Inventory held by third party marketplace facilities and its impact on nexus

Edit: Originally published on September 13, 2023. Updated to reflect recent developments.

The outcome of the 2018 Supreme Court decision in South Dakota V. Wayfair brought the discussion of nexus and nexus creating activities to the forefront for all businesses that operate under a remote business structure. By introducing the “economic presence” standard, the ability of state and local governments to impose tax obligations on business entities drastically increased while creating a more complex tax atmosphere.

Nearly every state with a sales tax has now enacted some kind of legislation on marketplace facilitators. These laws have eased certain sales tax collection responsibilities for remote sellers, but they have not eliminated risk. Definitions, exemptions, and reporting requirements continue to vary widely by state, and gaps between marketplace compliance and seller compliance remain common.

What Is a Marketplace Facilitator and How Do These Laws Shift Tax Responsibility?

As economic nexus laws expanded, states adopted marketplace facilitator laws that generally place sales and use tax collection responsibility on the marketplace rather than the seller. While statutory definitions differ, most states define a marketplace facilitator as a business that performs the following activities:

1. Contracts with sellers to facilitate the sale of a marketplace seller’s product through a marketplace for consideration.
2. Engages, directly or indirectly, in transmitting or otherwise communicating the offer or acceptance between the buyer and seller.
3. Does any of the following activities directly or indirectly, with respect to the seller’s products: payment processing services, fulfillment, or storage services, listing products for sale, setting prices, providing customer service, and accepting or assisting with returns or exchanges.

Does Marketplace Inventory Create Nexus Beyond Sales Tax for Remote Sellers?

While marketplace tax laws have provided taxpayers with some relief on the sales tax front, they do not entirely remove the challenges a remote seller may face. Most notably, inventory stored in a marketplace facilitator’s warehouse can result in a physical presence within the state, even when a taxpayer is not aware their goods are being held there. As pre-Wayfair legislation indicates, a physical presence establishes nexus and therefore can carry certain tax obligations with it, including income and/or franchise tax filing requirements.

 This can create two large issues for taxpayers:

1. Sales tax obligations on direct sales. Marketplace facilitators are generally responsible for collecting and remitting sales tax on marketplace transactions. However, sellers with nexus in a state remain responsible for collecting and remitting sales tax on any direct (non-market) sales made to customers in that state.
2. Income and franchise tax filing requirements. Taxpayers may be required to file an income tax return in states where they would otherwise be eligible for protection from state income taxes. Although P.L. 86-272 may have applied previously, inventory-based nexus may now exceed that protection, depending on the state and the specific facts and circumstances.

Another significant development is the enhanced enforcement efforts that have resulted from technological advancements within the state revenue agencies over the past few years. As states continue to modernize audit tools and data sharing capabilities, marketplace data is more readily available to tax authorities. This has led to increased scrutiny of remote sellers whose filings, or lack thereof, do not align with marketplace activity.

Since nexus laws vary by state, there may never be a consensus about how third-party marketplace facilitator inventory impacts remote sellers’ state filing obligations. This lack of consistency will likely increase confusion and decrease compliance. However, recent rulings do provide some insight into how states are applying these rules in practice.

Notable Updates and State-Level Developments

Recent developments highlight a broader trend toward stricter interpretations of marketplace inventory as a nexus-creating activity:

• South Carolina: Between 2024 and 2026, South Carolina courts confirmed Amazon’s sales tax liability for third-party marketplace sales in 2016, affirming that marketplace facilitators were treated as retailers before Wayfair and upholding a $12.49 million assessment for uncollected first-quarter sales tax.

• California: California Office of Tax Appeals (OTA) holds that out-of-state businesses using Amazon’s Fulfillment by Amazon (FBA) program for inventory storage establishes nexus in California for sales, franchise, and income tax, regardless of bright line economic thresholds.

• Broader state trends: Numerous states have revised nexus thresholds and expanded marketplace facilitator enforcement, often applying a more aggressive view of inventory-based nexus.

Frequently Asked Questions

• Does selling through a marketplace eliminate my sales tax obligations? No. In most states, marketplace facilitator laws place responsibility for collecting and remitting sales tax on the platform for marketplace transactions. However, sellers may still have obligations related to direct sales, registration, or reporting.

• Do marketplace sales still count toward my sales tax or income tax nexus? Yes. Marketplace sales can still count toward nexus thresholds and create filing obligations, particularly in states where sellers have both marketplace and direct sales activity.

• Can marketplace inventory create income tax nexus? Yes. Generally, inventory stored in a marketplace facilitator’s warehouse can create physical presence nexus, even if the seller does not control or know the inventory’s location.

• What should a seller do if they are unaware of where their inventory is stored? Best practice is to review inventory logs provided by the marketplace facilitator and reconcile them with internal records. When these reports are not reviewed, sellers are often caught off guard by unexpected nexus exposure.

• Can a business be held liable even if it didn’t know its inventory was stored in the state? Yes. Lack of awareness does not eliminate nexus or related filing obligations.

• Does marketplace facilitator legislation eliminate the seller’s responsibility to collect and remit sales tax entirely? Not necessarily. Sellers remain liable for collecting and remitting sales tax on direct-to-consumer sales made outside the marketplace and may still have income and franchise tax obligations.

• How can sellers better manage this risk? Best practices include tracking marketplace inventory locations, reconciling marketplace reports to state filings, and periodically reviewing nexus assumptions.

We Can Help

Businesses operating through online marketplaces should periodically reassess their nexus profile, filing positions, and assumptions about compliance. Proactive review before a notice or audit can help identify exposure, reduce penalties, and support defensible positions across jurisdictions.

If you are unsure how these laws and business practices may affect you and would like to better understand your nexus footprint and overall tax obligations, reach out to our team to start the conversation.

‍

The information provided in this communication is of a general nature and should not be considered professional advice. You should not act upon the information provided without obtaining specific professional advice. The information above is subject to change.