In 2021, the Multistate Tax Commission (MTC) adopted revised guidance to its interpretation of the application of Public Law (PL) 86-272 in the context of the online and digital economy. In February 2022, California issued a Technical Advice Memorandum (TAM) aligned with the MTC’s guidance.
An overview of the TAM and its application to taxpayers conducting business in California is discussed in this tax alert.
Guidance Narrows Limits
PL 86-272 protects a business from state income tax if its only activity there is soliciting orders for tangible personal property (TPP)—if the orders are reviewed and approved out of state and the property is shipped from out of state.
The MTC’s guidance states that a business whose customer is using the business’s website in the customer’s home state is an activity of the business in the customer’s state. The MTC’s guidance then goes on to describe the protections of PL 86-272 in this context.
Generally, the MTC’s guidance concludes that most activities performed remotely over the Internet, such as chat and email, could exceed the protections of PL 86-272, which could vitiate the business’s protection under it, unless those activities directly serve a sales purpose such as the solicitation of an order of TPP.
Critically, the MTC’s guidance appears to significantly limit the application of PL 86-272.
California Adds to Guidance
California’s TAM 2022-01 signals its adoption of the MTC’s revised guidance on the applicability of PL 86-272 to businesses that conduct business in the state. By adopting this guidance, California requires both in-state and out-of-state businesses to analyze their website activities when assessing their tax filing profile.
What Exceeds the Protections?
California’s Franchise Tax Board (FTB) has not provided a comprehensive list of activities that exceed the protections of PL 86-272. It has, however, advised that the following activities exceed those protections:
- A non-sales employee telecommuting from within California
- Post-sale assistance to California customers via email or chat initiated from the business’s website
- Solicitation from California applicants of online applications for a branded credit card via the business’s website—not a bank’s—if that business will ultimately receive fees and interest from the card
- Solicitation from California applicants of employment applications for non-sales positions
- Use of Internet cookies on California customers’ computers to gather actionable business intelligence that isn’t for the purpose of facilitating that customer’s order
- Remote repair or upgrading of a product in California via the Internet
- The offering for sale of extended warranty plans to California customers via the Internet
- Use of a marketplace facilitator that maintains inventory in California if that inventory includes at least some of the business’s products
- Streaming of videos and music into California for a charge
What Doesn’t Exceed the Protections?
California’s TAM states that merely posting static FAQs on the business website, even if California customers access that information, stays within the law’s protections.
Websites used by California customers do not exceed the protections of PL 86-272 if they don’t offer non-TPP and the business doesn’t engage in any other California business activities. Further, websites should not exceed the protections provided by PL 86-272 if only used to:
- Search for items
- Read product descriptions
- Select items for purchase
- Choose delivery options
- Request to buy items
Cookies on a customer’s computer do not disqualify a business from protections if they’re only used in California by that business to:
- Remember items in a cart
- Store customer information so that it doesn’t need to be re-entered
- Remind customers of items they previously considered
Outbound and Inbound
The TAM applies the same standards to outbound and inbound transactions and speaks broadly in terms of destination state and origin state rather than limiting itself to California specifically. This suggests that California’s guidance on the applicability of PL 86-272 could be beneficial for certain businesses and detrimental to other businesses.
For example, by removing the protections provided by PL 86-272 on goods shipped from California, a corporate taxpayer could reduce its California apportionment factor by reducing its California-sourced throwback receipts. Alternatively, by removing the protections provided by PL 86-272, an out-of-state corporate taxpayer could have a filing obligation in California.
Although not explicit, the TAM may be applied retroactively. As such, the application of this new guidance could, depending on a business’s fact pattern, either reduce its California tax expense or result in an unreported tax liability.
The application of PL 86-272 to a specific set of facts is a complex undertaking and continues to be subject to substantial uncertainty. It’s important to note that this TAM outlines California’s interpretation of a federal law, and it may or may not align with the intent of the US Congress. Its interpretation of a federal statute is unlikely to be given the same weight as an interpretation of the state’s own statute.
However, taxpayers that historically have taken a position that they don’t have an income tax filing obligation in California because of the protections provided by PL 86-272 should re-examine their activities to determine if they still apply in light of the new guidance.
We’re Here to Help
To learn more about how this new California guidance could affect your state income tax exposure, contact your Moss Adams professional.
You can also find more resources at our State & Local Tax Services.