BILL ANALYSIS �
Senate Appropriations Committee Fiscal Summary
Senator Christine Kehoe, Chair
SB 234 (Hancock)
Hearing Date: 04/11/2011 Amended: As Introduced
Consultant: Mark McKenzie Policy Vote: G&F 6-3
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BILL SUMMARY: SB 234 would enact a "long-arm" nexus to determine
whether out-of-state retailers must collect and remit the use
tax on sales to California consumers. Specifically, this bill
would refine the definition of "retailer engaged in business in
this state" to include any retailer that has substantial nexus
in this state for purposes of the Commerce Clause of the United
States Constitution, and any retailer upon whom federal law
permits the state to impose a use tax collection duty. The bill
also alters the definition to provide that the existing
categories of retailers includes, but is not limited to those in
current law. The measure repeals the inclusion of retailers
soliciting orders in a substantial and existing way, and the
exclusion from taking orders over a computer telecommunications
network that are contingent on federal actions.
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Fiscal Impact (in thousands)
Major Provisions 2011-12 2012-13 2013-14 Fund
Use tax revenue gains unknown potential revenue increases
General
------------see staff
comments-----------
BOE administration likely minor up-front costs to update
existing General
regulation. Unknown ongoing costs
------------see staff
comments-----------
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STAFF COMMENTS:
State law imposes the sales tax on every retailer "engaged in
business in this state" that sells tangible personal property to
collect the appropriate tax from the purchaser and remit the
amount to the Board of Equalization (BOE). Unless the person
pays the sales tax to the retailer, he or she is liable for the
use tax, which is imposed at the same rate as the sales tax on
any person consuming tangible personal property in the state.
When a California resident purchases tangible personal property
from a retailer that lacks physical presence in the state
online, by mail order, or on a trip to another state, the
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obligation rests on the consumer to remit the use tax due.
California state income tax forms include a line for taxpayers
to remit the use tax voluntarily (SB 1009, Alpert, Chapter 718
of 2003, and SB 858, Committee on Budget, Chapter 721 of 2010),
which resulted in use tax collections of $10.2 million in 2009.
This provision was enhanced with the passage of SB 86 (Committee
on Budget and Fiscal Review), Chapter 14 of 2011, which also
requires taxpayers to use a lookup-table, based on their
adjusted gross income, to calculate the amount of use tax to
report on state income tax forms. To further increase sales and
use tax collections, the Legislature also enacted ABx4 18
(Committee on Budget, Chapter 16 of 2009-10 4th Ex. Session),
which imposes a use tax registration and reporting obligation on
larger businesses to capture more of the use
tax on "business-to-business" transactions. This measure has
resulted in collections of $32 million in use tax, interest, and
penalties since its enactment.
California law and regulations (BOE regulation 1684) specify
various factors that constitute physical presence for the
purpose of use tax collections, including having a warehouse,
office, sales room, or other place of business in California, or
having a representative, sales agent, or other contractor
operating in this state for the purpose of selling, delivering,
installing, assembling, or taking orders. BOE regulations
specify that a retailer is not considered to have physical
presence solely based on its use of a representative or
independent contractor for performing warranty or repair
services. BOE regulations also provide that the use of an
in-state computer server on the Internet to create or maintain a
web page by an out-of-state retailer is not considered a factor
in determining whether the retailer has a physical presence in
California.
One of the most contentious issues in the field of state
taxation concerns the constitutional authority of states to
impose a use tax collection responsibility on out-of-state
retailers for sales of tangible goods to an in-state consumer.
The U.S. Supreme Court has opined that it is a violation of the
Commerce Clause of the U.S. Constitution for states to compel
retailers without physical presence in the state to collect and
remit use taxes (Quill Corp. v. North Dakota, 504 U.S. 278,
1992). States have passed legislation to expand the definition
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of "physical presence" and "substantial nexus" for purposes of
compelling increased use tax collections, and each new law that
is passed has been subject to court challenge by retailers. New
York passed a law, for example, creating a presumption that a
retailer solicits sales in the state if an in-state affiliate is
compensated for referring customers directly or indirectly to
the retailer, stating that an "attributional nexus" exists.
Courts have upheld the law to date, resulting in other states
passing similar laws. As states pass laws to compel retailers
to collect and remit the use tax, however, those businesses
aggressively change their business models to circumvent the new
requirements. For example, a retailer could terminate affiliate
relationships in order to continue selling to that state's
consumers, which could have a minimal impact on the retailer
while affecting income tax collections associated with that
affiliate's loss of income.
SB 234 is intended to provide BOE with additional authority to
establish nexus for purposes of compelling out-of-state
retailers to collect and remit use tax on sales to California
consumers. This bill would provide a "long-arm" nexus, an
approach that allows BOE to assert nexus to the maximum extent
allowable under federal law and the U.S. Constitution. The
impact of this bill would depend upon how BOE would ultimately
change its regulations in order to compel out-of-state retailers
to collect and remit use taxes. The bill provides BOE with
flexibility to also revise regulations in the future to address
changes in federal law and future court interpretations of the
Commerce Clause. It is likely that any changes to BOE
regulations in an attempt to compel increased use tax
collections by out-of-state retailers would result in some
degree of change to the business models of affected retailers in
a continued attempt to avoid collecting and remitting use taxes.
The BOE reports that annual state and local revenue losses
resulting from unreported use tax associated with out-of-state
Internet and mail order sales is approximately $1,145 billion
per year ($795 million from consumer purchases and $350 million
from businesses). SB 234 could expand BOE's ability to capture
more use tax revenues from sales by out-of-state retailers to
the extent the bill expands nexus to some out-of-state retailers
that do not currently collect the tax. BOE revenue estimates of
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a previous similar bill (AB 1840, Calderon, 2008) anticipated
additional revenues of 1% to 5% of the lost state and local
revenues from internet and mail order sales, or $11 to $57
million ($7 million to $35 million attributable to the General
Fund).
The actual magnitude of any revenue increase would be dependent
upon numerous factors, including behavior of retailers that
would be subject to state requirements to collect and remit the
use tax from consumers as a result of the nexus created by this
bill, the extent of BOE regulations necessary to implement this
bill, and actions of the courts in response to legal challenges
to enactment of a long-arm nexus. To indicate the range of the
potential fiscal impacts of this bill, staff notes that,
according to BOE, this bill could result in substantial
increases in use tax collections of approximately $374 million
(approximately $235 million General Fund) annually if 5 percent
of the use tax gap is closed and the bill results in full
compliance with no behavioral changes by out of state retailers
with in-state affiliate programs. The actual revenue gains
could be substantially lower than the potential revenue gains
noted above, and could be relatively inconsequential if
out-of-state retailers cancel all affiliate relationships and
discontinue the use of eBay to sell to California consumers. As
an example, Amazon, which currently comprises roughly 50% of the
internet sales of large firms that don't currently have nexus in
California, has notified BOE that it would cancel business
relationships with all of its current affiliates if this bill is
enacted in order to continue sales in California without
collecting the use tax. In addition, termination of affiliate
programs could have an adverse impact on income taxes that would
otherwise be paid on income received by California affiliates
that currently have agreements with out-of-state retailers. The
magnitude of any lost income tax revenues associated with the
cancellation of affiliate relationships is unknown. Lastly, the
timing of any potential revenue gains would depend upon the
ultimate outcome of any court challenges to the bill, future BOE
regulatory activity, and court actions elsewhere that impact the
applicability of the Commerce Clause.
Enactment of this bill could have an increase in the BOE's
workload attributable to amending the BOE's regulation,
identifying affected out-of-state retailers, and ensuring
compliance by out-of-state retailers. Up-front costs to update
existing regulations would be absorbable and part of annual
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regulatory updates performed by BOE. Ongoing costs are unknown
and would depend upon the nature of the amended regulations.
These costs could be minor if the updated regulations would only
apply to attempted use tax collections from a few retailers, but
could be significant if the regulations would apply more broadly
to assign "nexus" to numerous out-of-state retailers and cause
BOE to incur additional staffing costs to administer the returns
of these retailers.