If you are considering the opportunity to get into affiliate marketing, your choices may be limited in some states due to the drive to impose sales tax collection on online merchants who have no nexus in the state. That is pushing dozens of online merchants to cancel their relationships with affiliates in states that redefine their tax laws in order to force Amazon and other online merchants to charge sales taxes.
The heart of this issue is one of nexus, which is a physical presence in a state. In 1992 in Quill Corp. v. North Dakota the U.S. Supreme Court ruled that online merchants cannot be forced to collect sales tax on behalf of states where they sell products unless they have a physical presence, called a nexus, in the state. That has been the rule since 1992. If a company has a physical presence in the state, they must collect sales taxes. If they do not have a presence, they do not collect taxes.
The new problem that is driving the sales tax issue for affiliates is that states are redefining the meaning of nexus in order to include affiliate marketers, even though they are clearly not employees of the online merchant. By definition they are independent contractors, but the states are including them in their redefinition for sales agents.
The issue first arose in 2008 when the state of New York changed the definition of nexus and told Amazon that they had to start collecting sales taxes for all sales within the state, even though Amazon has no nexus in the state. Amazon sued the state, but their case was dismissed by a New York judge in 2009. Amazon’s solution was to cancel all affiliate relationships in the state, which circumvents the new tax law.
Since then several other states, including Arkansas, Colorado, Illinois, North Carolina and Rhode Island have changed their definition of nexus in order to collect sales taxes. Many other states have attempted to pass similar laws, but they were defeated in the legislative process. Whenever the change is successful, Amazon cancels their relationships with thousands of affiliate marketers in that state. Dozens of other online merchants then follow Amazon’s lead and also cancel their relationships. This week, Connecticut became the latest state to see their affiliate marketing relationships severed by Amazon. This was followed by at least a dozen other online merchants who sent notices to their affiliates in that state stating that they were ending the relationship.
The Sales Tax Issue
The argument that most of the states give is that they are trying to level the playing field because online companies without a nexus in the state do not charge sales tax, but brick-and-mortar stores do. This completely disregards the cost of shipping, which is frequently absorbed by online companies like Amazon, but is not charged by physical stores.
One the online merchant side of the argument, there are over 30,000 taxing entities (states, counties, cities, etc) throughout the USA and it would be next to impossible for most merchants to collect sales taxes, file reports and write checks for each entity every month. This is the worst-case scenario for tax collection, but it is a potential issue. Furthermore, once a merchant starts to collect the tax, the merchant must allow the taxing entity to audit their books at any time that they desire. That is the real burden that is impossible for most companies to accept. Any audit is always disruptive and more so if a company is small or has limrted accounting resources.
The Tax Solution
There is a solution that most states and online merchants would agree to, but it is not going anywhere right now due to the current economic and political climate. The solution is a National Online Sales Tax for all online sales. This would be a flat tax imposed on online sales. The latest figure that we have seen proposed is a 5% tax. The tax would be sent to the a Federal collection agency along with a report detailing the percentages or total dollar amounts for online sales in each state. The Federal agency would be responsible for doling out the taxes to the states. As long as online merchants are protected from at-will audits from 50 states or potentially from 30,000 taxing entities, this would present a simple and very workable solution.
The need for states to collect taxes is understandable given all of the budget shortfalls states are currently experiencing. However, their tactic of redefining nexus has destroyed at least part of the income earnings for tens of thousands of affiliate marketers, which also reduces the state income taxes collected by those states. A 5% National Online Sales Tax is a workable solution that could resolve the issue for everyone involved in this debate.