Hitting the Books: Court Grants Nexus in Tennessee

A deft argument helps the tax commissioner prove that marketing books in the state sets up Scholastic Books Clubs’s physical presence there.
Robert WillensFebruary 28, 2012

Last month the Tennessee Court of Appeals continued to erode the protection out-of-state retailers have from taxation if they don’t have a physical presence in a state.

Incorporating an inventive argument by the state that marketing and distribution there amount to a physical presence, the appeals court’s decision comes at a time when state legislatures are looking to pass legislation to capture sales taxes from online purchases.

In the case at hand, the Tennessee appeals court ruled on January 27 that the Scholastic Book Clubs’s use of schools and teachers to foster book sales and deliveries in the state established an adequate physical presence in the state for Tennessee to collect sales and use taxes from the SBC.

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The SBC is a Missouri corporation that markets and sells books and other publications to teachers and students at schools across the United States. From January 1, 2002, to May 31, 2008, about 8,000 Tennessee schools took part in the SBC program. Although the SBC didn’t have real or personal property or employees in the state, its sales in Tennessee were valued at more than $34 million.

In August 2008, the state’s Department of Revenue notified the SBC that it was liable for $3.6 million in sales and use taxes. The state’s commissioner of revenue asserted that teachers who took part in the SBC program acted as agents for the SBC.

The state’s tax commissioner asserted that an implied agency relationship existed and that teachers acted “like any other sales agent” when they followed the procedures the SBC set up for placing, distributing, and returning orders.

The trial court, however, ruled in favor of the SBC and dismissed the commissioner’s motion. On appeal, the state prevailed in January.

Market Nexus
The question in the case was whether the activities of in-state schools and school employees on behalf of an out-of-state seller that enable the seller to set up and maintain a market in the state create enough nexus to support an assessment of sales and use taxes against the seller. The answer was yes.

The issue is controlled by the Supreme Court’s 1992 holding in Quill Corp. v. North Dakota. According to that decision, a state may assess a tax against an out-of-state vendor if the tax is applied to an activity with a “substantial nexus” in the taxing state, is fairly apportioned, doesn’t discriminate against interstate commerce, and is fairly related to the services provided by the state.

In the Quill decision, the High Court reaffirmed the safe harbor created for vendors whose only connection with customers in the state is by common carrier or the U.S. mail. An out-of-state vendor whose sales are by mail order must have some sort of “presence” in the taxing state for a sales tax to be allowed.

The SBC asserted that it neither owns nor leases property in Tennessee; that it has no employees, agents, sales people, independent contractors, or representatives in the state; and that it maintains no bank accounts, telephone listing, web address, or mailing address in the state. The company argued that its only connection to customers in Tennessee is via mail order.

The SBC conducts its business by mailing catalogs to classrooms across the United States. Teachers decide whether to distribute the catalogs to students, and students, in turn, give their orders to their teachers. The teachers can forward the orders, along with payments, to the SBC’s offices in Missouri, or the teachers can submit the orders via phone to the SBC’s offices in Missouri and submit the payment by mail.

The SBC fills those orders at its facility in Missouri and delivers the books, by common carrier, to the classes that ordered them. In the case of student orders, the books are distributed to them by their teachers.

“SBC’s use of Tennessee teachers to effectuate sales” is sufficient to sustain the assessment of sales tax against it, the tax commissioner successfully argued before the appeals court.

In short, the court reasoned, the SBC has created a de facto marketing and distribution mechanism within Tennessee’s schools. That mechanism uses Tennessee teachers to sell books to schoolchildren and their parents.

The company’s connections with its customers in Tennessee do not fall within the narrow safe-harbor provisions affirmed in the Quill decision.

Robert Willens, founder and principal of Robert Willens LLC, writes a tax column for

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