Editor: Mary Van Leuven, J.D., LL.M.
Illinois is home to one of the most complex indirect tax regimes in the nation, and certain recent changes do not simplify matters. On Jan. 1, 2021, new economic nexus rules took effect for the Illinois retailers' occupation tax (ROT), which is the sales tax imposed on tangible personal property sales, and the related use tax. The result of these new Illinois nexus rules is that many retailers and other businesses are now facing an array of Illinois tax collection scenarios that may challenge their existing tax compliance systems.
On a separate Illinois tax matter, some businesses may fall within the scope of the City of Chicago's personal property lease transaction tax and amusement tax. New safe-harbor revenue thresholds for these city taxes go into effect July 1, 2021.
This item discusses these recent tax developments in Illinois and Chicago.
Illinois ROT: New economic nexus rules
On Jan. 1 of this year, new ROT provisions took effect that govern economic nexus, marketplace facilitator responsibility, and sourcing (Leveling the Playing Field for Illinois Retail Act, Ill. Public Act 101-0031 and Ill. Public Act 101-0604). These changes significantly affect remote retailers' sales into the state.
Under the economic nexus provisions, remote retailers are subject to state and local ROT remittance responsibilities if, during the previous 12-month period, they either (1) had gross receipts from the sale of tangible personal property to Illinois purchasers of $100,000 or more; or (2) entered into 200 or more separate transactions for the sale of tangible personal property to purchasers in Illinois (35 Ill. Comp. Stat. 120/2(b)). Remote retailers were already responsible for collecting and remitting state use tax when exceeding either threshold.
To determine whether remote retailers meet either nexus threshold, sales of services are not included. Additionally, certain sales of tangible personal property are also excluded, including (1) sales of tangible personal property made through a marketplace facilitator; (2) sales for resale; and (3) sales of titled property (e.g., motor vehicles, watercraft) (Ill. Admin. Code tit. 86, §131.120(b)). Importantly, sales of exempt items are included for purposes of calculating the thresholds (id.).
Such a broad swath of exclusions is uncommon among state economic nexus provisions. Texas and New York both require remote sellers to include facilitated sales and sales for resale when evaluating nexus thresholds. California also requires the inclusion of facilitated sales but does not require remote retailers making only sales for resale into California to register for use tax collection, though a single retail sale will trigger the addition of the sales for resale back into the nexus determination.
Marketplace facilitators: When marketplace facilitators perform the required computation to determine whether they are subject to the Illinois economic nexus threshold, they must combine gross receipts from both their own sales and facilitated sales, and also must count individual transactions for both. If a marketplace facilitator has economic nexus, it is the retailer of facilitated sales of tangible personal property to Illinois purchasers and is responsible for reporting and paying ROT for those sales (35 Ill. Comp. Stat. 120/2(c)).
Importantly, affiliates of a marketplace facilitator are not marketplace sellers. They must register with the Illinois Department of Revenue (DOR) and collect and remit tax on sales facilitated by the affiliated marketplace facilitator (Ill. Admin. Code tit. 86, §131.130(e)). An affiliate is (1) an entity with direct or indirect ownership of more than 5% in the other person; or (2) related to the other person because a third person, or a group of third persons who are affiliated with each other, holds a direct or indirect ownership interest of more than 5% in the related person (id. at §131.105).
Certified service providers: Remote retailers may, instead of registering with the DOR, enter into a tax remittance agreement with a certified service provider (CSP). The CSP registers, as agent, for the remote retailer, files returns, and makes tax payments (Ill. Admin. Code tit. 86, §131.125(a)). If the DOR assesses a CSP for failure to remit the correct amount of tax and the CSP demonstrates that its failure to correctly remit tax resulted from a good-faith reliance on incorrect or insufficient information provided by a remote retailer, the DOR instead will assess the remote retailer (id. at §131.160(d)).
Sourcing: Retailers face several sourcing scenarios under the new regulations. The general rule is that when the selling activities are performed in Illinois, state and local ROT is due at that location (i.e., origin sourcing).
Starting on Jan. 1, 2021, if the retailer does not have a physical presence in the state, but it exceeds the state's economic nexus threshold, then it is responsible to report and pay state and local ROT at the rate in effect at the destination (i.e., destination sourcing). However, if the inventory is held and the selling activities are performed outside Illinois, but the retailer has a physical presence in the state, such as employees going into the state to service equipment, then the retailer is subject to the 6.25% state use tax.
Marketplace facilitators simply owe ROT at the destination location for facilitated sales, if the marketplace seller is identified to purchasers in the marketplace as the party on whose behalf the tangible personal property is being sold.
For a marketplace facilitator's own sales and for sales by an unidentified marketplace seller, a marketplace facilitator may owe ROT at destination or at origin. For sales fulfilled from within Illinois, the marketplace facilitator will report and pay state and local ROT at the rate in effect at the fulfillment location. For sales fulfilled from outside Illinois, the marketplace facilitator will collect state and local ROT at the rate in effect at the delivery location.
Potential legal challenges: A potential legal challenge may be mounted against the rule requiring remote retailers to pay ROT at the destination of the sale, while retailers with a physical presence in Illinois are required to pay ROT or use tax at the origin.
One basis for a challenge to the state's new remote retailer rule could be that the lower tax burden (remitting only the 6.25% state use tax) on the remote sales of retailers with an in-state presence, compared with a remote retailer that also must remit local ROT (combined rates can reach 11%) is unconstitutional. Specifically, the rule arguably is a violation of the Uniformity Clause of the Illinois Constitution, which requires that, with respect to "any law classifying the subjects or objects of non-property taxes or fees, the classes shall be reasonable and the subjects and objects within each class shall be taxed uniformly" (emphasis added) (Ill. Const. Art. IX, §2).
In 1967, the service occupation tax (SOT), previously imposed only on the cost of tangible personal property transferred incident to the sale of a service, was expanded to also be imposed on the sale of services by four categories of "servicemen," including those repairing tangible personal property and selling pharmaceuticals as a registered pharmacist. Affected servicemen filed suit, and the Illinois Supreme Court held that with regard to the state Uniformity Clause, any "classifications must be based upon real and substantial differences between persons taxed and those not taxed" (Fiorito v. Jones, 39 Ill. 2d 531, 535—36 (1968)). The court found that the majority of servicemen excluded from the new tax base appeared to possess the same relevant attributes as those subject to the expanded SOT: They rendered a service that involved the incidental transfer of tangible personal property. Therefore, the court found no "real or reasonable difference between the classes subject to taxation and those excluded" and held the expansion was unconstitutional (id. at 540). Because a remote retailer collecting state and local ROT at destination and an in-state retailer collecting state use tax are identical in all respects other than their physical presence, a court may conclude the additional burden placed on remote retailers violates the Illinois Constitution.
Chicago's PPLTT and amusement tax
In addition to changes at the state level described above, Chicago's Department of Finance (DOF) issued an informational bulletin, effective July 1, 2021, that establishes safe-harbor revenue thresholds for the city's personal property lease transaction tax (PPLTT) and its amusement tax, incorporating Wayfair-type principles.
The PPLTT is imposed on (1) the lease or rental in the city of personal property; and (2) the privilege of using in the city personal property that is leased or rented outside the city (Chicago Mun. Code §3-32-030(A)). Notably, a "lease" includes "nonpossessory computer leases" in which a person obtains access to a provider's computer and uses the computer and its software to input, modify, or retrieve data or information (id., §3-32-020(K)). This results in an array of cloud computing, software as a service, and other cloud-based infrastructure-type services being subject to the tax.
The amusement tax is imposed on charges paid by patrons of every amusement in the city, including exhibitions and performances for entertainment purposes; recreational activity, such as carnivals and bowling; and paid television programming (Chicago Mun. Code §4-156-020(A)). After a 2015 ruling, the amusement tax is also applied to electronically delivered amusements, such as streamed or rented movies, shows, music, and games (City of Chicago Dep't of Fin., Amusement Tax Ruling (June 9, 2015)). The tax is not imposed on permanently downloaded content or content delivered via radio or satellite television, and it has faced (and so far withstood) legal challenges on grounds relating to the federal Internet Tax Freedom Act, P.L. 105-277, the Uniformity Clause of the Illinois Constitution, and Chicago's exceeding its home rule authority by taxing services occurring outside the city.
The new safe harbor, intended to relieve compliance burdens and give nexus certainty with respect to these Chicago taxes, is available to out-of-state entities that received less than $100,000 in revenue from Chicago customers during the most recent consecutive four calendar quarters. Entities that do not exceed the threshold will not be expected to collect either PPLTT or the amusement tax. To qualify for the safe harbor, an entity also must not have other "significant contacts" with Chicago, such as advertising directed at Chicago customers and activities performed by employees in Chicago.
If an out-of-state business initially qualified for the safe harbor but now no longer qualifies, it must (1) register with the Chicago DOF within 60 days; (2) begin collecting taxes within 90 days; and (3) continue collecting Chicago taxes for at least 12 months. The DOF's informational bulletin clarifies that the safe harbor only addresses whether a provider must collect the taxes from its customers, not whether a customer has a duty to pay the taxes, and that whether a taxpayer has "significant contacts" that would make it ineligible for the safe harbor is analyzed on a case-by-case basis.
Mary Van Leuven, J.D., LL.M., is a director, Washington National Tax, at KPMG LLP in Washington, D.C.
For additional information about these items, contact Ms. Van Leuven at 202-533-4750 or firstname.lastname@example.org.
Contributors are members of or associated with KPMG LLP.
The information in these articles is not intended to be “written advice concerning one or more federal tax matters” subject to the requirements of Section 10.37(a)(2) of Treasury Department Circular 230 because the content is issued for general informational purposes only. The information is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser. The articles represent the views of the author or authors only, and do not necessarily represent the views or professional advice of KPMG LLP.