Voluntary registration or voluntary waiver of constitutional protection?

The voluntary registration process serves an important function for state taxing authorities and taxpayers alike. States rely on voluntary registration to enforce sales and use tax collection. For taxpayers, it is often an important component of a sales and me tax audit settlement. Out-of-state sellers that have not collected and remitted sales and use tax to a state in the past but found, on audit, to have nexus in a state may agree to register in exchange for a reduction in their assessments. Similarly, out-of-state sellers not under audit often approach states voluntarily in exchange for waivers of penalties or interest or both on back taxes. However, a Virginia Department of Taxation (Department) ruling this past year illustrates that voluntary registration may carry hidden dangers.

In Ruling of Commissioner, P.D. 00-137 (Va. Dept. Tax. 2000), the Department ruled that an out-of-state furniture seller was liable for uncollected Virginia use tax on furniture deliveries that a common carrier made into the state, after the seller had voluntarily registered to collect Virginia sales and use tax during a previous audit. In 1994, the Department audited the seller and determined that it should have collected use tax on sales of furniture delivered into Virginia on private trucks. In settlement of that audit, the furniture seller voluntarily registered to collect tax prospectively, even though it had begun using a common carrier to deliver furniture into the state two years previously. When the Department audited the seller again three years later, it assessed tax on furniture sales that the common carrier delivered. The Department reasoned, "once an out-of-state dealer voluntarily registers, nexus is no longer an issue."

This ruling runs counter to constitutional precedent; under the U.S. Constitution, a tax on interstate commerce will not pass Commerce Clause scrutiny unless applied to an activity "with a substantial nexus with the taxing state" (Complete Auto Transit, Inc. v. Brady, 430 US 274 (1977)). The U.S. Supreme Court has held that substantial nexus is not established when a vendor's only contact with a state is by a common carrier (Quill Corp. v. North Dakota, 504 US 298 (1992)). While the Department acknowledged that the furniture seller "did not have sufficient contact with Virginia during the audit period to establish nexus," it nevertheless concluded that nexus becomes irrelevant once an out-of-state seller voluntarily registers to collect tax. In so ruling, the Department implied, without citing any authority, that Commerce Clause protection can be waived at a taxpayer's option.

In addition, the ruling contradicts earlier Department decisions. In Ruling of Commissioner, P.D. 98-67 (Va. Dept. Tax. 1998), a retailer with multiple stores in Virginia that was in the process of closing them in the state sought guidance from the Department as to whether it would still be required to collect use tax on Internet and mail-order sales made to Virginia purchasers after it closed its Virginia stores. The Department ruled that, despite its "dealer" status, the retailer would no longer have nexus in Virginia and, therefore, would not be obligated to collect a tax. The Department's ruling even implied that the retailer might be released from its tax collection obligations before the termination of several long-term property leases.

Not only is the Department's position in the recent ruling questionable, it is also contrary to the objectives of the voluntary registration process. The legislature designed voluntary registration to encourage and reward compliance; however, as a result of this ruling, out-of-state sellers may be wary of coming forward to register for Virginia sales and use tax collection. At a minimum, the Department's ruling may serve as a warning to sellers undergoing sales and use tax audits, as well as those not under audit but considering voluntary registration. Further, this ruling provides a valuable lesson to sellers considering registration in any state: before entering into any type of voluntary compliance agreement, an out-of-state seller should confirm (preferably in writing) that state revenue departments would not consider its compliance as a waiver of any Constitutional protections.

FROM SHARLENE E. AMITAY, J.D., CPA, WASHINGTON, DC