Mac Musings

Amazon.com v. Interstate Sales Tax: Everyone Loses

Daniel Knight - 2009.07.01 -

Follow Low End Mac's blogs: LEMblog and Low End Mac Services.

Launched in 1995, Amazon.com was one of the first big commercial successes on the Internet, and its affiliate program - which pays websites a commission for bringing buyers to Amazon.com - has been part of that success. Amazon.com is the biggest online retailer in the US and has presences (and affiliate programs) in other parts of the world.

According to Wikipedia, somewhere around 40% of Amazon's sales come through affiliate programs, which has over 900,000 members worldwide.

Collecting Use Tax

With the economy in shambles and most state budgets bleeding red ink, states view unpaid use tax (the equivalent of state sales tax for items shipped from outside the state) as a hole in the tax system that needs to be plugged. To the best of my knowledge, every state that collects sales tax also requires residents to pay use tax on online, telephone, and mail order purchases when the retailer hasn't collected the tax.

Most individuals ignore the use tax line on their annual income tax forms, although its unclear how much revenue is lost because of this.

To address those unpaid taxes, North Dakota tried to get Quill Corporation to collect and remit use tax on sales to North Dakota residents. Quill argued that it didn't have a presence in North Dakota and thus was not required to do so. The state maintained that because some Quill customers used Quill software to place orders, Quill had enough presence in the state.

Quill Corp. v. North Dakota made it all the way to the US Supreme Court, which ruled that this software didn't constitute sufficient physical presence, taking Quill off the hook. However, there was another factor: This could be change by an act of Congress.

Amazon.com vs. New York

The state of New York enacted new tax laws on June 1, 2008 requiring all online retailer doing business with New Yorker to register with the state and collect sales tax on those sales.

Amazon, headquartered in Seattle and with no physical presence in New York, sees this as a violation of Quill v. North Dakota and filed suit against New York state in May 2008. The US Constitution says that only Congress has the power to regulate commerce "among the several states" (Section 8), and since 1998 Congress has several times barred taxes on Internet access, Internet-only taxes, and multiple taxes on ecommerce. The Internet Tax Freedom Act Amendments Act of 2007 extended this through 2014.

These acts did not change laws regarding the collection of sales tax and use tax, nor did they amend existing laws to require e-tailers to collect taxes for states where they do not have a physical presence.

Just as the North Dakota Supreme Court upheld the state law requiring Quill Corp. to collect state taxes, a New York Supreme Court has ruled against Amazon, which is now collecting New York sales tax under protest.

As anyone who has watched Law and Order knows, a "Supreme" court in New York is not a court of appeals; it is a court of "original instance", and decisions can be appealed to Appellate Divisions of the Supreme Court - and thence to the New York Court of Appeals. Amazon.com has filed an appeal.

North Carolina, Rhode Island, and Hawaii

North Carolina, Rhode Island, and Hawaii are also going after sales tax on Amazon.com sales tied to affiliates in those states. In response to North Carolina's law, Amazon.com terminated all affiliate relations with North Carolina residents on June 25, 2009. On July 1, 2009, it ended affiliate relationships with those in Hawaii and Rhode Island.

Amazon.com has indicated that it is likely to do the same with its California affiliates if California attempts to have Amazon.com collect sales tax.

Who Is This Hurting?

Amazon.com affiliates range from bloggers who might pull in $25 a year in affiliate fees to commercial websites that might receive thousands of dollars every month. In the case of Low End Mac, which has been an Amazon.com affiliate since late 1997, falls somewhere in the middle. Of several affiliate programs we participate in, Amazon.com and Commission Junction are the most successful, accounting for about 6% and 12% of our site income respectively.

Were Michigan to enact laws similar to those in New York, North Carolina, and the rest, Low End Mac would be seriously damaged - and site income was already down 20% last year due to the economy. We're already unable to meet our budget (support is always welcome), and that would only make things worse. For us, it could mean bankruptcy and losing our home (with negative equity).

Who loses when Amazon.com terminates affiliate agreements? First of all, the affiliates themselves. Beyond that, state and federal governments, which can no longer tax that income. And with less money to spend, affiliates will be buying less items with sales tax, further damaging state coffers.

This will also hurt Amazon.com, which will lose a lot of marketing every time is shuts out another states worth of affiliates. Sure, most people who have been buying from Amazon.com will continue to do so, but it could mean less new customers and a reduction in repeat customers. If Amazon.com were to eliminate 10% of its affiliates in the US - which would be the case if New York and California affiliates are terminated - it could mean a 2-3% reduction in US sales, a 2-3% reduction in profits, and a reduction in taxes Amazon.com pays.

Who Is This Helping?

Because Amazon.com is refusing to play games, these states are not going to benefit from trying to force Amazon.com to collect sales tax. If Amazon.com loses its New York appeal, expect it to terminate its New York affiliates.

Nobody wins here. Nobody. In fact, because Amazon.com ends its affiliate relationships in these states, the states lose the income tax on affiliate income and sales tax on items that money buys. In the end, these states are hurting themselves by reducing the tax base. And in this economy, that's just stupid.

What's at Stake?

What's at stake here is the constitutional right of Congress to regulate interstate commerce. Unless and until Congress passes a law requiring mail order, phone order, and online retailers to collect sales tax for every state, the states have no right under federal law to require collection of sales tax by businesses that have no physical presence in the state.

It is ludicrous to consider an affiliate a physical presence because the items are purchased from Amazon.com and shipped by Amazon.com. Affiliates are generally not resellers with a sales tax license; they are usually website publishers and bloggers that don't have a storefront or an office outside the home.

In Quill v. North Dakota, the US Supreme Court ruled that software does not constitute a sufficient presence to require the collection of sales tax. Since websites, which is where affiliate links are served, are essentially software, Quill v. North Dakota should apply here.

Let's hope Amazon.com prevails and has all of these laws nullified, as they benefit none and hurt many.

A Level Playing Field

Whether Congress ever decided to level the playing field by requiring out-of-state vendors to collect sales tax for every state in which they do business, that's another matter entirely. In fact, should they do so, Amazon.com would have no reason not to reinstate affiliates in North Carolina, Rhode Island, and Hawaii - and anywhere else that passes such a law.

In fact, while the current laws benefit nobody and hurt many, a level sales tax field would close the use tax loophole and benefit every state that has a sales tax.