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Borders Online LLC v. State Board of Equalization

Case No. A105488 (Cal. Crt. App., May 31, 2005)

Out-of-State Online Retailer Obligated To Collect Use Tax On Sales To In-State Residents

Affirming decisions of both the California Board of Equalization ("Board") and the California Superior Court, the California Court of Appeals held that Borders Online LLC ("Borders Online"), an out-of-state corporation, is obligated to collect California state use tax on sales of tangible products shipped from out-of-state locations to California residents.  The Court found that Borders Online had sufficient contacts with California to permit it to impose this obligation by virtue of the fact that Borders, Inc., an affiliated but distinct entity, agreed to and did accept returns from Borders Online's customers at Borders, Inc.'s brick and mortar stores located in California.  The Court further held that the imposition of such a collection obligation on Borders Online does not run afoul of the Commerce Clause.

Returns Accepted At Stores Of In-State Affiliate       

Borders Online is an out-of-state corporation that does not have a place of business in California.  Borders Online sells books, compact discs, videos and other tangible property to consumers over the Internet.  Goods sold to California residents are delivered by common carrier from out-of-state locations.  Customers of Borders Online can return merchandise they purchase online at any California "brick and mortar" store of Borders, Inc., an affiliated but separate entity.  While any consumer can return any item Borders, Inc. stocks for a store credit, regardless of where they purchased it, only customers of Borders Online can receive a credit card refund upon presentation of a packing slip.  This return policy was posted on Borders Online's web site for only a portion of the time period for which use taxes were sought.  However, such returns were accepted throughout this entire period. 

Both Borders Online and Borders Inc. engaged in cross-promotional activities.  Receipts at Borders Inc. stores sometimes urged customers to "visit us online at," the web site address for Borders Online.  Borders store employees were also encouraged to refer customers to that web site.  Borders Online returned the favor, placing a link on its website to that of Borders Inc., which site contained promotions and store locations.

During an 18 month period in 1998 and 1999, Borders Online sold more than $1.5 million in merchandise to California residents.  Unfortunately, it did not collect sales or use taxes on these transactions.

Borders Inc. An In-State Representative Of Borders Online

California Rev. and Tax Code §6203(a) imposes a use tax collection obligation on "every retailer engaged in business in [California] and making sales of tangible personal property for storage, use or other consumption in this state…".  Affirming the determinations of both the Board and Superior Court, the California Court of Appeals held that as a result of its contacts with the forum, Borders Online was a retailer engaged in business in California for the purpose of the Tax Code that was making sales of property for use in the State and hence obligated to collect use tax on its sales to California residents.

Under the Tax Code (6203(c)(2)), a retailer is "engaged in business in California" if it has "any representative [or] agent  . . .  operating in [California] under the authority of the retailer  . . .  for the purpose of selling . . . any tangible personal property." 

The Court of Appeals held that, by virtue of its agreement to handle returns for Borders Online, Borders, Inc. was an authorized representative of Borders Online present in California.  This conclusion was buttressed by the preferential treatment accorded Borders Online's customers, the return policy posted on Borders Online's web site, and the promotional activities engaged in by Borders, Inc. on behalf of Borders Online, discussed above, encouraging customers to visit Borders Online's web site.  Said the Court:

There is no dispute either that Online announced on its web site that Borders was authorized to accept Online's merchandise for return, or that Borders would provide customers with an exchange, store credit, or a credit card credit.  By accepting Online's merchandise for return, Borders acted on behalf of Online as its agent or representative in California.

Borders Inc. Engaged In Selling In-State On Behalf Of Borders Online

The Court of Appeals also found that Borders, Inc. was engaged in "selling" within the meaning of the Tax Code by virtue of its agreement to handle returns for Borders Online.  In so doing, the Court accepted the Board's interpretation of the term "selling" in Section 6203 to be "inclusive of all activities that are an integral part of making sales."

Applying this standard, the Court, agreeing with the Board, held that the acceptance of in-state returns aided and was an integral part of Borders Online's sales efforts in California.  Said the Court:

The Board reasoned "When out-of-state retailers that make offers of sale to potential customers in California authorize in-state representatives to take returns, these retailers acknowledge that the taking of returns is an integral part of their selling efforts.  Such an acknowledgement comports with common sense because the provision of convenient and trustworthy return procedures can be crucial to an out-of-state retailer's ability to make sales.  This is especially evident in the realm of e-commerce."

Finding Borders Online had a "representative" or "agent" "operating in [California]" "for the purpose of selling … tangible personal property" within the meaning of the Tax Code, the Court of Appeals accordingly held that Borders Online was obligated to collect use tax on its sales to California residents.

Imposition Of Obligation To Collect Use Tax Does Not Violate Commerce Clause

In reaching this result, the Court of Appeals rejected the claim of Borders Online that imposing such an obligation to collect California use tax violated the Commerce Clause because Borders did not have a nexus with California sufficient to permit the imposition of such an obligation.  Under Quill Corp. v. North Dakota, 504 US 298 (1992), "a tax passes constitutional muster only if it is applied to 'an activity with a substantial nexus with the taxing State."  Contrary to Borders Online's contentions, however, this does not require that the retailer have agents in-state who are soliciting sales on its behalf.  Rather, it requires that the "activities of the retailer's in-state representatives [be] 'significantly associated with its ability to establish and maintain a market in the state for the sales.'"  The Court found that the in-state activities of Borders Inc., on behalf of Borders Online, readily met this test, and accordingly, that imposing an obligation to collect California use tax on Borders Online did not run afoul of the Commerce Clause.

We have already determined that Online's return policy was part of its strategy to build a market in California.  We further note that Border's efforts on Online's behalf were not limited to accepting returns from - and providing exchanges and credit card refunds to - Online customers.  Border's receipts were sometimes imprinted with "Visit us online at" and Borders's employees were encouraged to refer customers to Online to find merchandise not available at Borders stores.  The cross-selling synergy was also maintained by the use of similar logos, by the link to Borders' website from Online's website, and by the sharing of some market and financial data between the two entities.  Online generated more than $1.5 million in sales in California in 18 months.  These facts amply support the conclusion that Online had a representative with a physical presence in the State and the representative's activities were "'significantly associated with [Online's ability to establish and maintain a market in [the] state for the sales.'"

It should be noted that no evidence was presented to the Court which quantified the returns actually accepted by Borders Inc. on behalf of Borders Online, the extent of the parties' respective cross-promotional activities, or the effect the return policy had on the sales of Borders Online.  Absent such evidence, argued Borders, the Board's contention that the return policy was an "integral part" of Borders Online's sales efforts was improper speculation.  The Court held that, as the Board had made a prima facie case supporting the imposition of the obligation to collect use taxes, the burden was on Borders to produce such evidence.  Its failing, particularly given its failure to keep records quantifying such activities, could not aid it here, or prevent the award of summary judgment to the Board.

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