{{item.videoDuration}}
{{item.title}}
{{item.text}}
{{item.videoDuration}}
{{item.title}}
{{item.text}}
Pennsylvania court rules out-of-state sellers lacked due process nexus
October 2022
In brief
The Pennsylvania Commonwealth Court held on September 9 that out-0f-state merchants on an online marketplace lacked due process nexus with Pennsylvania for both sales and use tax and personal income tax purposes. Further, the court ruled, the state could not compel the merchants to answer a detailed nexus questionnaire, and the merchants did not have to wait for a tax assessment before challenging the Department’s taxing authority. [Online Merchants Guild v. Secretary of Revenue, Pa. Commw. Ct., No. 179 M.D. 2021, 9/9/22]
For consideration: The decision addresses the narrow factual scenario of online sales made prior to mandatory marketplace collection for certain third-party sellers using marketplace fulfillment services. However, the reasoning in the decision may leave potentially broad implications for state taxing jurisdiction in the post-Wayfair age.
For sales and use taxes, online sellers may lack information and control related to marketplace platform sales of digitally delivered goods and services, raising due process concerns. The decision also could implicate the taxability of income and gain from investments and partnerships that do not purposefully direct business activity into the taxing state, even if such activity might have been reasonably foreseen.
Further, the court’s finding that the Department of Revenue does not have “unfettered authority to seek business information from any person or entity it desires for the purpose of determining its status as a taxpayer” might have significant implications for state sales tax nexus inquiries. Such inquiries have accelerated in the post-Wayfair environment, including for local tax compliance.
In detail
The petitioner, Online Merchants Guild, is a trade association composed of businesses that sell merchandise via the internet, including marketplace sales through the “Fulfillment by Amazon” (FBA) program.
Under the FBA program (as described by the court), a merchant cannot select the warehouse to which its merchandise will be shipped unless it participates in an “inventory placement service” that enables the merchant to direct its shipments to certain locations. Further, this service only governs the initial shipment of merchandise, as the merchant retains “no further control” over its products unless it elects to withdraw them from sale. FBA merchants have no contact with the customers that purchase their merchandise.
The Guild filed its petition with the Pennsylvania Commonwealth Court, a statewide intermediate appellate court, after its members received a Business Activities Questionnaire Request from the Department of Revenue indicating that they “may have” a physical presence in the state as a result of storing property at an in-state distribution or fulfillment center, which would require the collection and remittance of sales tax and payment of personal income tax (PIT).
Businesses that responded to the request could participate in a voluntary compliance program with the Department. However, those that did not respond would be subject to “additional enforcement actions” and forfeiting “any penalty relief or limited lookback” under the compliance program.
Due process analysis
The Commonwealth Court cited case law that due process requires “some definitive link, some minimal connection, between the state and the person, property or transaction it seeks to tax,” and there must be some act by which an entity “purposefully avails itself of the privilege of conducting activities within the forum state, thus invoking the benefits and protections of its laws.”
The court noted that the placement of goods into the stream of commerce with an expectation that they will be purchased by a state’s consumers may indicate purposeful availment; however, “as a general rule, it is not enough that the defendant might have predicted that its goods will reach the forum state. J. McIntyre Mach., Ltd. v. Nicastro, 564 U.S. 873, 882 (2011).”
The Department of Revenue argued that FBA merchants should have reasonably anticipated that they would incur tax liability in Pennsylvania. However, the Commonwealth Court emphasized the merchants’ lack of knowledge over the ultimate warehousing location of their products and the identity and location of their purchasers.
“We are hard pressed to envision how, in these circumstances, an FBA Merchant has placed its merchandise in the stream of commerce with the expectation that it would be purchased by a customer located in the Commonwealth, or has availed itself of the Commonwealth’s protections, opportunities, and services,” the court stated.
Examination authority
The Pennsylvania Department of Revenue conceded that a state must have personal jurisdiction over a nonresident business before it can require the payment of taxes. However, it argued that the Business Activities Request it sent to the FBA merchants was not a demand for tax payments, but rather a “demand for information concerning potential tax liability.” The court, however, found that the threat of additional enforcement actions for failure to provide the requested information “clearly suggests the existence of pending enforcement actions.”
The Commonwealth Court continued: “Critically, Revenue’s investigative powers…apply to the records of taxpayers, not individuals or entities Revenue suspects may be taxpayers. Furthermore, [the law] does not grant Revenue the unfettered authority to seek business information from any person or entity it desires for the purpose of determining its status as a taxpayer. Due process requires a connection between the taxing authority and the person or entity it seeks to tax and ‘some act’ indicating the alleged taxpayer has availed itself of the taxing authority’s protections, opportunities, and services.”
Observation: The examination and enforcement provisions vary in Pennsylvania according to the type of tax administered. However, at least regarding sales and use taxes, this decision raises questions about the validity of nexus questionnaires in particular circumstances and how they may be used by the Department of Revenue to pursue audit leads.
{{filterContent.facetedTitle}}
{{contentList.loadingText}}
{{contentList.loadingText}}
Contact us
Follow us
