Minnesota Expanding Corporate Income Tax to Out-of-State Sellers

Minnesota is poised to become the latest state to extend the reach of its corporate income tax under a proposed rule that would shave back protections allowed under a federal law shielding out-of-state retailers from taxation.

The Minnesota Department of Revenue has circulated a draft revenue notice that reinterprets the protections available under the federal Interstate Income Act (Public Law 86-272), which prohibits states from imposing income taxes on out-of-state businesses if their only activity in the state is soliciting sales of tangible personal property. The department modified its views of the 64-year-old law in the context of the burgeoning digital economy, capturing potentially thousands of additional remote sellers into its corporate franchise tax code.

Rather than simply implement the revenue notice, the department circulated its proposal to the Minnesota State Bar Association and the Minnesota Society of Certified Public Accountants, a spokesperson for the agency said, and will accept comments through May 16 before taking further steps to formalize its revised interpretation of the federal law.

The draft notice closely follows an August 2021 statement from the Multistate Tax Commission reinterpreting the federal law. As a general rule, the commission held that businesses interacting with customers via a website or an app are engaging in a business activity within the customer’s state, and could be subject to state income tax.

For instance, businesses would likely lose their federal protection if they offer remote repairs and product updates, provide electronic customer service chat functions, solicit applications for non-sales positions, and monitor customer preferences through “cookies” placed on their computers. Protections would be retained, however, if the business offered customers post-sale assistance from a static website presenting a list of frequently asked questions.

The MTC, an intergovernmental agency that strives for uniformity across state tax codes, developed its statement in response to the rise of e-commerce and the US Supreme Court’s more expansive views on business presence in a state in the 2018 South Dakota v. Wayfair ruling, which freed states to impose sales tax obligations on remote sellers.

Public Comments

The Minnesota Society of CPAs has a number of concerns around the proposal, and is already drafting comments to submit to the department, said Todd Koch, a partner with John A. Knutson & Company PLLP.

Koch, a member of the drafting committee, said the society would suggest the department formally adhere to the commission’s standard for establishing a tax presence in Minnesota if it also intends to adopt the new approach to the Interstate Income Act. The society would also like clarification on whether the department intends to apply its views on a retroactive or a prospective basis.

In addition, the society may express concerns about the potential impact on small businesses. Koch said the department’s expansive views could layer tax duties on potentially thousands of small sellers outside of Minnesota.

“If you are just a small organization with a website and you announce ‘we’re hiring and here’s how to apply,’ does that mean you now have to file? That would be quite a change in policy for people that don’t necessarily have the resources,” he said.

Minnesota’s proposal mirrors guidance published by the California Franchise Tax Board and a draft rule released by the New York Department of Taxation. Senior administrators at New Jersey’s Department of Taxation have also expressed support for the commission’s statement, but no regulations have been released, noted Jamie Yesnowitz, state and local tax leader at Grant Thornton LLP’s Washington National Tax Office.

Yesnowitz said it is conceivable that more states have embraced the commission’s perspectives on the Interstate Income Act but haven’t spoken publicly on the subject. In this context, the views of a state agency would only be revealed during an audit.

“I’m not aware of any states doing that, but I think the power is there for the states to do it,” Yesnowitz said. “The MTC wants states to publish the fact they are following guidance, but they didn’t mandate that states have to do it.”