] Mike: Hi, Mike Fleming here, Founder of Sales Tax and More and today's co-host for the Sales Tax and More Podcast, where we talk about everybody's favorite subject, which is, of course, sales tax. Today, my co host, Ellie Moffat and I are going to be discussing why income tax is going to be the next big battle for eCommerce sellers. But before we get into that, I want to introduce you to Ellie.
[0:49] Ellie: Hey, everyone. This is an incredibly helpful podcast today, I'm excited for you to take a listen, I want to do a quick introduction for Sales Tax and More before we get started, Sales Tax and More is a full service consulting and solutions firm. We have a really great team here of experienced tax professionals who are very dedicated to fulfilling your state tax and related needs. So we do a lot of sales tax, sales tax returns, sales tax registration, sales tax audits, consulting, research, and like name states more. So if you'd like to get in touch with us about any of our services, or if you have any questions, please reach out. There are plenty of ways to do so in today's show notes. So Mike, we have done a number of presentations about why income tax is going to be the next big battle for eCommerce sellers. I know we've talked about it at events and our own material. Can you share with our audience, why?
[1:43] Mike: Absolutely Ellie and it all has to do with Public Law 86-272. That's a federal law. A lot of people hear 86. And they think this was passed in 1986. It was not that was the 86th session of Congress. It's actually was passed back in 1959. It's also known as the Interstate Income Act of 1959. And it was passed in direct response to a US Supreme Court case called Northwestern Cement, in northwestern Cement. You know, the end results, pretty much were that states could tax interstate commerce, pretty much any way they want it, and business got all upset, and Congress got all upset. And they within seven months, they passed this Interstate Income Act of 1959. And what that basically said, is that if your only activities in a state with a solicitation of tangible personal property, something that could be seen could be felt, can be touched something that's perceptible to the senses, as opposed to intangible property or services or digital property. So if you're only selling tangible personal property, and all the orders are sent outside the state for approval, and then they're fulfilled from a point outside the state into the state, and that state, you know, is prohibited from imposing a net income tax on you.
[3:16] So an interesting side note, you know, some of us believe that the Congress's been do nothing less than four years in the last eight years or twelve years or plugin a number there. On some topics, they've been doing nothing for quite a while, because when they pass this federal law, they passed it very quickly. They passed it within seven months, but they said that nexus is so confusing, it's so complex, that take a form a bunch of committees do a bunch of studies and commissions. And you know, before they could come up with a permanent solution, Well, here we are 61 years later, soon to be 62 years later, and we still have this temporary, antiquated solution. Now, up until this point, if you had a pure economic nexus, it's protected you, but a lot of things going on. That may change that. But let's switch gears a minute here. And let's talk about Amazon sellers, those who use the Fulfillment by Amazon program, we refer to them as the FBA sellers. So most of them do sell tangible personal property. Most of them you know, the orders are approved from a point outside the state. Here's the problem in quite a number of states, they have inventory, and at least some of the orders are going to be fulfilled from a point inside the state. And according to the plain language of the law, that means you're not protected. You know, it has to be fulfilled from a point outside the state and it's all or nothing protection. So you don't say, well, this percentage of my sales is subject to the income tax because they were fulfilled from inside the state and 75% was fulfilled from a point outside the state. So, therefore, you know, the taxes and no, it's all or nothing. So you either have the protections of Public Law 86-272, or you do not so with FBA sellers with all this inventory, you know, spread out all amongst the country, whether they put it there themselves or not. The majority of states, you know, just look at are they being fulfilled from a point inside the state and that third criterion, you know, these FBA sellers just can't meet?
[5:44] So we've been saying that now that the states have forced the marketplaces to collect all this information. they've written into their statutes that, you know, they can require information to make sure the taxes are being handled correctly. And once they, you know, get their arms around all of this new sales tax, we've been saying, we think that FBA sellers, large FBA sellers are going to be the next target of the states because they don't meet this criteria. And so the states are going to say who you bigger sellers who's doing the most business here, and Amazon is going to in these other marketplaces going to have to turn over the information in the states are going to presume so I predicted that's going to be happening sometime. You know, I've been predicting sometime over the next year to two. However, California started us off early, they fired the first shot. And they look like they have gotten their hands on the information that came from Amazon. It was originally given to the California Department of tax and fee administration. And it looks like they know who has inventory during 2017 in their state, and they consider inventory whether it's consigned or otherwise, to be nexus creating. Nexus just means creating a link or connection with the state where you'd have to collect the sales tax or pay the income or franchise tax. So the first shot has been fired. California is going after Franchise Tax sellers, they sent out the first round of letters back in the end of September, beginning of November, I just found out that they sent out the second round. So it looks like they're going to be doing this and rounds. those letters are a lot more aggressive than any of the letters that the California Department of tax and fee administration sent out It looks like they're going to be a lot more aggressive in their pursuance of these FBA sellers. So we think that California is just the first state we think that more and more states are going to be pursuing FBA sellers because they're not protected by Public Law 86-272.
[8:03] Ellie: Okay, so Mike, it's already started with FBA sellers. What about eCommerce sellers?
[8:12] Mike: Yeah, so there's a distinction. I think it starts with the FBA sellers. But you know, a couple of things happening out there with this Public Law 86-272. You know, it only protects you from a net income tax. So there are states like Texas, their franchise tax is actually a gross receipts tax. A state like Washington, their business and occupation tax is a gross receipts tax. A state like Ohio, their commercial activities tax is a gross receipts tax. The Nevada tax is a type of gross receipts tax. So all of these taxes, you're not protected by Public Law 86-272, because they're not net income taxes. We also have states like Kentucky with their limited liability entity tax. It's not a gross receipts tax. So one of the things we may see is more states come up with these gross receipts taxes, the state of Oregon, and they want a piece of this, you know, remote revenue, they don't have a sales tax, they don't want to pass a sales tax. They do have an income tax, but hey, you know, this public law says that income tax doesn't apply. So they went out and they created a gross receipts tax. It's the commercial activities tax of Oregon. So we've got two CATs out there, one in Ohio, one in Oregon. So the $750,000. Once you cross that threshold, you're required to register in the state of Oregon, but you don't have to actually, you know, file a return to pay some million dollars. So this is One of the ways around Public Law 86-272. And I think that we're going to see a lot more of that. And you know, not only do we have to worry about the states, but we got to worry about some of these cities like Philadelphia, up until recently, Philadelphia said, you know, if you have a physical presence in the city, then you're subject to their gross receipts tax, whatever they're calling it nowadays. They recently came out within the last three or four months or so and said, okay, we are moving to an economic nexus, and they actually moved to an economic nexus before the state of Pennsylvania did. So not only do we have to worry about these states, but we also have to worry about the cities, if you're over $100,000 of sales into the city of Philadelphia, then you're subject to that municipal tax in Philadelphia, there are other cities like that, that we have to worry about. Some of them are currently physical presence, but we may start seeing them switch over to this economic nexus, just like Philadelphia did. So we got to worry about states and cities.
[11:14] Ellie: So Mike, you know, I've heard you say that Pl 86-272 is under threat as well. Can you talk more about that?
[11:24] Mike: Yeah, absolutely. Not only are the states trying to go around Public Law 86-272, state like Massachusetts is trying to go right through it. You know, they're looking at the, the Wayfair case. And in they're interpreting that, and then they're saying, well, based in light of how Wayfair was decided, we think Public Law 86-272 is unconstitutional. So they're looking for a case that they can try to bring to the US Supreme Court to get this Public Law 86-272 declared unconstitutional. Now, that's going to take a few years. But, you know, it's a, I can see the state's point. So that's something that we have to worry about. But much sooner than that, we've got to worry about the multi-state tax commission, multi-state tax commission is a quasi-governmental agency. They provide guidance to the states, one of the areas they provide guidance is that how states should interpret the protections of Public Law 86-272, they have guidance on 13 protected activities and 20 unprotected activities. And up until this point, you know, the unprotected activities, you had to like collection services, pretty much they had to be getting done in the state. So because, you know, the world viewed nexus as being a physical nexus and this goes back to 1959, you got to remember, they look at these activities as being in state and they weren't really thinking of them, in today's terms, until we have Wayfair. And now if you know, an economic presence is enough for sales tax. Why is that not the same for the income tax? That's what they're saying. So they've come up with a new set of guidelines, and they put them out for comment. They haven't fully implemented them yet. But what these new guidelines are, I mean, if you offer after the sale, if you're offering customer service, through chat, or through email, or if your website uses cookies, they consider this to be an in-state presence. So you basically have nullified the protections of Public Law 86-272. Now, we're still can go into the old guidelines, because these haven't been fully implemented by expect them to be implemented at some point in the next six months or so if, if not sooner. So we've got to make decisions, you know, unless Congress steps in and says, oh no, we want income tax to be physical presence, you know, economic nexus is okay, for sales tax, but for income tax, we want a physical presence, which I don't see that happening. You got to remember, it's been 61 years since Congress weighed in on this very issue. I don't see with how divided they are today. of them getting anything done anytime soon. So I think we're gonna have to deal with what the MTC is saying and, you know, there will be lawsuits. But I think that you know, while we're waiting for these lawsuits to be settled, or I think that the states are going to be coming hard after eCommerce companies, so It's not just Amazon sellers that the states are going after, you know, the next, you know, 6 to 24 months, I think we're gonna see income tax become a huge battle for all eCommerce sellers.
[15:17] Ellie: Okay, so Mike circles us back to the bottom line here, what is the bottom line?
[15:23] Mike: Bottom line is we've got to make sure that income tax is part of our conversation. You know, if we're accountants, then we need to be talking to our clients about perhaps filing in more states. If we're actually sellers, then we need to realize our compliance requirements may be higher, you know, it cost money to file more returns, you know, this is going to be a lot bigger issue for larger sellers. I mean, if you're a 2 or $300,000 seller, you know, you could still have exposure for sales tax, that's material in some states because you know, sales tax is done on gross sales, where income tax is usually done on your net sales or your profits really, so, you know, you could be a million-dollar seller with 10% profits, you know, that million dollars, you know, could have, you know, a lot of exposure, the $100,000 is going to have a lot less material exposure there, because that's going to be spread out over multiple states. So I still think we need to look at materiality. Just because the state says you should do something doesn't necessarily mean it makes good business sense to do. So. We have a client that their bookkeeper has gotten them registered everywhere, every city, every county, every state, for income tax, and all types of business taxes, and I said, Whoa, slow down, they, you're getting a little bit carried away. Here. We're big believers that where your exposure is material, then this is something we got to look at going forward. However, if the cost of compliance in other words, if you're going to pay someone more to file a return, then you're going to actually pay the state, if they ever come after you, why in the world, would you go ahead and do that to me, I think we need to use common sense. And again, just because the state says you should do it doesn't make good business sense. Sometimes it makes better sense to let the state or the local jurisdiction come after you. So although this is going to be a much bigger issue for larger sellers, even some of our largest sellers, 100 million, 200 million 500 million, don't always file everywhere, they pick and choose those jurisdictions where they have the greatest exposure. And I think that that's good advice to follow. We need to be doing the same thing, we need to be using common sense. And where appropriate, we need to start getting registered and paying the income tax. Now, a lot of people here they're sitting there saying, Well, if I pay income tax in every state, I'll be broke. If you're paying income tax in another state, you're generally not paying it on sales that are apportioned to another state. So you know, there might be some minor discrepancies. The big issue here is the compliance now you have to file a bunch of returns. But because you're getting credit on the sales that are being a portion to other states, the overall amount of tax is not going to change much, unless your home state is one of the states that doesn't have an income tax. So, you know, if you're in Florida, you're in an LLC, yeah, all of a sudden your tax burden may be going up. But if you're, you know, a C-Corp in New York, there's in theory, your taxes could actually be going down, so there'll be lots of opportunity for tax planning when it comes to state income taxes here.
[19:06] Ellie: Alright, thank you so much, Mike, for all this great information here. I do want to put out there for everyone that if you have sales tax needs, we do offer many solutions and services. You can reach out to me directly if you have questions or if you'd like to work with us. My email is emoffat@salestaxandmore.com or visit our website, salestaxandmore.com. In addition to our services, we offer an entire series of free webinars, we have these podcasts, we have video snippets, a ton of free resources for you, as well as paid research sources as well. So thank you, everyone.
[19:45] Mike: And, as always, I want to thank everyone for joining us for today's episode of the Sales Tax and More podcast. And we hope to see you on the next episode. Thanks. Bye Bye.
[19:57] Outro: Thanks for listening. Be sure to click subscribe. Check out all the resources we have out on the web.