Can an online merchant have nexus with a state because its merchandise may be stored in the state? And what is the scope of the government’s authority to make inquiries of the out-of-state online merchant to obtain information about its in-state activities? Both questions are the subject of a recent Pennsylvania Commonwealth Court decision. Online Merchants Guild v. Hassell,e No. 179 M.D. 2021 (Pa. Commw. Ct., Sept 9, 2022). The Commonwealth Court held that the Department of Revenue failed to demonstrate that the out-of-state online merchants had sufficient in-state contacts under the Due Process Clause to permit it to require responses to inquiries contained in questionnaires mailed to those merchants. The decision illustrates that Wayfair’s Commerce Clause analysis may not be the final word on nexus because of the Due Process Clause. It also shows that states do not have unfettered authority to subject out-of-state businesses to audit scrutiny absent a sufficient connection with the state.

The Facts: Petitioner, Online Merchants Guild (“Online Merchants”), is a trade association comprising online businesses that sell merchandise through Amazon’s “Fulfillment by Amazon” Program. Under that program, businesses send products to Amazon fulfillment centers and when customers make an online purchase, Amazon processes and ships the order to the customer. To participate in the program, the merchant must ship its merchandise to a warehouse location designated by Amazon—which could be in Pennsylvania—after which the merchant had “no further control” over the merchandise, unless it withdrew it from sale. Merchants had no contact with customers and asserted that they did not know how much of their inventory Amazon actually stored in Pennsylvania (or in any state) on their behalf.

In 2017, Pennsylvania enacted a marketplace facilitator sales tax law requiring that online facilitators collect sales tax on sales made on behalf of marketplace sellers under a fulfillment program. However, the Department of Revenue began pursuing uncollected sales tax from marketplace merchants for periods prior to the effective date of the law, beginning with the mailing of approximately 11,000 business activities questionnaires to nonresident merchants in the Amazon program. Those questionnaires stated that the merchants “may have” a physical presence in Pennsylvania—the tax periods in question included periods that predated the 2018 U.S. Supreme Court decision in Wayfair—and noted that the storage of inventory in Pennsylvania created a tax collection obligation. The questionnaires gave the merchants 15 days to respond under the threat of “additional enforcement actions.”

Online Merchants brought an action for summary judgment, asserting that the Department’s questionnaires violated the merchants’ constitutional rights under the Due Process Clause. It argued that the Department had not established sufficient “minimum contacts” that would give the Department jurisdiction over the merchants, claiming that mere participation in the Amazon program did not create meaningful contacts with the state. The Department denied that the merchants’ due process rights were violated by what it described as a “demand for information.”

The Decision: The Commonwealth Court ruled in favor of the merchants, finding that the Department failed to provide sufficient evidence that the online merchants—whose connections to Pennsylvania involved the storage of merchandise in Amazon’s Pennsylvania warehouse—had enough contacts to be required to collect and remit sales tax. Addressing the requirements to satisfy due process under prior Pennsylvania court decisions, rather than the requirements under the Commerce Clause under which Wayfair was decided, it agreed with Online Merchants that the merchants had no control over the merchandise sent to Amazon’s designated warehouse, and whether merchandise remained at that location was solely up to Amazon. The court concluded that having failed to establish minimum contacts to satisfy the Due Process Clause, the Department was without authority to examine the merchants’ records based merely on a suspicion that the merchant was in violation of the Pennsylvania tax law.