Sales and use tax nexus - 1989.

• Author: Cronin, John J.

Sales and Use Tax Nexus - 1989

Sales and use taxes are viewed by state lawmakers and state tax administrators as a fertile source of additional revenue. Aggressive and creative programs and policies are being pursued on various levels aimed at maximizing the taxes generated within the existing tax structure. These efforts include:

* Federal Legislation: State and local tax administrators are lobbying Congress to enact legislation to overrule the 1967 decision of the Supreme Court of the United States in National Bellas Hess, Inc. v. Illinois Department of Revenue, 386 U.S. 753 (1967), which insulates certain mail order firms from use tax collection responsibility.

* Litigation: Through aggressive litigation, there has been a gradual erosion of the constitutionally required "nexus," or connection, between the state and the person or activity it seeks to tax, e.g., by the development of the "economic nexus" concept and the "alter ego theory."

* Multi-State Agreements: There has been a proliferation of information-sharing and other cooperative agreements between two or more states, including subtle and not-so-subtle pressure to gain voluntary sales tax registration.

* Aggressive Tax Enforcement: Programs, including the dissemination of nexus questionnaires, and sophisticated audit techniques are putting more taxpayers on the tax rolls and generating larger audit assessments.

As a result of these efforts, the states are testing the constitutional limits of "nexus" and, in so doing, are forcing business to make very difficult decisions involving competitive position and costly compliance burdens. For example, consider the following:

1. Your client or your company is undergoing a New York State sales tax audit and, in the course of the audit, the auditor questions interstate sales to New Jersey customers. The auditor advises that there is a collection agreement between New York and New Jersey and urges voluntary sales tax registration pursuant to this agreement, even though there is insufficient nexus to impose a legal requirement to register in New Jersey. The strong implication is that, if registration in New Jersey does not take place, the interstate sales deductions will be scrutinized and the names and addresses of New Jersey customers will be forwarded to New Jersey tax authorities to ensure that use taxes are paid.

   If your client or company asks you whether they should register, what advice should you give them?

2. Assume the same scenario, except that the agreement is between border states both of which have enacted nexus-broadening statutes (such as North Dakota and South Dakota). Your client's or company's activities fall squarely within the ambit of the expanded definition of "engaged in business," which you believe, as applied to your client, is of doubtful validity.

   What is your advice?

3. Suppose your company is one of the 200 direct marketing firms that received a letter from the California Board of Equalization, instructing them to register to collect tax on the ground that they satisfy statutory nexus by virtue of direct mail solicitation and customer payments for merchandise with credit cards issued by California banks.

   What advice do you give your company's management?

4. Assume you are an interstate seller with substantial nexus in a state seeking to assess tax on promotional materials prepared by an out-of-state printer and distributed to prospective customers via the U.S. mail. The relevant statute does not include within its definition of taxable use "distribution" or similar broad language that was the basis of a Louisiana finding of "taxable use" of catalogs, which the Supreme Court upheld in D.H. Holmes, Ltd. v. McNamara, 108 S. Ct. 1619 (1988).

   Do you tell your client to appeal the assessment?

   A review of the development of the constitutional principles is helpful in understanding the evolution of the application of nexus standards to sales and use taxes but, as will be evident, such understanding does not provide definitive answers to these questions.

   The Due Process Clause of the United States Constitution - which provides that "no state shall . . . deprive any person of life, liberty, or property, without due process of law . . ." - limits the states' jurisdiction to tax. In...