Recent trends and developments in sales and use taxation.

• Author: Nicolas, Karl

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IN 2007, TOTAL STATE AND LOCAL BUSINESS tax revenues grew by 5.7% from the previous year to more than $577 billion. While taxes on corporate and individual business income represented less than 15% of this amount, general sales and use taxes on business inputs grew by over 4%, totaling more than $132 billion. This amount represented approximately 23% of the total state and local business tax burden, ranking second only to property taxes imposed on business property. (1) Despite these significant increases, many states either reported or anticipated record budget deficits. (2) Accordingly, business taxpayers may well expect further increases in their state tax assessments.

State and local indirect taxes (i.e., non-income-based taxes), while representing the largest portion of state tax revenue, typically are viewed by taxpayers as a fixed cost of doing business. For this reason, taxpayers can expect states to look primarily to indirect tax increases as a way to raise revenue in a less politically damaging manner. As such, it is imperative that taxpayers monitor their overall indirect tax costs and outlays and closely track state activities with respect to such taxes. In particular, taxpayers should pay close attention to the following areas in which state legislatures and departments of revenue have focused their attention in recent years, potentially resulting in substantially greater tax burdens for businesses and consumers.

Expanding the Concept of the "Responsible Person"

Although the application of sales and use taxes generally is straightforward, determining who must collect and pay the tax to the state (i.e., who is the "responsible person" for sales and use tax purposes) often creates significant confusion for remote sellers. In Quill v. North Dakota, (3) the U.S. Supreme Court affirmed the principle that a state can have taxing jurisdiction over an entity only if there is substantial nexus between the entity and the state. For use tax collection purposes, such nexus exists between a remote seller and the state seeking to impose a collection obligation if the seller has some physical presence within the state. If no such connection exists, it is incumbent upon the in-state purchaser to self-assess and remit the applicable use tax to the state, thereby expanding the pool of responsible persons for indirect tax reporting purposes.

State departments of revenue generally prefer to limit the number of entities reporting and paying the tax by placing the collection burden on the vendor. (4) Understandably, vendors prefer to reduce the administrative costs and burdens associated with such collection, particularly for states where they maintain a limited presence. As such, many remote sellers have taken affirmative steps to limit their nexus exposure, thereby limiting their legal obligations with respect to sales and use tax collection.

Attributional Nexus

To combat such tax planning, a number of states have attempted to expand the concept of substantial nexus beyond direct physical presence by applying alternative nexus theories. Most notably, states often seek to attribute nexus based on the in-state activities of an entity acting on behalf of a remote seller (e.g., an in-state agent, affiliate, or unrelated "promoter") to "establish and maintain a market" for the remote seller's goods. (5)

The ultimate determination of whether a third party's in-state activities will create sufficient nexus to require an out-of-state seller to collect use tax still must be made based on the particular facts and circumstances. Significant factors may include:

1. The nature of the relationship between the in-state actor and the out-of-state seller;

2. The specific activities performed in the state "on behalf" of the out-of-state seller; and

3. Whether the arrangement appears designed to avoid tax liability. (6)

   In addition, many states have narrowed the threshold, both legislatively and through increased assessments against remote sellers, of what will trigger a claim of attributional nexus. (7)

   Since 2000, no fewer than five states have enacted or proposed legislation or issued directives implementing attributional nexus standards.

   Idaho

   For example, in Idaho, a new law enacted in March 2008 specified that a retailer has "substantial nexus" with the state if:

1. The retailer and an in-state business maintaining one or more locations within Idaho are related parties; and

2. The retailer and the in-state business use an identical or substantially similar name, trade name, trademark, or goodwill to develop, promote, or maintain sales, or the in-state business provides services to, or that inure to the benefit of, the out-of-state business related to developing, promoting, or maintaining the in-state market.

   Before this change, the law required that the retailer be "owned or controlled by the same interests which own or control any retailer engaged in business in the same or similar line of business in this state" in order for nexus to attach. (8) New Jersey enacted a substantially similar law in 2006. (9)

   Arizona

   Arizona recently issued a ruling that details when remote sellers will be viewed as having substantial nexus with the state for purposes of the Arizona transaction privilege and use taxes. (10) In the ruling, the Arizona Department of Revenue explained that if activities performed in the state on behalf of the seller are significantly associated with the ability to establish and maintain a market in the state for its sales, then liability for the...