A 2011 state law that imposed a tax on out-of-state Internet retailers is unconstitutional, the Illinois Supreme Court held today.
In a 6-1 decision, the high court affirmed a lower court ruling that struck down the so-called “Amazon tax law” because it failed to meet the substantial nexus requirement for state taxes under the Commerce Clause and was preempted by a federal law prohibiting “discriminatory taxes on electronic commerce.”
Justice Ann Burke delivered the court’s eight-page opinion. Justice Lloyd Karmeier dissented, writing in his own 14-page opinion that the majority’s decision to focus on federal preemption grounds while ignoring Commerce Clause issues was “a puzzling one for several reasons.”
At the crux of case that came to the state Supreme Court on direct appeal from the Cook County Circuit Court is Public Act 96-1544, the Amazon tax law the Illinois General Assembly enacted in 2011.
The law amended the definition of a retailer or serviceman “maintaining a place of business in this state” under the state’s Use Tax and Service Use Tax acts in an attempt to create a more level playing field between online retailers and those that are physically located in Illinois.
Prior to the passage of the Amazon tax law, only retailers that physically maintained its business in the state were required to collect use tax from customers and remit it to the Illinois Department of Revenue.
The 2011 law created a “click through nexus” by expanding the definition of a retailer’s physical presence to include those who have contracts with affiliate companies that refer potential customers to the retailer’s website through links on their own websites.
When the legislation was first proposed, some Internet retailers, including Amazon.com, threatened to end their contracts with Illinois affiliate companies in order to avoid collecting the taxes.
After the law was enacted, some retailers did cut ties with Illinois affiliates and Performance Marketing Association (PMA), a trade group representing businesses that serve as affiliates, filed a lawsuit against the director of the state Department of Revenue.
PMA argued in its suit that the new definitions were unconstitutional under the Commerce Clause because they allowed the collection of use tax even though there was no substantial nexus with the state.
The association also claimed that the Amazon tax law was preempted by the Internet Tax Freedom Act (ITFA), which prohibits “discriminatory taxes on electronic commerce.”
Following a hearing on the matter, a Cook County judge agreed with PMA’s arguments, granted its motion for summary judgment and deemed the new law unconstitutional, spurring the state to appeal directly to the Supreme Court.
On appeal, the association claimed the new law was discriminatory under the ITFA because it targeted out-of-state retailers with affiliates using online means but didn’t require the same of those that had contracts with affiliates using offline means, such as print publications and over the air broadcasts.
The state, however, argued that the Amazon tax law was not discriminatory under the ITFA because Illinois has other statutory provisions – definitions included in paragraph three of the state’s Use Tax Act — that already require retailers that have contracts with broadcasters or publishers to collect use taxes.
In its analysis, the majority of the court rejected the state’s argument.
“Illinois law does not presently require out-of-state retailers who enter into performance marketing contracts for ‘offline’ print or broadcast advertising which is disseminated nationally, or internationally, to collect Illinois use tax,” Burke wrote for the majority.
Noting the Amazon tax law does require the collection of use tax for retailers who have contracts with affiliates using online marketing methods, Burke explained that “by singling out retailers with Internet performance marketing arrangements for use tax collection, the Act imposes discriminatory taxes within the meaning of the ITFA.”
Because the majority of the high court determined the 2011 law is preempted by the ITFA and is therefore, void and unenforceable, it did not reach the plaintiff’s Commerce Clause arguments.
Karmeier wrote in his dissent that the majority’s decision to resolve the case on preemption grounds while ignoring the Commerce Clause issues was “puzzling.”
“First, a determination that a state law is preempted by a federal one is not tantamount to a repeal or invalidation of the state statute,” he wrote. “The legislative enactment of the state is merely suspended and rendered unenforceable by the existence of the federal enactment.”
“Because of this,” Karmeier added, “we have made clear that a determination that a statute of this state is preempted by federal law does not constitute ‘invalidity’ for purposes of the rule authorizing direct appeal to our court in cases where a statute of the United States or of this state has been held invalid.”
He explained that if preemption were the sole basis for the lower court’s ruling here, “that ruling would therefore not even be properly before us under Rule 302(a)” as the high court would be obligated to transfer the matter to the appellate court.
As such, Karmeier wrote that he thinks the court “should at least give some consideration to the one issue decided by the circuit court which would give us jurisdiction to do so.”
“I must also point out that Justice Burke, author of the majority’s opinion, has frequently taken this court to task for not reaching important legal issues presented by an appeal, even when resolution of those issues is not necessary for disposition of the particular controversy before it,” he wrote, citing a handful of Burke’s past dissents.
Unlike the majority, Karmeier would have reversed the lower court’s judgment and remanded the case with directions for the circuit court to enter summary judgment in favor of the state.
He wrote that case law requires the high court to presume the challenged law is valid and that the plaintiff has the burden to overcome that presumption, something he contends PMA failed to do.
Karmeier also notes in his dissent that several other states have enacted laws similar to the one challenged here.
New York, he wrote, enacted its Amazon tax law in 2008 and while the appeal in this case was pending, New York’s high court rejected a Commerce Clause challenge to its law.
“The parties have not cited and I have not discovered any authority from a court of review which has reached a contrary result and held that internet affiliate tax collection requirements of the kind at issue here and in the New York case run afoul of the federal commerce clause,” Karmeier wrote. “How our court was going to resolve the issue was therefore a matter of considerable interest, concern and significance.”
In his dissent, Karmeier asserts that “once the moratorium imposed by the federal law is lifted,” Illinois’s Amazon tax law “will be revived and reinstated without the need for any express reenactment by the legislature.”
“A new commerce clause challenge is certain to follow,” he asserts in his dissent. “A year from now we could therefore find ourselves in precisely the same position we are in today, facing the same commerce clause challenge brought by and against the very same litigants. The delay will have accomplished nothing.”
As such, Karmeier argues the Commerce Clause issue was ripe for a ruling and the state high court should have taken the opportunity to resolve it in this case.
“Just as New York’s high court did when reviewing its state’s internet affiliate tax law,” Karmeier wrote he “would hold that the tax-related obligations imposed by Public Act 96-1544 apply to an activity with a substantial nexus to Illinois and that PMA’s claim that the law is facially invalid under the commerce clause should therefore have been rejected by the circuit court.”
Besides the majority’s decision not to address the Commerce Clause challenge, Karmeier also took issue with his colleagues’ decision to invalidate the Amazon tax law based on preemption principles under the ITFA.
“Although the majority opinion enumerates the various ways in which federal law may operate to preempt a state law, it omits any mention of the standards established by the United States Supreme Court for assessing whether and to what extent there is federal preemption in a particular case,” he wrote.
Karmeier explained, “We are bound by those standards. Had the principles articulated by the United States Supreme Court been properly considered and applied here, they would have compelled the conclusion that Public Act 96-1544 has not been preempted.”
He also wrote that the plaintiff’s concerns over the Illinois law are “entirely speculative” because it did not offer any examples in which a use tax has been imposed on an internet retailer “in a way that is inconsistent with the language and purposes of the” ITFA.
“That one may be able to hypothesize potential conflicts with federal legislation is not a legally sufficient basis under the supremacy clause for completely jettisoning a state law as the majority has done here,” Karmeier argues.
He adds, “Today’s decision by the majority marks the first time a court of review in the United States has determined that the Internet Tax Freedom Act preempts a state from enacting an internet affiliate tax law to facilitate the collection of existing use taxes to which the state is legally entitled.”