Selling on Amazon might be a godsend for retailers wishing to extend their reach across the nation and when carefully planned, the benefits could be bountiful. However, yes, it could be too good to be true. The bottom frequently falls out for retailers who have failed to carefully consider the ramifications of engaging in multistate commerce.
I have talked about nexus in other chapters and it appears again when selling on Amazon. If your merchandise is stored in an Amazon warehouse in California (which it most likely is), then you have created nexus, which means that you must pay California sales tax.
The California Board of Tax and Fee Administration (CDTFA) has been cracking down hard on Amazon sellers. There is a literal goldmine of uncollected sales tax out there and the CDTFA is ready to go get it by taking very aggressive action against these sellers.
My advice is that if you sell on Amazon, then you should come in and talk to me. CDTFA cases involving Amazon sellers have been increasing in proportion to nationwide e-commerce sales, especially during the pandemic. I can help you get all the details about your Amazon selling situation and determine your sales tax responsibility to California.
Registration in California
Doing business in California establishes nexus. The State of California Franchise Tax Board (FTB) defines “doing business” as follows:
- “[e]ngaging in any transaction for the purpose of financial gain within California,
- being “organized or commercially domiciled in California” and
- having sales, property or payroll exceeding a certain threshold.
The thresholds for 2019 for sales, property and payroll were $601,967, $60,197 and $60,197, respectively. See the FTB website for a full list of the thresholds from the years 2014 and onwards.
Consequently, it is very important in any Amazon seller case to examine the actual products they sell to ensure that those products are actually taxable. Common examples of non-taxable items are food and water. See the State’s list of what constitutes taxable items.
Nexus can be established by numerous actions, such as: having an office or employee in California, storing inventory in a warehouse in California, traveling through California while completing deals, delivering into California, or providing support services in California (such as selling a cabinet and then delivering it and installing it in the home of buyer in California).
California further asserts there is nexus if someone hires a third-party seller to sell on their behalf in California, even if that third party is selling products for other companies as well.
Another example of nexus-forming activity is provision of support services. An example would be if a person sold a product in California and later entered California on vacation. If that person went to visit the client and say hello, this would count as a support service, because the person is trying to put their face to their product and engage in promotion.
In the case of Borders Online v. State Bd. of Equalization, a California court held that although a vendor was located outside California, it was still subject to California tax because it allowed its customers to return merchandise to affiliated retail stores located in California.
The court reasoned that the affiliate was acting as the vendor’s agent, thereby creating nexus between the vendor and the state. For this reason, companies must be acutely aware of how their relationships with third-parties may be creating nexus even when the company itself may not be located within the jurisdiction in question.
Implications for Amazon Sellers
Amazon sellers are usually targeted because they store inventory in a warehouse in California. An easy way for sellers using warehouses to determine if they have nexus is to think about who would receive the insurance money for the products in the event that the warehouse burned down.
If the insurance money goes to the seller, then the product is considered theirs and the seller would be considered to have nexus with California. If Amazon were to get the insurance money, the seller should have an invoice from Amazon for the product already and they would not be considered to have nexus with California.
The primary Amazon sellers targeted by the CDTFA are those who use Amazon Fulfillment Centers.
On its website, the CDTFA list the following as examples constituting “physical presence” for purposes of nexus: “[m]aintaining inventory or office locations in California; having representatives in California for purposes of taking orders, making sales or deliveries, or installing or assembling tangible personal property; [and] leasing equipment, including a computer server in California.”
The CDTFA often starts examining Amazon sellers by looking at their product page to see if it says FBA, meaning “Fulfilled by Amazon.” If it does, the CDTFA will assume the seller is using Amazon warehouses in California and therefore, has nexus with the state.
The seller can provide information to rebut this assumption, such as invoices showing no inventory was stored in Amazon’s California Fulfillment Centers. However, most sellers will have utilized the warehouses if their products are FBA.
Beware of Prime
Amazon is essentially an open market for selling products as it provides the means to make sales. Amazon uses its own warehouses (also known as fulfillment centers) as well as those of third-parties.
The company frequently uses their own fulfillment centers for their Prime sales. The CDTFA knows the only way for most Prime two-day shipping orders to be fulfilled in California is for the product to already be in one of Amazon’s warehouses in the state.
Otherwise, it would take too long to get the product to the buyer in the Prime two-day window. The closest warehouse to California outside of the state is in Las Vegas which is too far away for a timely delivery of a Prime shipping order in California.
Therefore, the CDTFA often approaches an Amazon seller case by looking at the seller’s product on Amazon and seeing if the seller is listed as a Prime Seller. If they are, the CDTFA will assume the seller is using Amazon Fulfillment Centers.
The seller can always tell the CDTFA that they are not actually using Amazon warehouses even though they are a Prime seller, and the CDTFA will take them at their word. If the CDTFA finds out otherwise later, they will not be willing to work with the seller to reduce penalties or interest in any way and their approach for getting the seller back in compliance will be much harsher.
Common Unacceptable Excuses
One common excuse sellers give for not being in compliance is that they simply did not know the law. This is an excuse which the CDTFA will never accept. The state’s stance is the well-established principle “that ignorance of the law is no excuse” for failure to file a return.
Another excuse is that the seller did not know their product was being stored in California. The issue with this excuse is that the CDTFA is aware that Amazon sends emails periodically to vendors to alert them when certain locales are running low on their products.
Through these notifications, the seller is aware their product is being sent to a city in California and that it is being stored in said city. Therefore, the seller would not be able to state, in good faith, that they did not know where their product was sent or stored.
The advantage of these emails to the client is that if the client has an email showing it was the first time their product was shipped to and stored in California, then the CDTFA will not go back further than the time period denoted in that email.
For example, if the client can provide an email from September 2016 showing that it was the first time their product was stored in California, the client can avoid the auditing agents looking at any prior years before 2016.
Often, an Amazon seller’s name differs from their corporate name. The CDTFA has seen several cases where the name a notice is addressed to is not the correct corporate name, but the address is the same.
In these instances, the CDTFA considers the taxpayer to have sufficient notice to be aware of their lack of compliance and as a result, they would be found liable and with notice. Such a finding would impact their eligibility to participate in the Voluntary Disclosure Program.
On occasion, some sellers receive notices when they do not actually sell on Amazon, in which case the CDTFA will not pursue them any further. However, if in the future the CDTFA finds that the seller is selling through Amazon, they will review the prior years sales with substantially more scrutiny.
The CDTFA 1032 group generally deals with out-of-state corporations. Their unit’s typical method is to get information on sellers and then send out a questionnaire to the seller’s company to learn their practices.
Based on those practices, the auditors in the 1032 unit will then determine if there are nexus and sales tax liabilities. The taxpayer will be required to file back tax returns for all of the prior years when the sold products into California and they will be audited and assessed.
The CDTFA will review all documentation and tax returns, if they were actually submitted, to determine the liability owed. The seller will then face a 10 percent penalty and 7 percent interest rates if there is an amount due.
However, at the end of an audit, the taxpayer can complete a 735 Request for Relief from Penalty and Interest form. Usually relief will be granted only for penalty OR interest; the CDTFA will not grant relief for both.
For a complete explanation of the situations in which relief may be requested, please see Interest, Penalties, and Collection Costs Recovery Fees, 13-15.
The Amazon seller cases have been pushed into the 1032 grouping of the CDTFA. The only difference with Amazon cases is that the CDTFA does not know for sure if the seller has nexus when they receive the case. However, nexus tends to be proven quickly.
Do You Owe California Taxes from Your Online Sales?
Do not mess around when it comes to selling on Amazon. Granted, selling on Amazon can be great for retailers as they are removed from most of the sales process. However, that does not get them off the hook from paying sales tax.
The CDTFA is not accepting any excuses from sellers as to why they did not pay California sales tax. As I always point out, it is much better to go into your situation with your eyes wide open, then be surprised by a CDTFA audit, which I guarantee you is no fun.
If you are concerned about your business’ Amazon seller situation, come in and talk to me. Once I have a better idea of your situation, we can devise a compliance strategy. And … if you have already received an audit notice from the CDTFA, we can help. We are experts in defending clients against the CDTFA in audits and can do the same for you.