Remote Retailer Files Challenge to Illinois “Leveling the Playing Field” Laws

PetMeds, a Florida based online retailer of pet supplies and medication, has recently lodged a petition with the Illinois Independent Tax Tribunal to challenge an audit assessment. The assessment, issued in 2023, comes in the wake of Illinois’ Leveling the Playing Field legislation, which PetMeds contends places an undue burden on remote retailers and discriminates against interstate commerce.

Illinois imposed economic nexus legislation requiring taxpayers that exceeded $100,000 in annual retail sales or 200 annual transactions to register for and collect the state’s use tax effective October 1, 2018, after the Wayfair decision. In 2020, the state revised these requirements with the passage of Leveling the Playing Field, or Public Acts 101-0031 & 101-0604. Under the new rules effective January 1, 2021, the requirements for remote retailers, or retailers with no physical presence in the state of any kind that exceeded the economic nexus thresholds, were revised to require these sellers to collect the state and local Retailer’s Occupation Tax for their customer’s location. Out-of-state retailers with any kind of physical presence in the state remained liable to collect the state level use tax only, and in state retailers remained subject to their physical location’s state and local Retailer’s Occupation Tax following the state’s origin sourcing rules.

In 2023, PetMed Express, Inc, also known as PetMeds, was issued a large audit assessment including periods after Leveling the Playing Field came into effect. PetMeds has filed a petition against the assessment on three grounds. PetMeds argues that Leveling the Playing Field 1) violates the United States Constitution Commerce Clause and discriminates against interstate commerce and generates an undue burden on retailers located out-of-state 2) violates the Illinois Constitution by discriminating against a class of taxpayer, and 3) the Illinois Department of Revenue violated the taxpayer’s right to an efficient audit and proper explanation of alleged liabilities.

The petition argues that the law violates the United States constitution on two different fronts: first, that the law creates an undue burden on out-of-state retailers. Citing the text of the Wayfair vs. South Dakota decision, the petition points out that the case specified that South Dakota’s simple tax system and participation in the Streamlined Sales and Use Tax Agreement, which aims to reduce the complexity and cost to businesses of sales tax compliance, was part of the reason their economic nexus law did not create an undue burden to taxpayers. PetMeds points out the complexity of Illinois’ system for filing sales tax for remote retailers, which involves individually checking the taxable location of addresses on the Illinois website and registering to remit tax in each of them, creates a large burden for remote retailers that is not shared by in-state retailers or out of state retailers with in-state presence.

The taxpayer also argues that this complexity, which is only imposed on remote retailers, discriminates against interstate commerce, citing the increased sales tax software costs incurred by the company while attempting to remain in compliance with this law. They also cite the US Supreme Court’s decision in the 1994 Associated Indus. of Missouri v. Lohman case, which required that tax on interstate and intrastate transactions be treated roughly equally and argues that the undue burden imposed on them is substantially different from the same transactions when made by an in-state vendor.

PetMeds also argues that the law violates the Illinois state constitution, which requires that a tax be “uniform to the class upon which it operates”, and that any distinctions between different taxpayers be real and substantial and have a rational relationship to the goal of the legislation. The tax burden on a remote retailer like PetMeds is substantially different than the burden on a similar retailer that warehouses even a small amount of inventory in Illinois, the petition argues, and is not based on a rational need to treat these two types of retailers separately.

The final argument in the petition is based on the audit process itself and claims that the Illinois Department of Revenue failed to provide PetMeds with complete workpapers for ten months, between August 2022 and June 2023, leaving the taxpayer subject to ten months of additional interest on their assessment and with no ability to analyze the adjustments.

Though this petition was only recently filed, it is a notable challenge to the Leveling the Playing Field laws in Illinois, which many taxpayers and even tax software providers have found challenging to comply with and seemingly unfair and discriminatory. Presently a business must evaluate its physical presence, economic nexus, and where inventory is stored and how it is fulfilled for sales to Illinois customers to determine which type(s) of Illinois sales and use tax registration(s) it is required to have. The impact is not only on how to register for sales tax in Illinois but also on how to ensure proper sales tax collection occurs within the seller’s sales platform and how to file the sales and use tax returns. The tax rate to collect for an in-state seller or one with some physical nexus can be vastly different than the rate for a true remote retailer which amplifies the complexity of the sales tax function for Illinois transactions. Remote retailers with sales and use tax obligations in Illinois will want to keep an eye on the progression of this case. Other states with complex compliance systems may find themselves subject to similar challenges as economic nexus and its complexities have become a reality for businesses across the country. (PetMed Express, Inc. v. Illinois Department of Revenue, Case No. 23 TT 04, Illinois Independent Tax Tribunal (2023)).

Posted on December 28, 2023