Does Sales and Use Tax Nexus Ever Really End?

Several states require out-of-state vendors to continue collecting and remitting sales and use tax for an established period of time after they no longer have nexus in the state.

By Tina Chunn, SALT senior manager

Many companies continue to struggle with states determining that sales and use tax nexus has been established by the slightest physical activity in a state. This determination creates the requirement that these companies must begin to collect and remit sales and use tax from their customers. For some companies, this can become a compliance nightmare. As a result, some companies may desire to just cease all physical operations in the state and eliminate all collection, remittance and filing activities for those cumbersome states. But is the answer that simple?

Unfortunately, like many areas of state tax, it is not that simple. Several states require out-of-state vendors to continue collecting and remitting sales and use tax for an established period of time after they no longer have nexus in the state.

In 1967 and again in 1992, the United States Supreme Court ruled that a taxpayer must have physical presence in a state in order to be required to collect and remit that state’s sales and use tax. [1] Since then, taxpayers and states have fought constantly over what exactly constitutes physical presence, and states have been very aggressive at expanding the concept of physical presence.

Specifically, one trend has been to require continued sales and use tax compliance for a period after all nexus activities have concluded. Some states have argued that although the nexus activity has ceased, the subsequent sales are a result of that nexus-creating activity and thus the seller should be required to collect and remit the state’s sales and use tax. This provision is typically referred to as “trailing nexus,” in that companies will no longer have established nexus but will be required to comply for a set period after leaving the state. The state’s argument is that the physical presence requirement set forth in Quill is a threshold to trigger nexus, and is not to be interpreted like an “on/off” switch.

For example, assume a taxpayer’s only activity in a state is that it has an employee solicit sales in that state on a continuous basis from January to June, the employee is absent from the state in July and August, and the employee returns to solicit in August. It seems reasonable that the taxpayer established nexus in January; however, should the taxpayer not be required to collect sales tax in July and August, just because the employee was not actually there, only to have to begin collection again in August? Even if the employee never returns, and all activity in that state is concluded, what about sales that are made after June as a result of that employee’s solicitation activity? It does appear that a constitutional argument exists that states should be able to require compliance with sales and use tax for some period after all nexus-creating activities have ceased. But for how long?

Some states’ trailing nexus rules are based on a specific time period. Most notable, the State of Washington provides that when a company stops the business activity that created sales and use tax nexus in the state, they will continue to have met the nexus filing requirement for four years plus the current calendar year. [2] Other states may use a more subjective standard. For example, California guidance states that “[s]o long as the retailer continues to generate sales from the lingering effects of its physical presence in California, the retailer is considered to be engaged in business in this state.” The guidance then goes on to provide that in general that trailing nexus period is for an additional quarter after the quarter in which the activity ceases, but that depending on the taxpayer’s specific facts and circumstances, the period may be longer. [3] Missouri’s regulation states that once nexus is established “it will continue to exist for a reasonable period of time after the vendor no longer has a physical presence in the state.” The rule then sets a presumption that nexus continues to exist for one reporting period after physical presence ceases in the state. [4]

Conversely, a few states have validated that once physical presence has ended, then nexus ends as well. Specifically, New York concluded in an advisory opinion issued in August 2002 that once a company ceased to have representatives visit the states (all sales solicitation was continued through direct mail promotions), they were no longer required to be registered or collect sales tax there. [5] Similarly, in Illinois, the Department of Revenue ruled that a mail order business closing all retail stores in Illinois but continuing sales by catalogs and promotional materials sent to customers and through the company website would no longer have nexus. [6] Therefore, they were no longer required to collect sales and use taxes.

Texas recently amended its regulation on trailing nexus to replace its specific time-period requirement with a more subjective standard. Previously, Texas had a trailing nexus provision that required a seller to collect and remit for 12 months after nexus ceased. Effective June 3, 2015, the regulation now requires sellers to collect and remit sales and use tax until “the seller no longer has, and no longer intends to engage in activities that would create nexus with the state.” [7] Depending on a taxpayer’s facts and circumstances, this new rule could shorten or extend the compliance period compared to the 12-month rule. Interestingly, in removing the 12-month rule, the comptroller “determined that this requirement . . . is contrary to the physical presence test articulated in [Quill].” [8]

In light of these varying degrees of nexus requirements, it is important to be properly advised on the filing requirements upon leaving a state. Proper withdrawal from a state may be critical in determining when filings are no longer necessary for compliance purposes. At HA&W, we continue to keep our clients advised of these rules in order to address their specific situation. As always, we will continue to monitor these and other nexus developments, and include any significant updates in future issues of the HA&W SALT Newsletter.

Contact Tina Chunn, SALT senior manager, at [email protected] or Jeff Glickman, partner-in-charge of HA&W’s SALT practice, at [email protected] for more information.

[1] National Bellas Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 753 (1967); Quill Corp. v. North Dakota, 504 U.S. 298 (1992).

[2] WAC 458-20-193 (Rule 193). Additionally, companies will have a continued nexus requirement for the Washington Business and Occupation Tax for the remainder of the current calendar year plus one additional year. (RCW 82.04.220).

[3] California Board of Equalization Annotation 220.0275.

[4] Missouri Code of State Regulations 12 CSR 10-114.100(3)(E).

[5] TSB-A-02(19)S.

[6] General Information Letter, ST 98-00083-GIL.

[7] Texas Admin Code Section 3.286(b)(2).

[8] 40 TexReg 3183 (May 29, 2015).

Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding this matter.