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VideoNew York and California to Expand Taxation of Out-of-State Internet Activities
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Following a recent Technical Memorandum issued in California, New York has issued a proposed rule to adopt parts of the Multistate Tax Commission’s (MTC) updated statement on P.L. 86-272, which was updated in 2021 to reflect the impact of e-commerce. P.L. 86-272 limits the ability of state and local governments to tax the net income of out-of-state businesses on income derived within the state. States have used the MTC’s guidance on its interpretation of P.L. 86-272 in applying the law, but the guidance had not been updated since 2001. If the rule is adopted, New York would be the second state to adopt the revised guidance.
With the adoption of the updated guidance, businesses previously protected from paying the state corporate income tax in California or New York could now be liable for these taxes through various internet activities. Other states are likely to follow California and New York, a development that would significantly impact the income tax liability of many companies with internet-based business activities.
Public Law 86-272
Under P.L. 86-272, which has been codified as 15 U.S. Code Section 381, businesses have immunity from the taxation of net income if their only business activities within the state are the solicitation of orders for sales of tangible personal property, and the orders are sent outside the state for approval or rejection and are filled by shipment or delivery from outside the state.
The MTC first issued its “Statement of Information Concerning Practices of Multistate Tax Commission and Signatory States Under Public Law 86-272” in 1986 and has updated it several times since in response to legal developments. The MTC updated its interpretation of the law in August 2021 in light of advances in technology and commerce and an analysis of common fact patterns involving internet activities and adopts a more expansive view of when a business “engages in a business activity” within a state.
“Activities Conducted Via the Internet”
The updated MTC statement includes a new section entitled “Activities Conducted via the Internet,” which updates the MTC’s interpretation of the law to adapt it to developments in e-commerce. The MTC notes that “the way in which interstate business is conducted has changed significantly” since P.L. 86-272 was enacted, but Congress “has neither created a federal mechanism to provide administrative guidance to taxpayers nor has it updated the statute to indicate how it applies to new business activities.”
The new guidance provides the general rule that “when a business interacts with a customer via the business’s website or app, the business engages in a business activity within the customer’s state.” However, “when a business presents static text or photos on its website, that presentation does not in itself constitute a business activity within those states where the business’s customers are located.” The MTC guidance also adds teleworking to the list of unprotected activities and includes 11 examples of internet activities with analysis of whether they are protected by P.L. 86-272.
California FTB Technical Memorandum
The California Franchise Tax Board (FTB) issued a technical memorandum in February 2022 that included the MTC’s treatment of telecommuting and adopted its examples and analysis of P.L. 86-272 in the updated statement. The issuances of a technical memorandum allows the California FTB to apply the interpretation retroactively.
New York Draft Rule
In April 2022, the New York Department of Taxation issued a draft rule that adopts select areas of the guidance through several MTC examples and analysis from the updated statement. The deadline to comment on the rule is June 30. The draft rule does not have an effective date, which could leave the door open for the state to apply the rule retroactively.
Adopted MTC Examples
While California and New York adopted largely the same examples and analysis, there are slight differences between the states. Out-of-state taxpayers doing business in California or New York should examine the examples below to determine whether their internet activities disqualify them from tax immunity under P.L. 86-272.
California
Internet activities that do not receive P.L. 86-272 immunity in California
- An employee who telecommutes on a regular basis from within the state performing business management and accounting tasks;
- Regularly providing post-sales assistance to in-state customers through an electronic chat or email that customers access through the business’s website;
- Soliciting and receiving online applications for its branded credit card through the business’s website;
- Inviting and accepting applications for non-sales positions through the business website;
- Placing internet “cookies” on computers or other devices of customers that gather customer search information that will be used to adjust production schedules and inventory amounts, develop new products, or identify new items to offer for sale;
- Remotely fixing or upgrading products previously purchased by transmitting code or other electronic instructions to those products via the internet;
- Offering and selling extended warranty plans through the internet to customers who purchase the business’s products;
- Contracting with a marketplace facilitator that facilitates the sale of the business’s products on the facilitator’s on-line marketplace. Marketplace facilitator maintains inventory, including some of the business’s products, at fulfillment centers in various states where the business’s customers are located;
- Contracting with in-state customers to stream videos and music to electronic devices.
Internet activities that maintain P.L. 86-272 immunity in California
- Providing post-sale assistance to in-state customers by posting a list of static FAQs with answers on the business’s website.
- Placing internet “cookies” onto the computers or other devices of customers that gather customer information that is only used for purposes entirely ancillary to the solicitation of orders for tangible personal property, such as to remember items placed in their shopping cart
- Offering for sale only tangible personal property on its website that enables customers to search for items, read product descriptions, select items for purchase, choose among delivery options, and pay for the items.
New York
Internet activities that do not receive P.L. 86-272 immunity in New York
- Regularly providing post-sales assistance to in-state customers through an electronic chat or email that customers access through the business’s website;
- Soliciting and receiving online applications for its branded credit card through the business’s website;
- Inviting and accepting applications for non-sales positions through the business website;
- Placing internet “cookies” on computers or other devices of customers that gather customer search information that will be used to adjust production schedules and inventory amounts, develop new products, or identify new items to offer for sale;
- Remotely fixing or upgrading products previously purchased by transmitting code or other electronic instructions to those products via the internet;
- Offering and selling extended warranty plans through the internet to customers who purchase the business’s products;
- Contracting with a marketplace facilitator that facilitates the sale of the business’s products on the facilitator’s on-line marketplace. Marketplace facilitator maintains inventory, including some of the business’s products, at fulfillment centers in various states where the business’s customers are located;
- Contracting with in-state customers to stream videos and music to electronic devices.
Internet activities that maintain P.L. 86-272 immunity in New York
- Soliciting sales of tangible personal property on its website and providing assistance to customers by posting a static list of FAQs and answers on the corporation’s website.
- Placing internet “cookies” onto the computers or other devices of customers that gather customer information that is only used for purposes entirely ancillary to the solicitation of orders for tangible personal property, such as to remember items placed in their shopping cart.
- Offering for sale only tangible personal property on its website that enables customers to search for items, read product descriptions, select items for purchase, choose among delivery options, and pay for the items.
California and New York are the first in what is likely only the beginning of states adopting the updated MTC statement on P.L. 86-272. In addition to policy changes, adoption of the MTC statement could lead to legal challenges to a state’s new interpretation of P.L. 86-272. Companies should review their current business operations to determine how these new interpretations might impact their tax filing obligations. Weaver can assist companies in responding to these changes by analyzing nexus, responding to state inquiries and modeling any impacts to their tax obligations.
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