drop shipments and sales taxmedia.straffordpub.com/.../presentation.pdf · 2013. 5. 29. ·...

Drop Shipments and Sales Tax Navigating Varying State Policies on Registrations and Exemptions

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WEDNESDAY, MAY 29, 2013

Presenting a live 110-minute teleconference with interactive Q&A

Miles Hutchinson, CPA, President, Sales Tax Advisors, Greater Kansas City Area

Steven Dimengo, Partner, Buckingham Doolittle & Burroughs, Akron, Ohio

Richard Fry, Attorney, Buckingham Doolittle & Burroughs, Akron, Ohio

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Drop Shipments and Sales Tax Seminar

Burroughs

rfry@bdblaw.com

May 29, 2013

Burroughs

sdimengo@bdblaw.com

Miles Hutchinson, Sales Tax Advisors

whereismiles.hutchinson@gmail.com

Steven Dimengo, Buckingham Doolittle & Richard Fry, Buckingham Doolittle &

Today’s Program

Potential Nexus-Related Difficulties

[Steven Dimengo and Richard Fry]

Fundamental Drop Shipping Concepts

[Miles Hutchinson]

Ongoing Compliance Demands From Drop Shipping

[Miles Hutchinson, Steven Dimengo and Richard Fry]

States That Pose Particular Issues

[Steven Dimengo and Richard Fry]

Slide 20

Slide 68

Slide 38

Slide 59

Notice

ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY

THE SPEAKERS’ FIRMS TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY

OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT

MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR

RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.

You (and your employees, representatives, or agents) may disclose to any and all persons,

without limitation, the tax treatment or tax structure, or both, of any transaction

described in the associated materials we provide to you, including, but not limited to,

any tax opinions, memoranda, or other tax analyses contained in those materials.

The information contained herein is of a general nature and based on authorities that are

subject to change. Applicability of the information to specific situations should be

determined through consultation with your tax adviser.

POTENTIAL NEXUS-RELATED DIFFICULTIES

Steven Dimengo, Buckingham Doolittle & Burroughs

Richard Fry, Buckingham Doolittle & Burroughs

Background:

Drop Shipment Concepts

Supplier/wholesaler selling property to retailer but delivers property

directly to the retailer’s customer on behalf of retailer

Vendor’s sales/use tax collection requirement: Bright-line physical

presence requirement

Customer is still liable for use tax if tax is not collected by vendor.

The issue: Supplier has a physical presence in the state where the

customer is located, but the retailer does not.

Master Your Nexus

Quill Corp. v. North Dakota, 504 U.S. 298 (1992)

Due Process Clause requires “some definite link, some minimum

connection, between a state and the person, property or transaction

it seeks to tax.”

Commerce Clause requires that a state tax (1) be applied to an

activity with a substantial nexus with the taxing state, (2) be fairly

apportioned, (3) not discriminate against interstate commerce, and (4)

be fairly related to the services provided by the state.

De minimis exception: Activities, when taken together, establish only a

trivial connection with a state. Quill, at n. 8 (presence of “a few floppy

diskettes” did not give rise to substantial nexus). Wisc. Dept. of Rev. v.

William Wrigley, Jr., Co., 505 U.S. 214 (1992).

What Constitutes A Physical Presence?

Physical presence can be established directly or through an

agent/representative in the state.

Nexus created by independent contractors “conducting continuous local

solicitation in [the state] and forwarding the resulting orders …” to the

taxpayer. Scripto, Inc. v. Carson, 362 U.S. 207 (1960)

Sales representatives/independent contractors’ in-state activities of calling

on customers and soliciting orders constituted continuous physical presence

of taxpayer.Tyler Pipe Industries, Inc. v. Washington Dep’t of Rev., 483 U.S.

232 (1987)

Common Nexus Issues

Voluntary registration: A business’ registration to do business in a state

as a foreign entity may lead to a concession that the business is subject to

the state’s taxes. Likewise, voluntary registration to collect and remit

sales tax likely constitutes a concession that sales tax collection is

required.

Employee visits: Sporadic employee visits will likely create substantial

nexus, even though a taxpayer had no permanent place of business in the

state, especially if the employee’s presence helps create or maintain the

in-state market.

Telecommuters: Employee works from home in a state where the

taxpayer otherwise does not have a place of business.

See, e.g., Telebright Corp., Inc. v. Director, Div. of Tax., No. 011066-

2008, CCH ¶401-501 (N.J. Tax Ct., Mar. 24, 2010) (Maryland

business had nexus with New Jersey for corporate business tax by

virtue of a telecommuting employee who worked out of her home

after husband was relocated to the state).

Common Nexus Issues (Cont.)

Trade show presence

Many states have specific exemptions for the attendance of trade

shows, with some being qualified by the number of days attending

the trade show and whether orders are taken at the trade show.

Other states, Texas for example, have taken a more aggressive

position that nearly any presence at a trade show where products are

sold, orders are taken or promotion for future sales are made creates

nexus.

State-specific standard

In-State Representative Activities

General rule: Substantial nexus will be present if (1) a representative relationship

is exists (regardless of contractual designation), and (2) the representative

performs in-state activities on the taxpayer’s behalf that help create or maintain

the taxpayer’s market.

Deliveries or installations: Nexus is present if a business delivers property to

customers in the state using its own trucks. Delivery via common carrier or U.S. mail

is excluded.

Warranty repairs and service work: Generally will create nexus, even if performed by

an independent contractor or representative

Dell cases: Contractually, Dell was the agent and the warranty provider was the

principal. Dell argued that a principal’s presence cannot be attributed to its agent

to create nexus. But, a substantial presence was found due to Dell’s control over

the service provider. The customer was first obligated to contact Dell for over-

the-phone technical support. Dell determined whether an issue was covered by

the warranty, and the service provider’s presence was significantly associated

with Dell’s ability to create and maintain a market in the state. See Dell Catalog

Sales, LP v. New Mexico, 199 P.3d 863, (N.M. App., 2008); State v. Dell Int’l, Inc.,

922 So.2d 1257 (La.App., 2006); and Dell Catalog Sales, LP v. Comm’r of Rev.

Serv., 834 A.2d 812 (Conn. Sup., 2003) (failed to find substantial nexus due to lack

of evidence concerning extent and frequency of warranty provider’s presence,

despite finding that Dell receives significant benefit from provider)

Click-Through Nexus

11 states have click-through nexus statutes or administrative policies.

Generally, nexus is presumed to exist if:

Agreement with in-state affiliates

To refer sales, including via Web link

In exchange for a commission or other consideration, and

Sales from such referrals is more than $10,000 per year.

NY statute recently upheld amid facial constitutional challenge.

Overstock.com, Inc. v. N.Y. St. Dept. of Tax and Fin., 2013 WL 1234823

(N.Y. Ct. of Apps., Mar. 28, 2013)

Limited to compensation paid based upon completed sales;

recognized mere advertising insufficient to create nexus. N.Y. St.

Dept. of Tax and Fin. Memorandum No. TSB-M-08(3)S (May 8,

California has “Google” exception. Cal. Rev. & Tax. Code 6203(c)(5)(B)

Affiliate Nexus

Deems nexus to exist if a related entity with an in-state physical presence:

Sells the same or substantially similar products under the same or a

substantially similar name

Has facilities or employees in the state which advertises, promotes or

facilitates sales for the out-of-state seller, or helps establish or

maintain an in-state marketplace (such as receiving or exchanging

returned merchandise)

Has an in-state distribution center, warehouse or similar location that

delivers products sold by the out-of-state seller

Drop Shipments

Physical presence?

In-state representative fulfilling orders on behalf of out-of-state seller?

Presence of in-state property (inventory)?

In 2013 BNA “Survey of State Tax Departments,” 15 states indicated that

the use of a drop shipper would create nexus when the drop shipper and

customer are in the same state.

Is nexus created even if the customer and drop shipper are not in the

same state?

No state has made such a finding (except Missouri via administrative

regulation, which is discussed later).

Web-Based Nexus

Owns or leases in-state server

Shared use of third party’s in-state server

Pays a Web-hosting provider with an in-state server

Slide Intentionally Left Blank

Trailing Nexus

In 2013 BNA “Survey of State Tax Departments,” 35 states responded

that they would find nexus to exist for the entire taxable year during

which nexus-creating activities ceased (but no longer).

Only IN responded that trailing nexus may extend beyond the

taxable year.

“One year seems reasonable to me as a benchmark for states without

specific guidance, but a state may have unique consideration that

dictate a different policy.” - Thomas Shimkin, director of the

Multistate Tax Commissioner’s nexus program

FUNDAMENTAL DROP SHIPPING CONCEPTS

About Miles Hutchinson

Miles Hutchinson is a seasoned veteran of finance, accounting and tax law with over 35 years experience including roles from financial auditor at PricewaterhouseCoopers to CFO of a billion dollar real estate development company. He writes and speaks for many of the national and international seminar companies and is recognized as an expert in payroll and sales & use tax as well as financial modeling & analysis tools, business strategy and communications. Mr. Hutchinson holds a CPA accreditation and is the author of several useful accounting and tax tools available at www.soxpolicies.com and www.salestaxadvisors.com. Please visit his web sites to see how you can further benefit from his expertise.

Sales Tax Advisors, Inc.

Fundamental Drop Shipping Concepts

• The drop shipment transaction

• Problematic scenarios and issues to anticipate

• Case examples

– California

– New York

23 Sales Tax Advisors, Inc.

Interstate Vs. Intrastate

• Interstate – buyer and seller are in different states; goods are delivered across a state line.

• Sourcing rules - depends on the rules of the shipping state re:

– Title transfer

– Shipping point

– Destination

• Intrastate – goods are delivered within the same state from which they were shipped

• Sourcing rules - depends on the rules of the state re: – Title transfer

– Shipping point

– Destination

nex·us (nkss) n. pl. nexus or nex·us·es

1. A means of connection; a link or tie

2. A connected series or group

3. The core or center

Nexus (Cont.)

• Many states require out-of-state sellers to register to collect sales and use tax if they engage in activities within the state such that nexus is created.

• Sellers should check state statutes for nexus requirements before doing business in or registering in a foreign state.

Determining Nexus

• Download a copy of state’s nexus questionnaire

• Review state definitions for authority to tax

• Contact Sales Tax Advisors, Inc., www.salestaxadvisors.com

Interstate Commerce Exemption

• U.S. Constitution

• Commerce Clause of the ICE

• States will not tax goods moving in interstate commerce – no border taxes.

• If property comes to rest, it may become subject to that state’s power to impose a tax.

The Drop Shipment Transaction

V2 – Manufacturer/ Distributor

V1 – Retailer

Customer

Key conditions: V1 does not have nexus in the customer’s state. V2 does have nexus in the customer’s state. V2 requires proper exemption certification to avoid charging tax in Invoice 1.

The Drop Shipment Transaction (Cont.)

V1 – Retailer

Customer

V1 – Retailer

Customer

Exempt Order 2

V1 – Retailer

Customer

Exempt Order 2

V1 – Retailer

Customer

Exempt Order 2

Invoice 1

V1 – Retailer

Customer

Exempt Order 2

Invoice 1

V1 – Retailer

Customer

Exempt Order 2

Invoice 1

Key conditions: V1 does not have nexus in the customer’s state. V2 does have nexus in the customer’s state. V2 requires proper exemption certification to avoid charging tax.

California Drop Shipments

• CA requires retailer to register in CA to protect drop shippers from sales tax liability.

• Retailer must issue CA resale exemption certificate to drop shipper with a CA STID number.

• Retailers may not use exemption certificates from other states; they will not protect CA drop shippers.

• Retailers must collect and remit sales tax.

New York Drop Shipments

• Retailer may issue a New York state certificate with a home state registration number.

• Drop shipper may accept this documentation to avoid tax on NY deliveries.

• Retailer is not required to collect sales tax.

ONGOING COMPLIANCE DEMANDS FROM DROP SHIPPING

Consequences Of Non-Compliance

• If your company has drop shipper issues and does not know the rules in each state where goods are delivered, the consequences could be expensive.

– Drop shippers may begin charging you sales tax.

– Retailers see their profit margins erode.

– Penalties (and interest) for failure to:

• Register

• File tax returns

• Remit taxes

• No statute of limitations on retroactive application of penalties

Dealing With Non-Compliance

• Consider using a liaison to mediate correction of the problem

• Protect the company from discovery until a settlement is reached

• Determine whether amnesty is currently offered by the offended state

• Negotiate – states often consent to drop the penalties with those who volunteer to comply

• Interest is seldom negotiated.

Manage Your Tax Exposure

• Obtain a matrix of the state-by-state rules

• Follow each state’s requirements for documenting resale exemptions on your drop shipments

• Provide this documentation to the drop shippers to maintain your resale exemption and protect them from tax assessment during audits

• Remember, some states have time limits on their certificates – anywhere from two to 10 years

• Be sure to renew your exemption certificates before they expire

• Refer to: http://www.salestaxadvisors.com/v4.2/tax/drop/ for additional information and a matrix

• Several third-party vendors supply software (often Web-based) to help manage your exemption certificates.

Buying From Wholesalers

• Wholesalers may not be aware of the sales tax risks associated with drop shipping.

• Get ahead of this issue

• Inform your drop shippers of the need for proper documentation

• Provide the correct documentation whether asked or not

• Maintain a tickler file of expiration dates for certificates you have issued, and renew early

Streamlined Sales Tax Project

• Increase in Internet and catalog purchases

• Web-based businesses

• States are losing tax dollars.

• Main Street Fairness Act

• Standardization of definitions

• Amnesty

• Member and associate states

• http://www.streamlinedsalestax.org/

Streamlined States

Sales And Use Tax Resources

State Web sites – www.cpaclassifieds.com- free CPA tools – IRS toolbar – state sites list

Professional associations

www.streamlinedsalestax.org

www.mtc.gov

www.Zip2Tax.com

R.I.A. CheckPoint online research

Sales Tax Advisors, Inc.

www.salestaxadvisors.com

Audit Issues From

Different Perspectives

Drop shipper/wholesaler: Were exemption certificates maintained properly?

If collection is required, upon what price must tax be collected?

Seller/retailer: What is in-state presence? Does presence through drop

shipper – inventory and/or in-state representative fulfilling orders –

create nexus?

Information collection: Seller may have been flagged due to

relationship with drop shipper.

Customer: Was tax charged on taxable purchases? Avoid double-taxation

(e.g., if drop shipper charged tax, and customer self-accrued tax)

Preparing For An Audit

Document retention - resale/exemption certificates

Does the state accept a resale/exemption certificate without an in-

state registration number?

Will acceptance of an out-of-state certificate relieve the drop shipper

of its collection obligation?

Does the state accept multi-jurisdictional certificates?

Preserving Exemption Certificates

Easiest to store electronically in central location

Periodically examine certificates for:

Completeness

Validity

Timeliness

Invoices

Retailer (not drop shipper) should invoice the customer.

It is best if retailer’s invoice does not indicate from where goods were

shipped. Otherwise, it appears as though the retailer had inventory

present in the state.

Audits

Majority allows manufacturer/wholesaler to accept multi-jurisdiction or

home state resale certificate.

SSUTA requires member states to accept a resale certificate or other

evidence, even if the seller is not registered to collect sales or use tax in

the state where the sale occurs.

24 full member states

Approximately 36 states follow these procedures.

Electronic Storage

Exemption certificates may be stored in paper or electronic form.

If one is accepted in electronic form, no signature is required.

Timing Of Acceptance

If accepted at the time of sale or within 90 days thereafter, the seller is

relieved of collection obligation.

120-day rule:

If an exemption certificate is not so obtained, the seller may obtain a

fully completed exemption certificate within 120 days of the state

taxing authority’s request for substantiation of exempt sales.

Good Faith Acceptance

Means that the claimed exemption is:

Statutorily available on the date of the transaction in the jurisdiction

where the transaction is sourced,

Applicable to the item being purchased, and

Reasonable for the purchaser’s type of business.

Good faith standard does not apply when accepted within 90 days of the

However, a state need not accept a fraudulently obtained certificate.

Other Evidence

Other evidence of an actual exempt use/purpose may be presented.

Seller will have burden of proof to establish exemption.

E.g., statement or letter of usage from customer

Non-SSUTA Members

Non-member states may have more onerous requirements to establish

exemption.

Some states only allow an exemption if the purchaser is issued a state-

specific registration or certificate.

For example, Florida requires a purchaser to obtain an annual resale

certificate to claim exemption.

Majority allows an exemption to be substantiated by other evidence of

exempt use/purpose, such as a customer statement.

But, the seller will likely have the burden of proof.

Additional Considerations To Support

Non-Taxability Of Sale

Supplier delivered property from outside the taxing state.

Customer has a direct pay permit.

Customer paid the tax.

Customer is entitled to an exemption as supported by obtaining a timely

exemption certificate.

Resale exemption

Status exemption (e.g., government entity or non-profit organization)

Use exemption (e.g., manufacturing equipment)

Preserve all exemption certificates indefinitely, since potentially no

statute of limitations due to failure to file sales tax returns

Dealing With Auditors

You may need to educate the auditor, as states with recent law changes

may not have taken the time to retrain their auditors.

Explain compliance procedures to help establish reasonable cause, if

delinquency exists to avoid penalties

Only provide information that is requested

STATES THAT POSE PARTICULAR ISSUES

SSUTA Drop Shipment Treatment

SSUTA requires each member state to “allow a third party vendor (e.g.,

drop shipper) to claim a resale exemption based on an exemption certificate

provided by its customer/re-seller or any other acceptable information

available to the third party vendor evidencing qualification for a resale

exemption, regardless of whether the customer/re-seller is registered to

collect sales and use tax in the state where the sale is sourced.” Sect.

317(A)(8)

Problematic Treatment

Certain states place the sales tax collection burden on a drop shipper

with nexus.

Assuming retailer does not have nexus and is not registered to collect

sales tax

Avoids dispute over nexus

Collection may be based upon: (1) wholesale price, or (2) retail price or

wholesale price plus mark-up.

Drop shipper is unlikely to know the retail price.

Florida

If a drop shipper fulfills an order from Florida and ships to a Florida

address, the drop shipper must collect tax.

“If a Florida manufacturer sells taxable merchandise to an

unregistered out-of-state dealer, who, being unregistered dealer, but

delivers it to the out-of-state dealer’s customer in Florida, he shall

collect tax from the out-of-state dealer, who, being unregistered, is

unable to furnish a resale certificate.” Fla. Admin. Code § 12A-

1.091(10)

If a drop shipper ships from outside Florida and uses a common carrier,

drop shipper may accept a multi-jurisdictional or home state exemption

certificate.

Missouri

Deems retailer to have nexus based upon temporary ownership of in-

state property

Takes the position that title passes from the drop shipper to the

retailer just prior to delivery to the consumer

Is presence de minimis?

Drop shipper does not have an obligation to collect tax, because the

retailer has nexus.

12 Mo. Code of State Regulations §10-114.100(4)(F)

Tennessee

Drop shipper must collect tax on behalf of retailer.

“[Sales of tangible personal property or taxable services made by a

dealer to an out-of-state vendor who directs the dealer act as his (the

out-of-state vendor) agent to deliver or ship tangible personal

property or taxable services to his (the out-of-state vendor) customer,

who is a user or consumer, are subject to Sales or Use Tax. The

dealer so acting as agent for the out-of-state vendor must collect the

tax involved on the transaction …” Tenn. Comp. R. & Regs. 1320-5-

Drop shipper cannot rely upon a consumer’s exempt status to claim

exemption.

“[T]he taxable event occurs at the time an item is sold by the [drop

shipper to the retailer]; subsequent transactions will have no effect on

the taxability of the [drop shipper]’s sale.” Tenn. Dep’t of Rev. Letter

Ruling 11-64 (Nov. 21, 2011)

Is this consistent with the above-quoted regulation?

Trending

More states are moving toward the majority of allowing a drop shipper

to accept a multi-jurisdiction or home state resale certificate, or other

evidence of actual exempt use, even if not registered with the state where

property is delivered.

Thanks to SSUTA and MTC

Nevada, Wisconsin and West Virginia recently changed position on

drop shipments.

Does this mean more pressure will be placed on retailer?

Summary Thoughts

Supplier/drop shipper

Always obtain properly completed resale exemption certificate from

retailer (even if not registered in destination state)

Problem/minority states, either:

Obtain customer exemption certificate (through retailer),

Collect tax from retailer

If audited – evidence customer paid tax (or direct pay permit)

Retailer

Don’t use drop shipper in customer state (unless prepared to

incorporate tax as part of doing business and/or increase price of

goods to cover such cost)

drop shipments and sales taxmedia.straffordpub.com/.../presentation.pdf · 2013. 5. 29. ·...

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