Ohio ‘Cookie Nexus’ for Online Sales Tax Likely to Crumble

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By Alex Ebert

Multistate retailer and internet commerce advocacy groups are preparing to sue Ohio over a new remote sales tax model that states are increasingly considering.

The biennial budget, signed by Gov. John Kasich (R) June 30, included a little-discussed provision that may require internet retailers to collect and remit sales tax if they use cookies on their websites. The law works by broadening the statutory definition of “substantial nexus” with the state and extending sales tax to companies selling $500,000 and who place “in-state software” on Ohio computers and phones or have servers located in Ohio.

The law sets forth another way states are using to argue that internet vendors have in-state physical presence within the meaning of the U.S. Supreme Court’s rule under Quill Corp. v. North Dakota. The 1992 decision prohibits states from imposing sales and use tax collection obligations on vendors without an in-state physical presence.

NetChoice and the American Catalog Mailers Association “are researching legal arguments and raising funds to challenge Ohio’s new remote sales tax law,” Steve DelBianco, executive director of internet commerce trade group NetChoice, told Bloomberg BNA through email. “If the state has violated Supreme Court precedent and the Internet Tax Freedom Act, we look forward to our day in court. Moreover, we don’t see how a court will agree that electrons flowing into a computer or smartphone can possibly create a ‘physical presence.’”

But proponents see this as another method for applying the same taxes to internet and local retailers.

“In this ever-changing economy, Ohio is far from the first state to take steps that promote parity,” Jon Keeling, Kasich spokesperson, told Bloomberg BNA in an email. “Leveling the playing field between online retailers and brick and mortar retailers eliminates an unfair competitive advantage, and that’s good news for Ohio’s small businesses.”

Massachusetts Model

NetChoice and ACMA recently sued and prevailed on procedural grounds against a similar Massachusetts directive. That directive worked in a similar way to create a tax based on physical presence in the state proven by cookies installed on computers or phones.

On the same day the court ruled against Massachusetts, the Department of Revenue revoked its directive, saying it would pursue its goals through a regulation.

It is unclear where Ohio got the idea to use the “cookie nexus” provision. The provision wasn’t present in any of the three major budget proposals. Instead, it quietly appeared in conference committee on page 2305 of the state House and Senate budget bills.

But the idea is far from new. This argument for “nexus” made a splash two years ago when lawyers for Ohio argued that cookies were tantamount to physical presence in Crutchfield v. Testa. In that case, the Ohio Supreme Court upheld the state’s Commercial Activity Tax (CAT) against companies with $500,000 or more in sales regardless of physical presence in the state. However, the court never considered the issue of cookies.

What’s in a Cookie?

A legal challenge to Ohio’s provision will be the first of its kind in the country, George Isaacson, senior partner at Maine law firm Brann & Isaacson, told Bloomberg BNA. Isaacson, who has represented internet sales tax opponents, said Ohio’s provisions are unlikely to withstand a legal challenge.

“There is nothing unique about this kind of computer activity. All communications create some kind of presence—telephone exchanges, mail—but these have been found to not create nexus,” he said. “Cookies are not owned by out-of-state sellers. They can be removed or not accepted. They are not a physical presence.”

All eyes will be on Ohio and whether its gambit succeeds, Max Behlke, director of budget and tax at the National Conference of State Legislatures, told Bloomberg BNA.

“States’ budgets won’t be magically better next year than they are this year,” Behlke said. “You’re going to see states take new and novel approaches, even if it brings them to court. If Ohio succeeds, I expect this will be a wave next year.”

Due to its recent passage, the Ohio Department of Taxation hasn’t determined its procedures for enforcement of the provision, department spokesperson Gary Gudmundson told Bloomberg BNA. The department will issue a statement to Ohio’s CAT taxpayer base before October, notifying them of the changes.

The Ohio Legislative Service Commission, the group which provides fiscal analysis for Ohio tax changes, said it is uncertain what revenues this would bring in. Gudmundson said that the Department of Taxation also hasn’t done an analysis.

To contact the reporter on this story: Alex Ebert in Columbus, Ohio at aebert@bna.com

To contact the editor responsible for this story: Jennifer McLoughlin at jmcloughlin@bna.com

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