June 30, 2011, 2:54 PM

California to e-retailers: Pay up

California becomes the seventh state to approve an "Amazon tax."

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California late Wednesday became the seventh state with an “Amazon Tax” law that requires online retailers to collect tax if they get customers referred from in-state affiliate web sites. As part of a budget bill signed yesterday by Gov. Jerry Brown, a Democrat, the state also clarified that web retailers must collect sales tax if they operate corporate subsidiaries in the state for purposes such as distribution centers.

Under federal law, states can require retailers to collect tax only if they have an in-state physical presence such as stores or distribution centers. Language in the state’s new budget law was designed to enforce tax collection within those federal rules by stating that affiliate web sites and corporate subsidiaries constitute a physical presence, commonly referred to as “nexus” in legal terms.

Proponents of the new requirements on retailers, which cover retailers doing $500,000 or more a year in online sales to California residents, say it could raise about $200 million a year in tax revenue that currently goes uncollected. California has a state sales tax rate of 8.25%, plus local tax rates that range from 0.1% to 1.0%, according to the California State Board of Equalization.

But opponents contend the law will scare away business, a point supported when Amazon.com Inc. yesterday informed its California web site affiliates—including independent bloggers and others that earn commissions from Amazon for online ads that send customers to Amazon.com—that the world’s largest online retailer would no longer pay advertising fees to its California web affiliates, effective immediately. (The letter noted that Amazon would pay in full all fees earned before yesterday.) Amazon is No. 1 in the Internet Retailer Top 500 Guide.

Overstock.com Inc., No. 27 in the Top 500 Guide, also cut ties with its affiliates in California, where its affiliates number in the hundreds, says Overstock president Jonathan Johnson.

Amazon hasn’t said how many California affiliates it has worked with, but the Performance Marketing Association, a trade group for affiliate marketers, says the California law will result in 25,000 affiliate web sites losing their fee relationships with online retailers. “We tried to communicate to the governor that this bill would only lead to dramatic income loss for small businesses, and job loss, and he signed the bill anyway," says Rebecca Madigan, executive director of the Performance Marketing Association, which is challenging in court an affiliate tax passed in Illinois earlier this year.

Madigan says that California’s affiliate web sites paid $151 million in income tax last year—a source of revenue the state will now lose. “These small businesses will go out of business or move out of state to preserve their incomes,” she says.

David London, senior director of government relations at eBay Inc., which is based in California, says the new law could hurt sales for eBay sellers based outside of California by requiring them to collect tax on sales they make on eBay. That’s because the new California law also addresses matters of nexus in a broad sense, which means eBay’s California operations create nexus for its out-of-state sellers.  He worries that other retailers that invite outside retailers to sell on their e-commerce sites might try to poach eBay’s sellers in the wake of the tax law.

Johnson adds that when Illinois enacted its law that ties retailers’ sales tax collection responsibility to affiliates, many of Overstock’s major affiliates, including FatWallet.com and CouponCabin.com, moved to other states such as Wisconsin and Indiana that don’t have similar laws. Overstock is now doing business with those affiliates again in their new states, which are now receiving the income tax that used to go to Illinois. “Everyone is winning now except the state of Illinois,” he says.

In addition to California and Illinois, the other states with affiliate tax laws are New York, Arkansas, Connecticut, North Carolina and Rhode Island. States considering similar affiliate laws include Massachusetts, Texas, Arizona, Hawaii, Missouri, Minnesota, Tennessee and Vermont.

Other states will watch closely to see how much additional revenue, if any, California raises with its new laws on online retailing, says Daniel Schibley, a senior analyst for state tax at CCH, a unit of Wolters Kluwer, which publishes tax and legal information for businesses. Meanwhile, he says, there will be a sharper focus in the coming months on the legal challenges to affiliate laws in Illinois and in New York, where Amazon.com is challenging that state’s affiliate tax law. 

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