United States

Illinois: Internet Retailer with Bricks and Mortar Affiliate Did not Have Substantial Nexus with Illinois

Oct 02, 2017
From KPMG TaxWatch

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An Illinois appeals court recently addressed whether an Internet retailer with bricks and mortar stores in Illinois had nexus with the state and was required to collect and remit Illinois Retailer’s Occupation Tax (sales tax) on sales to Illinois customers. The retailer sold its products—soaps, creams, and cosmetics—both in retail stores and via the Internet and catalog. In this case, the party asserting that the taxpayer owed tax was not the Department of Revenue, but was a law firm (the Relator) that filed a claim seeking damages under Illinois’ False Claims Act.  The Relator essentially argued that, by not collecting tax and remitting it to the state, the retailer failed to pay over monies duly owed to Illinois. After a trial court ruled that the Relator had failed to prove the threshold requirement—that the Internet retailer had a substantial nexus with Illinois under the Commerce Clause—the Relator appealed.

The appeals court agreed with the trial court’s conclusion that the Internet retailer lacked the requisite nexus with Illinois. Notably, it lacked a physical presence in Illinois and the physical presence of the retail stores could not be attributed to the Internet retailer. The evidence presented at trial, which the appeals court found credible, established that the two businesses were separate entities with separate financial statements, balance sheets, and tax returns. They maintained separate merchandise, employed separate marketing schemes, and (importantly) the retail stores did not accept returns of merchandise purchased online. Instead of acting “on behalf of” the Internet retailer, the court found that the bricks and mortar stores competed with the online store for business, as the store employees received bonuses for in-store sales and were discouraged from referring customers to the Internet site. In reaching this conclusion, the court acknowledged that certain a provision of the Illinois Use Tax Act provided that a retailer soliciting orders for tangible personal property by mail will be deemed to have nexus if the solicitations are substantial and recurring and the retailer benefited from marketing activities in the state. However, the court noted that “regardless of whether the language of the Use Tax Act would allow for collection of a use tax, under the Commerce Clause, that tax can only be applied to an activity with a substantial nexus with the taxing state.” The court next held that the trial court did not err when it held that the Internet retailer did not act “knowingly” when it failed to collect use tax. There was ample evidence that the retailer continually sought, received, and evaluated tax advice about its Illinois use tax obligation.  For more information on this case, State of Illinois v. Lush Internet, Inc., please contact Drew Olson at 312-665-2897.


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The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.