Amazon’s Sales Tax War

Fortune magazine had a wonderful article this month about how has managed to avoid collecting state sales tax for so long.

Before the story, first some background:  A business is required to collect sales tax from customers in states where the business has a physical presence.  If a business in Indiana sells a widget to a customer, in lets say, California, the business will only need to collect and remit to California the sales tax on that sale if the business has employees, or a location in California.  Not surprisingly, most small businesses do not have a physical presence outside of their home state and so do not collect sales tax on sales made to customers in all of the other 49 states.

Starting out, only had a physical presence in their home state of Washington.  As they added distribution centers all over the country and relied on employees in the various states to do work for them, one would assume that the company was establishing a physical presence in the various states, and thus, would need to start collecting sales tax on sales to those various states.

But in reality, largeley avoided collecting tax outside of Washington by holding those distribution centers and employees in entities that were separate from the entity.  Thus, they argued, (the company that made the sale) itself did not have a physical presence in those states…the entity that held the distribution center had a physical presence, but that is OK because the distribution center doesn’t make sales and so does not need to collect sales tax anyway.  By following this structure, avoided a physical presence in the states and maintained that they did not need to collect sales tax on sales outside of Washington.

This legal maneuvering has been around for decades and helps businesses avoid collecting or paying all kinds of taxes.  Back when I worked for a large accounting firm with large clients, strategies like this were used every time the tax savings justified the extra hassle and professional fees needed to maintain these structures.  We created entities and legally shifted profit and sales to avoid Federal tax, foreign tax, sales tax, property tax, state income tax, employment taxes, etc.

How does this relate to your small business?

More and more businesses based in Indiana are selling products on the web.  This means that their employees are sitting at desks in Indiana and sending products to states in which they don’t have a physical presence.  In those instances, sales tax need not be collected.  But watch out…if the business employs someone, rents a location, contracts with a representative, sends a sales rep, or integrally relies on someone in a distant state, then that business might have created a physical presence and would need to now collect sales tax in that state.  …Send an employee on a trip to collect on an account in Utah? …Go to a trade show in Florida?  …Fix a broken product in New York?  …Have a remote employee working from home in California?  These simple everyday business occurrences can cause you to establish physical presence in a new state.

The laws vary from state to state as to what actions substantiate physical presence, so finding the answer may not be easy, but likely will be worthwhile.