Taxpayers Prevail in Battle Against California

In a significant legal victory, the American Catalog Mailers Association (ACMA) successfully challenged California’s P.L. 86-272 interpretative guidelines (“the guidelines”), declaring them invalid “underground regulations.” This landmark decision unfolded when the San Francisco County Superior Court, in the case of American Catalog Mailers Association v. Franchise Tax Board, declared both Technical Advice Memorandum (TAM) 2022-01 and Publication 1050 as invalid. The court specifically ruled that these guidelines were issued without adherence to the Administrative Procedure Act (APA) requirements.

The lawsuit is based on the Multistate Tax Commission’s (MTC) 2021 updated model statutes, allowing states to impose income tax on out-of-state sellers engaging in online activities. As a federal law, P.L. 86-272 traditionally shields sellers from a state’s income tax if their only in-state activity involves soliciting sales and exclusively accepting and shipping orders from a location outside the state. However, California’s guidance expanded the definition of in-state activity, making businesses vulnerable to income tax if they conducted certain online activities. The MTC’s 2021 guidance specified that many internet activities, such as placing cookies on customer computers, providing post-sale assistance through email or chat functions, and accepting online job applications, were considered to exceed the protections of the federal law.

The court’s decision emphasized that California’s guidance contradicted the federal law and argued that only Congress, not the Supreme Court, could amend a federal statute. The ACMA also contended that the California guidance should have followed APA rulemaking procedures. By invalidating the guidelines, it was a clear win for the ACMA, affirming its right to challenge unlawful state tax regulations.

California isn’t the only state seeking to curtail the protections afforded by P.L. 86-272. Both New York and New Jersey have adopted new rules targeting certain internet transactions as exceeding the limitations of the federal law.

To learn more about how states are taking aim at P.L. 86-272 and what you must do to protect your business of the imposition of state income taxes, please contact Alan Goldenberg, Principal and Leader of the State and Local Tax and Tax Controversy groups, or your Anchin Relationship Partner.