California Court to Borders Online: You've Got Nexus

Two recent rulings against the online arms of two chain bookstore giants will likely have nationwide ramifications in the ongoing argument over what constitutes nexus in a state and which businesses are required to collect online sales tax.

In a May 31 decision, the California First District Court of Appeals affirmed a California Board of Equalization (BOE) recommendation that Borders Online LLC had nexus in California and owed back use tax because Borders Books & Music, Inc., accepted returns of Borders Online purchases. Borders Online will most likely appeal to California's Supreme Court. Meanwhile, BTW has learned that the staff of BOE has completed an audit and delivered the opinion to its Board that Barnesandnoble.com has nexus in the state and that the chain retailer owes approximately $20 million in back taxes, according to sources close to BOE. These sources report that Barnesandnoble.com is seeking a settlement with BOE, which to date has not responded.

"These two decisions mark important progress in the fight for sales tax equity," said ABA COO Oren Teicher. "For years, we have been urging state authorities to look beyond the facade of a 'separate' Internet company that some national chains use to argue that they have no physical presence within the state -- even a cursory look at their business model reveals this is not the case. And though the process has been slow, we believe the California rulings are critical steps towards nationwide e-fairness."

The Borders case began in 2001, when BOE rendered an assessment covering a 18-month period, from April 1998 through September 1999, against Borders Online, Inc. for back use taxes, because its California stores accepted returns of Borders.com purchases.

A year later, BOE issued a Memorandum Opinion stating that Barnesandnoble.com was obligated to pay California back use taxes for a period of four-plus months -- from November 15, 1999, to March 31, 2000. BOE ruled that, because the bricks-and-mortar Barnes & Noble stores were offering customers holiday coupons that discounted purchases made at its online store, Barnesandnoble.com had established a physical presence, or nexus, in the state of California. When Barnesandnoble argued that BOE was charging it back taxes for a period longer than it should, BOE launched a full-scale internal audit.

Both retailing giants argued that their online presence was a different entity from their bricks-and-mortar stores -- therefore, the online stores were not required to pay California state tax.

In the recent decision against Borders Online, Judge Ronald E. Quidachay wrote: "We have already determined that Online's return policy was part of its strategy to build a market in California. We further note that Borders' efforts on Online's behalf were not limited to accepting returns from -- and providing exchanges and credit card refunds to -- Online customers. Borders' receipts were sometimes imprinted with 'Visit us online at www.Borders.com,' and Borders' employees were encouraged to refer customers to Online to find merchandise not available at Borders stores. The cross-selling synergy was also maintained by the use of similar logos, by the link to Borders' website from Online's website, and by the sharing of some market and financial data between the two entities. Online generated more than $1.5 million in sales in California in 18 months. These facts amply support the conclusion that Online had a representative with a physical presence in the State and the representative's activities were 'significantly associated with [Online's] ability to establish and maintain a market in [the] state for the sales.'"

The decision also noted: "Here, Borders stood ready to accept returns and issue refunds for all Online merchandise purchased in California, whether or not this policy was actually posted on Online's website. All the while, Borders and Online were involved in cross-promotional activities, promoting the Borders 'brand.' Were we to accept Online's argument that a substantial nexus did not exist during the entire time period, the company would be free to simply promote the policy through its in-state agent and reap the benefits of that policy while avoiding the state's use tax by promoting -- and then simply removing -- the policy on its website.

"In short, we conclude that the imposition of a use tax on Online during the entire disputed period does not violate the commerce clause of the U.S. Constitution." -- David Grogan [1]