Would using a separate affiliated Virginia distribution center create Virginia income-tax or sales-tax nexus for an internet retailer?

Plain-English summary

Virginia ruled that adding the proposed Virginia distribution center would not, by itself, create corporate-income-tax or retail-sales-tax nexus for the internet retailer. The conclusion depended on the center being a separate legal entity that controlled its work and was not the retailer's agent or presumed subsidiary.

For corporate income tax, the retailer would not own Virginia inventory except momentarily during shipment and would have no Virginia property or payroll. The Department also found its sales activity protected by P.L. 86-272 because the retailer did not go beyond solicitation of orders for tangible personal property.

For sales tax, the retailer qualified as a dealer, but the Department found no agency relationship with the distribution center. The center's work benefited the retailer, yet the retailer did not control the work or how it was performed. The products were bought from the center and title passed through the retailer only after delivery to a common carrier.

The ruling expressly said a fact change could alter the result and presumed that the distribution centers were not subsidiaries of the retailer.

What this means for you

• Separate legal status alone was not the only fact; control, agency, inventory ownership, and title passage all mattered.
• The income-tax conclusion relied on P.L. 86-272 and no positive Virginia property or payroll factor.
• The sales-tax conclusion relied on the distribution center not being an agent or subsidiary.
• This 2007 physical-presence analysis predates modern economic-nexus rules and should not be treated as current collection guidance.

Common questions

Did the Virginia distribution center create corporate-income-tax nexus?

No, under the stated facts and the ruling's P.L. 86-272 analysis.

Did it create sales-tax nexus?

No, because the separate center was not found to be the retailer's agent and controlled its own work.

Would the result change if the center were a subsidiary or controlled by the retailer?

The ruling did not decide those facts and expressly relied on the contrary assumptions.

Citations and references

• 15 U.S.C. §§ 381-384 (P.L. 86-272).
• Va. Code §§ 58.1-400, 58.1-612, and 58.1-613.
• Wisconsin Department of Revenue v. William Wrigley, Jr., Co., 505 U.S. 214 (1992).

Subject

Taxpayer operates retail websites that offer a variety of products to customers

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 07-24

Original ruling text

March 27, 2007

Re: Request for Ruling: Corporate Income Tax and Retail Sales and Use Tax

Dear *:

This will reply to your letter in which you request a ruling as to whether your client (the "Retailer") has nexus for Virginia corporate income tax and retail sales and use tax purposes. I apologize for the delay in responding to your letter.

FACTS

The Taxpayer operates retail websites that offer a variety of products to customers. The tangible personal property sold at retail via the Internet is handled by the Taxpayer's retailing entities (the "Retailer"). The Retailer does not operate retail stores in Virginia.

The Retailer has entered into an arm's-length contract with multiple affiliated entities (the "Distribution Centers") to perform distribution center functions. The Distribution Centers purchase products from unrelated vendors and provide labeling, packaging, shipping and other related services to both the Retailer and unrelated third party sellers. The Distribution Centers are paid for the product on a cost plus basis. In addition, the Distribution Centers are paid a per unit handling fee for preparing product for shipment.

When a customer places an order through the Internet, the Retailer purchases the product from one of the Distribution Centers. The Distribution Center maintains title to the product. The Retailer directs the Distribution Center to ship the product, via common carrier, to the customer. The customer shipment contract provides the risk of loss and title for such items pass to the customer upon the Distribution Center's delivery to the carrier. After the product is delivered to a common carrier and placed in intrastate or interstate commerce title to the product transfers to the Retailer.

Thereafter, title is immediately transferred to the customer. If a customer needs to return a product, the product is returned to a Distribution Center located outside Virginia.

Currently, there are no Distribution Centers in Virginia; however, a Distribution Center in Virginia is being considered. The proposed Virginia Distribution Center would sell products to and ship products directly to the Retailer's customers, which may include residents of Virginia. In order to fully evaluate the addition of a Virginia Distribution Center, the Retailer has requested a ruling as to whether the Retailer's use of the Virginia Distribution Center would create income or sales and use tax nexus for Virginia purposes.

Corporate Income Tax Nexus

Virginia Code § 58.1-400 imposes income tax "on the Virginia taxable income for each taxable year of every corporation organized under the laws of the Commonwealth and every foreign corporation having income from Virginia sources." Generally, a corporation will have income from Virginia sources if there is sufficient business activity within Virginia to make any one or more of the applicable apportionment factors positive. The existence of positive Virginia apportionment factors establishes income from Virginia sources.

Public Law ("P.L.") 86-272, codified at 15 U.S.C. §§ 381-384, prohibits a state from imposing a net income tax where the only contacts with a state are a narrowly defined set of activities constituting solicitation of orders for sales of tangible personal property. The Department limits the scope of P.L. 86-272 to only those activities that constitute solicitation, are ancillary to solicitation, or are de minimis in nature. See Wisconsin Department of Revenue v. William Wrigley, Jr., Co. , 505 U.S. 214 (1992). The Department has a long-established policy of narrowly interpreting the provisions of P.L. 86-272.

At issue is whether the presence of a Distribution Center in Virginia would create corporate income tax nexus for the Retailer in Virginia. Based on the information provided, the activities in which the Retailer engages do not go beyond the mere solicitation of orders for sales of tangible personal property. The Retailer would not own inventory in Virginia other than when it is in the process of being shipped by the Distribution Center to the customer. The Distribution Center would not be an affiliated representative or an independent contractor acting on behalf of the Retailer in Virginia. All activities of the Virginia Distribution Center will be performed at the direction and control of the Virginia Distribution Center, as these services occur prior to the Retailer taking title to the property.

Because the Retailer would have no property or payroll in Virginia, it would not have a positive property or payroll apportionment factor. Furthermore, its sales activities fall within the protection afforded by P.L. 86-272. Accordingly, the establishment of a Distribution Center in Virginia would not create corporate income tax nexus for the Retailer.

Retail Sales and Use Tax Nexus

Pursuant to Va. Code § 58.1-612, the sales tax is collectible from all persons who are dealers and who have sufficient contact with Virginia to require registration under Va. Code § 58.1-613. Virginia Code § 58.1-612 B defines the term "dealer" to include every person who:

Sells at retail, or who offers for sale at retail, or who has in his possession for sale at retail, or for use, consumption, or distribution, or for storage to be used or consumed in this Commonwealth, tangible personal property.

In this instance, the tangible personal property sold at retail via the Internet is handled by the Retailer. Because the Retailer offers tangible personal property for sale at retail, it qualifies as a dealer under Va. Code § 58.1-612 B.

Virginia Code § 58.1-612 C sets forth the nexus requirements that give the Commonwealth the authority to require a business to register to collect and remit Virginia sales and use tax. Virginia law generally requires dealers with a physical presence in Virginia to collect tax on all sales to Virginia customers, including sales made over the Internet.

Based on the information provided in your letter, it is apparent that the Retailer's activity in Virginia is not sufficient to establish nexus, with the exception of Va. Code §§ 58.1-612 C 1 and 2. Subsection 1 states that a dealer shall be deemed to have sufficient activity in Virginia to require registration if it "[m]aintains or has within this Commonwealth, directly or through an agent or subsidiary, an office, warehouse, or place of business of any nature." Subsection 2 provides that a dealer shall have sufficient activity to require registration if such dealer "solicits business in this Commonwealth by employees, independent contractors, agents, or other representatives."

It must be determined if the Retailer has established an agency relationship with the Virginia Distribution Center. Under Virginia law, two factors are necessary in order for an agency relationship to be established. First, the agent must be subject to the principal's control, with regard to the work to be done and the manner of performing it.

Actual control is not the test; it is the right to control that is determinative. Second, the work has to be done on the business of the principal or for his benefit.

Based on the information you have furnished, I find that an agent relationship is not established between the Retailer and the Virginia Distribution Center retained to perform distribution services. While the work done by the Distribution Center is for the benefit of the Retailer, it appears that the Retailer does not control the work to be done or the manner in which it is to be done. Accordingly, under the facts presented, the use of a Virginia Distribution Center (a separate legal entity) by the Retailer does not create retail sales and use tax nexus for the Taxpayer.

While it is not clear from the facts presented, it is presumed that the Distribution Centers, including the Virginia Distribution Center, are not subsidiaries of the Retailer.

CONCLUSION

In conclusion, the establishment of a Virginia Distribution Center would not, by itself, create corporate income tax nexus or retail sales and use tax nexus for the Retailer. This ruling is based on the facts presented as summarized above. Any change in the facts or the introduction of new facts may lead to a different result.

The Code of Virginia sections cited, along with other reference documents, are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's website. If you have any questions about this ruling, you may contact * in the Department's Office of Policy and Administration, Appeals and Rulings, at ***.

Sincerely,

Janie E. Bowen

Tax Commissioner

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