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Amazon faces a tax fight in South Carolina that could change how online sellers do business

  • The State of South Carolina claims Amazon is responsible for $12 million in uncollected taxes, interests, and penalties for the first three months of 2016.
  • Amazon says the case is "without merit" and plans to defend itself "vigorously."
  • The dispute isn't isolated and could lead to a broader debate over online taxes.

President Trump has repeatedly attacked Amazon and its CEO Jeff Bezos for dodging financial obligations, tweeting as recently as June that the company avoids "paying internet taxes."

While the president's claims have remained vague, at least one state is now making a similar allegation -- and providing some substance to back it up.

In June, South Carolina filed a complaint alleging that Amazon failed to collect taxes on sales made by third-party merchants on the company's marketplace. These are products where Amazon is not the seller, but rather is connecting other businesses to consumers and providing the payment processing for the transaction as well as some customer support.

The state claimed that for the first quarter of 2016, Amazon owes $12.5 million in taxes, penalties and interest, an amount that "will continue to accrue until this matter is resolved."

In the complaint, obtained by CNBC, South Carolina's Department of Revenue said Amazon is responsible for collecting taxes on behalf of the businesses that used the marketplace to sell products to residents of the state. A spokesperson for the state declined to comment on why the audit was limited to that three month period.

The dispute is the latest in Amazon's long history of complicated tax issues and threatens to become quite the headache for the e-tailer should South Carolina succeed and set a precedent for other states. Not only would Amazon have to put more controls in place, but costs would rise for consumers and sellers would lose a pricing advantage they currently have over physical retailers.

"Going after the online marketplace facilitator is certainly a recent door that's been opened," said Jeff Glickman, a tax expert and lawyer at business advisory firm Aprio. "I certainly do expect more states to follow suit."

Don't expect Bezos to back down. In Amazon's latest quarterly report, the company said, "we believe the assessment is without merit," and that such a change could be costly.

"If South Carolina or other states were successfully to seek additional adjustments of a similar nature, we could be subject to significant additional tax liabilities," Amazon said. "We intend to defend ourselves vigorously in this matter."

A spokesperson declined to comment further.

As of early 2017 -- contrary to some of President Trump's tweets -- Amazon collects sales tax in every state where it's required for products the company actually sells. Retailers have to charge sales tax in any state where they have a nexus, which generally means a physical presence like an office or warehouse. Amazon has three warehouses in South Carolina.

But when it comes to third-party merchants, who now account for over half the volume of goods sold on the site, Amazon maintains that the seller is responsible for determining if sales tax is required and for collecting and remitting it.

South Carolina is fighting that premise, arguing that under state law, Amazon is considered the seller because the company controls a large part of the sales process for its third-party merchants.

For example, Amazon handles shipping and storing for some sellers who pay fees for the Fulfillment by Amazon (FBA) program. Even sellers who store inventory at home or in their own warehouse rely on Amazon to manage some elements of the transaction, like payment processing and customer support, according to the complaint.

Amazon also has strict policies on third-party sellers related to things like shipping times and refunds.

"If one state is successful in pioneering a strategy that might be successful, I'd expect other states to pursue it as well." -Darien Shanske, UC Davis law professor

South Carolina isn't alone. According to Avalara, a provider of tax automation services, Minnesota, Rhode Island and Washington have passed legislation to tax marketplace sales, while Virginia and Arizona have their own sets of rules. New York and Texas have considered imposing taxes.

The Multistate Tax Commission, which recently rolled out a tax amnesty program for online merchants, estimates that Amazon sellers owe about $2 billion a year in uncollected sales taxes.

Darien Shanske, a law professor at the University of California, Davis, said that South Carolina has a plausible case because it's clear that Amazon and its sellers have more than a "passive" relationship. He said Amazon would likely be deemed responsible for tax collection if the state can prove the company is "sufficiently important" to helping out-of-state merchants' sales within the state.

Varies by state

"Third-party sellers are clearly choosing Amazon because of its own particular setup and benefits, beyond just passively having their things for sale on Amazon," Shanske said. "It looks to me that there's some kind of a relationship, approaching an agent or an independent contractor."

One reason for the complexity is that laws vary by the state, and the ruling can come down to statutory interpretation. Utah, for example, recently ruled that sellers are not required to collect taxes.

"It's an issue that state taxing authorities are going to pursue vigorously if they feel they have authority under their statute to do so," said John Swain, a law professor at the University of Arizona. "But it's very difficult to generalize."

Shanske said that should the opportunity arise, many states will certainly be looking to bolster tax revenue.

"If one state is successful in pioneering a strategy that might be successful, I'd expect other states to pursue it as well," he said.

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