South Carolina says Amazon should collect tax on third-party sales, hold money in trust

Update: Amazon has announced that it will collect and remit Washington sales tax for its third-party sellers starting Jan. 1, 2018. Additional information.

South Carolina says Amazon is liable for millions in uncollected tax on its third-party, or marketplace, sales. Amazon disputes that claim, and the case is set to go to trial in November 2018. In the meantime, the state wants Amazon to collect the tax and hold it in trust.

Amazon established a physical presence in South Carolina when it opened a fulfillment center in Lexington County in 2011. Ordinarily, this physical presence would give it nexus, an obligation to collect tax. However, Amazon wasn’t required to collect South Carolina tax until Jan. 2016 because of a temporary “Distribution Facility Sales Tax Exemption,” which the legislature created to encourage the building of the Lexington facility.

According to a motion filed by the state on Nov. 8, once Amazon did start collecting and remitting tax, it only did so on “its online retail sales of Amazon Prime memberships.” Amazon doesn’t collect tax on third-party transactions, which now comprise more than half of its total sales, unless a seller requests it to do so and pays the required fee (which Amazon says covers the credit card processing fee on the tax). The motion states, “Amazon characterizes its operation of the Website as merely the provision of a nontaxable service and believes its affiliates and third-party suppliers are the retailers responsible for remitting taxes.”

In other words, Amazon doesn’t contest that taxes are owed on its South Carolina marketplace sales. It merely claims it’s not liable for collecting them.

Meanwhile, with Amazon’s U.S. online sales revenue exceeding $135 billion in 2016, there’s a lot at stake. South Carolina argues that by not collecting tax on its marketplace sales, Amazon has “a competitive economic advantage over South Carolina brick-and-mortar retailers.”

So, who is liable for the tax on Amazon’s third-party sales?

Many Fulfillment by Amazon (FBA) sellers insist Amazon is liable and should collect and remit taxes on their behalf. Some states, including Minnesota, Pennsylvania, and Washington agree. Although they haven’t sued Amazon for the uncollected sales tax, as South Carolina has, they’ve enacted laws requiring Amazon and other large marketplace facilitators to collect and remit it.

On the flip side, Virginia holds marketplace sellers, not facilitators, liable. And Massachusetts has ordered Amazon to identify third-party sellers with inventory in Massachusetts, though it has yet to reveal what it would do with the information if obtained.

The South Carolina lawsuit may help settle the issue once and for all. However, resolution will likely take years.

Since there’s no guarantee the court will find in favor of the state, it’s a bit unorthodox for South Carolina to ask the court to require Amazon to collect and remit the contested tax during pendency of action. Yet the state claims that “if Amazon continues to avoid collecting sales and use tax during the pendency of the instant action, the Department ... will be forced to take an unreasonable financial risk.”

The state estimates the legal dispute could easily last up to five years. Should Amazon be found liable for tax on its marketplace sales upon conclusion of litigation, the South Carolina Department of Revenue predicts it could end up owing the state an “estimated $500 million.” In the motion, it worries that if other states follow South Carolina’s lead, sue Amazon, and prevail, “the cumulative effect of their collection efforts may bankrupt Amazon and leave the Department to recover less than the full amount owed.”

Furthermore, if Amazon is not ultimately found liable, South Carolina would go after marketplace sellers for the uncollected tax revenue. It argues that collecting the revenue and holding it in trust would relieve a “huge financial burden” for them.

All eyes, especially those of Amazon FBA sellers, will be on the South Carolina case in the coming years. But no matter what happens in South Carolina, states will continue to work to increase remote sales tax collections. To learn more about these efforts, visit the Avalara Resource Center.