Right Now, the Law’s on Amazon’s Side

States are ratcheting up legislation in order capture sales taxes from on-line retailers, even as companies like aggressively push back.

A closely-watched bill in the Texas legislature that defines Amazon’s distribution center in Ft. Worth as a physical nexus, thereby obligating the on-line retailing giant to collect taxes on sales to residents of the Lone Star State, passed on a second go-through of this year’s session, overcoming an initial veto by Gov. Rick Perry.

The next move is up to Amazon. Its distribution center is essentially a warehouse that fulfills online orders and employs 200. Amazon previously said it would close the center if the bill passed, but has yet to make good on the threat. However, it is dangerous to dismiss it as a bluff. When South Carolina passed a similar bill, the company closed a distribution center there; only to return once the legislation was reversed.

The collection of taxes from on-line sales has become touchy among even the free-market-minded. Brick-and-mortar store owners have become increasingly vocal as to what they see as a purposeful scheme of “tax avoidance” that puts them at an unfair disadvantage against on-line retailers. Research, such as an April paper from the University of Tennessee’s Center for Business and E-Commerce Research, stoke the flames by calling the current sales tax rules a tax subsidy for online merchants.

The heart of the Texas dispute is whether a distribution center counts as a nexus. The case law is Quill Corp. v. North Dakota and National Bellas Hess v. Illinois Department of Revenue, which, as broadly understood, stipulate that a business must have a nexus, that is, brick-and-mortar store, in the state in order to be liable for tax collection. If there is a viable court test to either or both of these decisions, the contention that a distribution center constitutes a nexus may have the most potential.

Yet it’s not slam dunk. Quill, for example, says that in order to qualify as a nexus, the physical presence must be “significantly associated with business in the state.” The task of tax collection must also not present “an undue burden.” These are critical, because they tie back to the Commerce Clause of the U.S. Constitution that places limits the power of states to interfere with interstate commerce. While much of the argument for Amazon taxes relies on fairness, (hence, The Main Street Fairness Act), fairness was never an issue in Quill or National Bellas Hess. The rulings are about applying constitutional limits on the ability of governments, in the pursuit of tax revenues, to disrupt business operations.

Amazon argues that its fulfillment center is not significantly associated with business in the state. The Texas fulfillment center ships to neighboring states. It also is not a consumer-facing storefront. It does not accept walk-in returns, nor will it replace or repair a defective product.

As for “undue burden,” it will do well to remember that collection of sales tax is a burden to start with. The states authorized collection at the point of sale out of realization there was no other way to capture that revenue (even now few consumers comply with use tax reporting requirements). In the spirit of enumerated powers, the Quill decision placed limits on states’ ability to deputize the private sector into tax collection. Quill protects businesses in one state from being preyed upon by others. Texas retailers may complain about Amazon, but their online sales to other states are not taxed.

Considering there are now more than 9000 sales tax jurisdictions in the U.S., compliance would still arguably be a burden, even in these days of the smartphone app.

Amazon also disputes claims from other trade groups, such as the International Council of Shopping Centers, that the lack of sales tax drive online sales. At the American Legislative Exchange Council’s annual meeting last week, Amazon officials NetChoice, the e-commerce trade group, pointed to data from New York State, where, for purposes of documenting the effect, Amazon collects sales taxes. Purchases from Empire State residents have not declined, the company said, maintaining that Amazon’s advantage derives from lower prices and perks like free shipping.

That may be true to a great extent, yet it is somewhat disingenuous to suggest that sales tax avoidance isn’t part of the equation. As combined state, county and city sales taxes in some jurisdictions, like Chicago, Illinois, reach nearly 10 percent, consumer arbitrage becomes a factor. Here, a $500 item purchased on-line saves almost $50, no small sum.

But whose fault is that? Despite the reality that consumers can reach a global market with the click of a mouse, states, counties and cities chose to raid residents’ wallets again and again in their quest for revenues to offset bloated budgets. Even William Fox, a co-author of the University of Tennessee report mentioned above, argued at ALEC that on-line sales tax legislation should be accompanied by across-the-board cuts in sales tax rates. Yet it’s hard to imagine a legislature willing to make that trade-off.

Perhaps instead of railing against Amazon’s alleged “unfair” tax advantage, retailers should protest rising sales taxes in general. For now, like it or not, the law of the land is on Amazon’s side–and for sound constitutional reasons.