April 8, 2011, 3:00 PM

Sales tax battle heats up in Texas

The law would kill the argument that subsidiaries don’t constitute a physical presence. 

Paul Demery

Managing Editor, B2B E-commerce

Lead Photo

New legislation working its way through the Texas Legislature seeks to leave no doubt about when an out-of-state Internet retailer has a physical presence in the state and, therefore, would be required to collect sales tax on sales to customers in the state. Sponsors of the bill, which recently received unanimous support from the state House Ways & Means Committee, hope it will reach the governor’s desk before the current legislative session ends on May 31.

House Bill 2043, introduced last month by state Rep. John Otto, a Republican, was designed to withstand any court challenges, Otto says. “I drafted what I believe will outlast any Supreme Court challenge,” he tells Internet Retailer, adding that he had a constitutional attorney review the bill.

The bill follows an announcement in February by Amazon.com Inc. that it will close its distribution center in Texas and kill plans to build more distribution facilities in the state, where its distribution facilities are operated under an Amazon subsidiary. Dave Clark, Amazon’s vice president of North American operations, said at the time that the world’s largest online retailer could not come to an agreement with the Texas Comptroller’s Office over how to treat its physical operations in the state for tax purposes. Last October, the state issued Amazon a bill for $269 million for uncollected sales tax.

Otto’s office, however, says the bill was not introduced specifically because of Amazon’s actions, but to make the tax code reflect what bill supporters call a level playing field among online and offline retailers. “This is codifying what the state comptroller already practices,” says Carly Castetter, a legislative aide to Otto. “This a fairness issue for all retailers doing business in Texas.”

Otto, noting that Texas has no personal or corporate income tax, says the state relies heavily on sales tax revenue. “Retailers are not obligated to collect sales tax in Texas if they don’t have a physical presence here, but I don’t want them to get around the law if they do,” he says. The bill, he says, is designed to make it impossible for a retailer to operate a subsidiary in Texas to support a retail operation, and then claim that the retail operation has no physical presence in order to avoid tax collection.

The bill clarifies, for example, that a retailer is “engaged in business in this state” and therefore responsible for collecting sales tax if it has “substantial ownership interest” in facilities such as distribution centers or warehouses. It further clarifies in several paragraphs that “substantial ownership interest” applies when a retailer has at least a 50% stake in areas such as the capital and profits of subsidiaries that operate physical facilities such as distribution centers and warehouses.

Amazon, which has operated its Texas distribution facility through a subsidiary that it maintains does not constitute an in-state physical presence for Amazon’s retail operations, did not immediately return a call for comment. Under federal law, retailers can only be required to collect sales tax in states where they have a physical presence such as distribution centers or stores.

Scott Peterson, executive director of the Streamlined Sales Tax Project, a multi-state effort pushing for sales tax collection by all retailers regardless of their physical presence, says the Otto bill is similar to laws that already exist in Kansas and South Dakota. In the 1990s, many states considered such legislation but declined to enact it when retailers generally stopped trying to use subsidiaries and other forms of business to avoid tax collection responsibilities, adds Peterson, who is a former tax official for South Dakota.

But now states are starting to look at such legislation again, he adds, to address new strategies among retailers to separate some operations into subsidiaries in order to avoid collecting sales tax.

"It's all coming back because of the Internet," says Otto, who adds that his bill was in the works before Amazon ran into a disagreement with the state comptroller’s office. “Amazon’s action just reinforced what I  was already doing,” he says. “I had this bill drafted and had decided to introduce it before Amazon received the tax bill from the comptroller's office.”

Amazon is No. 1 in the Internet Retailer Top 500 Guide.

Comments | 2 Responses

  • Paul, Great article. I would like to add one very significant provision in HB 2403 that gets lost in the sexy 'Amazon' headlines and this matter of affiliate nexus . . . This legislation is also goes on to require ANY ETAILER that utilizes a website on a server located in Texas from which digital goods are sold OR delivered. And to go further, the Texas Comptroller has already opined that, for purposes of its Franchise Tax (a tax on the gross margin receipts), online advertising revenue is apportioned to Texas if the server that provides the link is located in Texas. Exposed are etailesrs or any business that utilizes webhosting services with servers physically located in Texas. I've not seen this in an official ruling, but indications are that Texas will look at an etailers affiliation or location of website on a server in Texas as a 'physical presence' and hence a justify it's plan to tax out-of-state business with certain activities associated with a server in Texas. Bigger in Texas takes headaches to a whole new level.

  • Thanks for your note. The provision on web servers and digital goods was deleted from the bill in the Ways & Means Committee of the Texas House. But we'll be sure to keep following such issues as this and other legislation moves ahead. --Paul Demery

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