by

Fred O. Marcus, Esq.

Horwood, Marcus & Braun

Chicago, Illinois

1. This paper deals solely with the taxation of information or electronic service providers (those who transmit data) as opposed to telecommunications services (the medium of transmission). Telecommunications services are subject to special excise taxes which are beyond the scope of this paper.

2. U.S. Const. amend. XIV, §1 (" . . . nor shall any State deprive any person of life, liberty, or property, without due process of law: . . ..").

3. 252 U.S. 37 (1920).

4. Id. at 52.

5. Id. at 50.

6. 252 U.S. 60 (1920).

7. Shaffer, 252 U.S. at 50.

8. 311 U.S. 435 (1940), reh'g denied, 312 U.S. 712 (1941).

9. Id. at 444.

10. 445 U.S. 425 (1980).

11. Id. at 436-37.

12. 444 U.S. 286 (1980).

13. The Court, in World-Wide Volkswagen, 444 U.S. at 295, did provide a list of examples of "affiliating circumstances" that may support jurisdiction. These included:
    

    1. closing sales in Oklahoma;
       

    2. soliciting sales in Oklahoma either directly through salespersons or through advertising reasonably calculated to reach the state;
       

    3. regularly selling cars to Oklahoma residents; or
       

    4. directly or indirectly seeking to serve the Oklahoma market.

14. 471 U.S. 462 (1985).

15. 504 U.S. 298 (1992).

16. Id. at 308.

17. Id. This can occur, at least as to sales and use taxes, because of the distinction the Quill court drew between nexus required by the Due Process Clause and nexus required by the Commerce Clause.

18. U.S. Const. art. I, §8, cl. 3 ("Congress shall have the power . . . to regulate commerce with foreign nations and among the states and with the Indian Tribes.").

19. 340 U.S. 602 (1951).

20. 430 U.S. 274 (1977), reh'g denied, 430 U.S. 976 (1977).

21. Complete Auto Transit's four-pronged standard for determining the validity of a state tax on interstate commercial activity under the Commerce Clause remains the prevailing test today, with certain refinements. One such refinement is found in National Geographic Society v. California Bd. of Equalization, 430 U.S. 551 (1977) where the Court upheld a use tax collection responsibility with respect to interstate mail order sales on the basis of the physical presence of two sales offices in the taxing state. In National Geographic, the Court made two significant rulings. First, the Court found that the required nexus with the taxing state need not necessarily be directly related to the activity being taxed. In other words, "transactional nexus" is not required. Second, the Court noted that the required physical presence in the taxing state must be more than the "slightest presence."

22. 358 U.S. 450 (1959).

23. 101 So. 2d 70 (La. 1958), cert. denied, 359 U.S. 28 (1959).

24. 107 So. 2d 640 (La. 1958), cert. denied, 359 U.S. 984 (1959).

25. See, e.g., JEROME HELLERSTEIN AND WALTER HELLERSTEIN, STATE AND LOCAL TAXATION, CASES AND MATERIALS 361 (5th ed. 1988).

26. 386 U.S. 753 (1967).

27. It is quite obvious that Quill reaffirmed the holding in National Bellas Hess that a mail-order seller will not have use tax nexus in a state if it does not have a physical presence in the state. Some commentators suggest, however, that the Court was reluctant to do so, suggesting that since the Quill rested primarily on the reliance interests of the mail-order industry and principles of stare decisis, the Court perceived an obligation to protect the reliance interests and settled expectations of the direct-marketing industry. Richard D. Pomp and Michael J. McIntyre, State Taxation of Mail Order Sales After Quill: An Evaluation of MTC Bulletin 95-1, 11 STATE TAX NOTES 179 (July 15, 1996).

28. Quill sold or distributed a computer disk containing a software program to several North Dakota customers that allowed these customers to directly access Quill's out-of-state computers when placing orders. Quill retained a license covering the computer software. Although Quill technically had property in North Dakota in the form of the computer disks and the intangible license, the U.S. Supreme Court held that the presence of this property in the State was not constitutionally sufficient to subject Quill to collection responsibility. Would the result be the same if the taxpayer was a mail-order seller of computer software who, through a license, retained an ownership interest in such software?

29. See, for example, Felt & Tarrant Mfg. Co. v. Gallagher, 306 U.S. 62 (1939); Scripto, Inc. v. Carson, 362 U.S. 207 (1960) and National Bellas Hess, Inc. v. Dep't. of Rev., 386 U.S. 753 (1967), where it appears as though the Court, for the first time, explicitly makes some physical presence of the vendor in the taxing state a requirement under both the Due Process and Commerce Clauses for imposing a use tax collection responsibility.

30. Until Quill, most commentators believed that the constitutionally required nexus between the taxing state and the activity, entity or property subject to tax was applied indistinguishably for purposes of both the Due Process and Commerce Clauses -- a definitive link or minimum connection.

31. It is clear that in the area of mail-order sales, physical presence is required before a use tax collection responsibility can be imposed. Consequently, "a corporation may have the 'minimum contacts' with a taxing state as required by the Due Process Clause, and yet lack the 'substantial nexus' with the state as required by the Commerce Clause." Quill, 504 U.S. at 313. Just how much physical presence is required is unknown, however. See, for example, In the Matter of Orvis Co., Inc. v. Tax Appeals Tribunal of the State of New York, 654 N.E.2d 954 (N.Y. 1995), cert. denied, 116 S.Ct. 518 (1995), where the Court of Appeals of New York adopted a "more than a slightest presence" standard.

32. Pomp and McIntyre suggest that the nexus standard for income taxes might be more liberal than the standard for use taxes. They argue that Quill's reluctant reaffirmation of Bellas Hess based on the Court's desire to protect the mail-order industry would have no relevance to income taxes. They also note that the "Quill Court recognized that it has not required a physical presence test in other cases." Pomp and McIntyre, supra note 27, at 183-184.

33. Quill, 504 U.S. at 308.

34. The states argue that the Quill decision's "substantial nexus" standard is limited to use tax collection responsibility. Whether the Supreme Court will apply this standard to a fairly apportioned, non-discriminatory, net income based tax is a question for which there is presently no answer. It has been further suggested that the Court's "substantial nexus" standard does not require substantial physical presence. In Orvis, 654 N.E.2d at 959, the court noted that Quill cannot be read as equating a substantial physical presence of the vendor in the taxing state with the substantial nexus prong of the Complete Auto Transit test. In the court's view, Quill did not increase the requisite in-state physical presence threshold from "any measurable amount of in-state people or property to substantial amounts of in-state people or property. Id. Pomp and McIntyre also suggest that the court did not "invigorate the existing physical presence precedents." Pomp and McIntyre, supra note 27, at 181.

35. 504 U.S. at 314, 317.

36. See, e.g., Felt & Tarrant Mfg. Co. v. Gallagher, 306 U.S. 62 (1939); National Geographic Society v. California Bd. of Equalization, 430 U.S. 551, 560-61 (1977).

37. 483 U.S. 232 (1987).

38. 362 U.S. 207 (1960).

39. Quill, 504 U.S. at 313.

40. Id. at 314.

41. Id.

42. The ownership of real property is one way in which a corporation can be present in a state. A corporation can also be physically present in a state through persons acting on its behalf whether they be employees, agents, representatives or independent contractors who do not have to work exclusively for the out-of-state corporation.

43. The Multistate Tax Commission ("MTC") currently argues that Quill's bright-line physical presence test is extremely limited. In Nexus Bulletin 95-1, which describes "the nexus consequences under the U.S. Constitution and Public Law 86-272 to a company selling computer and/or related items through direct marketing . . . where the computer company also provides, directly or indirectly, warranty repair services to customers in a taxing state," the MTC asserts that "[t]he Quill Court drew a bright-line between those direct marketing sellers with no connection to the state other than through the U.S. Mail or by common carrier and all other direct marketing sellers." On the basis of this assertion, the MTC concludes that Quill permits the states to impose tax collection responsibility on nonresident direct marketers who use third parties to provide warranty service. Multistate Tax Commission, Nexus Bulletin 95-1 (December 20, 1995). For the full text of the bulletin, see 10 STATE TAX NOTES 62 (January 1, 1996).

44. 504 U.S. at 330-31 (White, J. concurring in part and dissenting in part).

45. Id. at 314.
    Professors Pomp and McIntyre, however, argue that Quill makes it clear that the nexus requirement for sales and use taxes is stricter than the requirement for other types of taxes -- "although in our cases subsequent to Bellas Hess and concerning other types of taxes we have not adopted a similar bright-line, physical presence requirement, our reasoning in those cases does not compel that we now reject the rule that Bellas Hess established in the area of sales and use taxes." Pomp and McIntyre, supra note 27, at 183-184 (quoting Quill, 504 U.S. at 317).

46. Quill, 504 U.S. at 315 n. 8; see also, National Geographic Society v. California Bd. of Equalization, 430 U.S. at 556.

47. 654 N.E.2d 954 (N.Y. 1995), cert. denied, 116 S.Ct. 518 (1995).

48. 115 S.Ct. 1331 (1995).

49. 654 N.E.2d 954 (N.Y. 1995), cert. denied, 116 S.Ct. 518 (1995).

50. DTA No. 810592, 1996 N.Y. Tax LEXIS 45 (N.Y. Div. of Tax App. February 1, 1996).

51. 667 So. 2d 226 (Fla. Dist. Ct. App. 1995), certified question answered, No. 86, 481, 1996 Fla. LEXIS 1242 (Fla. July 18, 1996).
    The Florida Supreme Court considered the certified question of whether "substantial nexus" existed between Florida and Share such that Florida could require Share to collect sales and use taxes on all goods sold to Florida residents. Although the Florida Supreme Court agreed with the lower court that Share's yearly attendance at the Florida convention was not sufficient physical presence to create "substantial nexus," the court cautioned that the Bellas Hess bright line test only serves to clearly insulate from state taxation those out-of-state vendors whose activity in the taxing state is exclusively limited to mail order sales.

52. Dkt. No. 1049-93-S, 1995 Ariz. Tax LEXIS 24 (Ariz. Bd. of Tax App. April 4, 1995).

53. 712 P.2d 944 (Ariz. Ct. App. 1985), cert. denied, 477 U.S. 909 (1986).

54. 350 P.2d 674 (Ariz. 1960), judgement vacated and case remanded for clarification, 364 U.S. 289 (1960); second opinion, 358 P.2d 167 (Ariz. 1960), cert. denied, 366 U.S. 950 (1962).

55. 665 N.E.2d 795 (Ill. 1996), petition for cert. filed with U.S. Supreme Court, (July 17, 1996).

56. 430 U.S. 274 (1977), reh'g denied, 430 U.S. 976 (1977).

57. 504 U.S. at 317.

58. Id. at 315.

59. Orvis, 654 N.E.2d at 960-961.

60. 347 U.S. 340 (1954), reh'g denied, 347 U.S. 964 (1959).

61. As with other use tax jurisdiction cases, the possibility exists that the Brown's Furniture decision may be interpreted broadly to apply to net income based taxes as well. While many state tax authorities have argued that such a "bright line" test cannot apply to net income based taxes, some respected commentators have indeed argued the contrary, focusing upon the apparent lack of any principled, constitutional distinction between the standards for imposing use tax collection responsibility and those for net income taxes. Thus, until this debate has been settled, there does exist the possibility that Brown's Furniture may also represent the standard by which future income and franchise tax challenges in the state of Illinois will be judged.

62. 676 A.2d 330 (R.I. 1996).

63. R.I. Gen. Laws §44-41-1 (1956), as amended by 1983 R.I. Pub. Laws ch. 2, art. 4, §1. (This statute has since been repealed).

64. The court also discussed in detail whether Koch met the other three prongs of the Complete Auto Transit test. Not only did the court find, as discussed herein, that Koch had sufficient physical contact with Rhode Island to satisfy the test's substantial nexus requirement, but it also found that the tax was fairly apportioned, did not discriminate against interstate commerce, and was fairly related to the services provided by the Rhode Island.

65. 676 A.2d at 331.

66. Id.

67. The court did recognize the United States Supreme Court's pronouncement in Quill, 504 U.S. at 314, that a taxpayer which did "no more than communicate with customers in the State by mail or common carrier" could not have a substantial nexus with the taxing state. However, the court distinguished Koch's lack of actual presence and its use of a common carrier from the purview of this statement. In doing so, it relied upon the transaction's overall "practical effect" to show that Koch's activity amounted to more than such authorized communications. 676 A.2d at 331.

68. 652 N.E.2d 693 (Ohio 1995).

69. 24 Cal. App. 4th 382 (1994).

70. Cal. Rev. & Tax Code, § 6203(g) (Deering 1996).

71. Several other states, including Illinois, Missouri, Nebraska, and Ohio have enacted affiliate nexus statutes like California's. Based on the outcomes in SFA Folio and Current, such provisions appear ripe for constitutional challenges.

72. No. 90-R-825, 1993 Ohio Tax LEXIS 950 (Ohio Bd. of Tax App. May 28, 1993).

73. 871 S.W.2d 389 (Ark. 1994).

74. Compare, In the Matter of the Appeal of Scholastic Book Clubs, Inc., No. 75, 199, 1996 Kan. LEXIS 117 (Kan. July 12, 1996), where the Kansas Supreme Court, on facts substantially similar to those in Troll Book Clubs, concluded that Scholastic's use of Kansas teachers to sell books to students provided a substantial nexus with Kansas.
    The Kansas Supreme Court found an agency relationship to exist between Scholastic and the teachers whereas, the Arkansas Supreme Court did not. The distinction can be found in each state's standard for proving the existence of an agency relationship.

75. No. 92-Z-590, 1994 Ohio Tax LEXIS 1374 (Ohio Bd. of Tax App. August 19, 1994).

76. The Court, in Quill, clearly stated that the Commerce Clause prevents a state from imposing a use tax collection responsibility against an out-of-state seller unless the out-of-state seller is physically present in the taxing state. Thus, the inclusion of a due process analysis in these nexus guidelines is puzzling. If, however, for some reason, a due process analysis is required, the question of whether a state may impose a use tax collection responsibility on an out-of-state seller is not limited to the minimum contacts prong of the test. It must also be determined that the imposition of a collection responsibility does not offend the traditional notions of "fair play and substantial justice." Asahi Metal Industry Co., Ltd. v. Superior Court of California, 480 U.S. 102, 113 (1987); World-Wide Volkswagen Corp. v. Woodson, 444 U.S. 286, 292 (1980). The MTC's previous draft of these guideline failed to take this into account. This most recent draft of the guideline recognizes the second prong of the due process test.

77. The previous draft of the guideline provided that a "deemed" physical presence was sufficient to support the imposition of a use tax collection responsibility. This was contrary to the Quill court's "bright-line" physical presence test and an attempt to assert jurisdiction where no jurisdiction existed. The "deemed" physical presence concept has been deleted from this most recent draft of the guideline.

78. This provision of the guideline is consistent with the MTC's position that the scope of Quill's bright-line physical presence standard is extremely limited. In Nexus Bulletin 95-1, the MTC asserts that "[t]he Quill Court drew a bright-line between those direct marketing sellers with no connection to the state other than through the U.S. Mail or by common carrier and all other direct marketing sellers." If, however, the out-of-state business admittedly lacks a physical presence in the taxing state, how does substantial nexus arise?

79. In the first of a series of examples speaking to "physical presence," the MTC concludes that a employee permanently stationed in the taxing state creates physical presence even if the employee is not associated with the establishment and maintenance of a market in the state in which he is stationed. In its second example, the MTC concludes that a sales person who travels to a state which is part of his assigned territory, and who is associated with the establishment and maintenance of a market in the state under an established company policy, creates physical presence in the state even if he only travels to the state on an occasional basis.

80. In its first example involving the ownership, lease or maintenance of real or tangible personal property, the MTC concludes that the ownership of such property in a state is sufficient to create physical presence there even if the property held is unrelated to the business conducted in the state. The MTC notes that the "principle of disassociation" set forth in Norton Co. v. Dept. of Revenue of Illinois, 340 U.S. 534 (1951) is not applicable to sales and use taxes.
    In a second example involving the ownership, license, lease or use of billboards, showrooms, advertising kiosks, sample and display rooms or other property devoted to advertising, solicitation or other marketing purposes, the MTC concludes that a non-resident seller's utilization of such property in this manner constitutes the use of such property in the state and is sufficient to create physical presence.
    A third example involves consignment property. In this example, the MTC concludes that the owner of property consigned to another holds property in the state in which the property was consigned and, as a result, is physical present in the state.
    In its fourth example, the MTC deals with security interest in merchandise sold. Here the MTC concludes that an out-of-state business holding a security interest in tangible property in the state holds an interest in property in the state and, as a result, has presence in the state.

81. Here, again, the MTC employs four examples to explain its position. In the first, the MTC concludes that an out-of-state business that licenses (authorizes the commercial exploitation of the property) a trademark or service mark, franchise or patent, copyright or other protected intellectual property in a state is present in the state if the intellectual property has acquired a business situs in the state.
    In its second example, the MTC concludes that an out-of-state business' licensing of a celebrity endorsement that authorizes the commercial exploitation of the celebrity endorsement in the taxing state creates a business situs for the right in that state creating physical presence for the out-of-state licensor.
    In a third example, the MTC concludes that the licensing of a database by an out-of-state business for use in the taxing state to develop a list of potential customers and which use results in compensation being paid to the out-of-state licensor, establishes a business situs for the database in the taxing state resulting in a finding of physical presence.
    In its fourth example, the MTC concludes that an out-of-state business which grants an in-state person the right to broadcast programming owned, produced or leased by the out-of-state business is physically in the taxing state because the programming has acquired a business situs in the taxing state.
    In its fifth and final example, the MTC concludes that an out-of-state business which posts security in the form of intangible assets to an in-state person pursuant to an obligation imposed on the out-of-state business by law or pursuant to a contract as a condition precedent to conducting business with respect to the taxing state is physically present in the taxing state.

82. The MTC employs two examples here. In the first, the MTC concludes that an out-of-state business is physically present in the taxing state when its employee or independent contractor visits the taxing state to resolve customer complaints or to perform warranty service on equipment sold. The MTC believes that the visits are significantly associated with the out-of-state business' ability to establish and maintain a market in the taxing state.
    In its second example, the MTC concludes that an out-of-state business which makes deliveries into the taxing state by contract carrier as opposed to a common carrier or the U.S. Mail is physically present in the state. The MTC appears to believe that (i) a contract carrier is a representative of the out-of-state business and (ii) the deliveries fall outside the scope of Quill which requires that the only contact with the state be by common carrier or the U.S. Mail.

83. In an example, the MTC describes an out-of-state business which directs business into the taxing state through a World-Wide Web page. Under the fact pattern set forth in the example, Corporation A, an out-of-state business, hires Corporation B, an Internet "cybermail" service, which is also located outside the taxing state, for purposes of linking Corporation A's World-Wide Web page to a host computer in the taxing state whose use Corporation B has licensed. The MTC, on the basis of these facts, concludes that Corporation A is physically present in the taxing state. In the MTC's view, the host computer located in the taxing state is used by Corporation A to establish and maintain a market in the taxing state.

84. In this example, Corporation B, an out-of-state business which developed an Internet World-Wide Web "browser" program, licenses the software to users in the taxing state who install the software on their computers. Corporation B also licenses compatible "Internet Server" software to Corporation A, also an out-of-state business, which installs it on its computer system. The server program allows users of Corporation B's "browser" program to make on-line purchases from Corporation A over the Internet. On the basis of these facts the MTC concludes that Corporation A is physically present in the taxing state. In the MTC's view, the presence of Corporation B's World-Wide Web "browser" software in the taxing state is significantly associated with Corporation A's ability to establish and maintain a market in the state.

85. In a somewhat complex example, the MTC presents the following facts: Corporation A, an out-of-state business, maintains local telecommunications access in the taxing state by virtue of an agreement with an interexchange carrier which is not acting in its capacity as a common carrier as to Corporation A. The carrier, by contract with the telecommunications company serving the taxing state, arranges for transparent switching that makes it appear as though Corporation A is a local business (customers can contact Corporation A by making a local phone call). In this situation, the MTC concludes that Corporation A is present in the taxing state. The MTC believes the interexchange carrier acts on behalf of Corporation A by providing local access and that its representation of Corporation A is significantly associated with the ability of Corporation A to establish an maintain a market in the taxing state.

86. In its first example involving the performance of services, the MTC concludes that an out-of-state firm hired by an out-of-state computer seller, which provides remote technical support services to purchasers of the computer seller's products, creates presence for the out-of-state computer seller because the firm providing the technical support services is providing a service in the taxing state on behalf of the computer seller.
    In a second, example, Corporation A, an out-of-state business, is a reseller of interexchange telecommunications services. A facilities-based, interexchange telecommunications service provider actually supplies the telecommunications service being resold under a bulk purchase contract with the reseller. The MTC concludes that Corporation A is physically present in the state. In its view, the facilities based, interexchange telecommunications service provider is providing a service in the taxing state on behalf of Corporation A because the services are not completely performed until the telecommunications services are delivered in the taxing state.

87. Here, again, the MTC uses a services of examples to explain its position. In the first, the MTC concludes an out-of-state business who is present in the taxing state solely because its customer, in violation of an affirmative covenant, took property in which the out-of-state business has protected security interest into the taxing state. In the MTC's view, the presence of the out-of-state business is de minimis. It did not arise from a conscious submission to the jurisdiction.
    In its second example, the MTC concludes that an out-of-state business presence on a taxing state is not de minimis when the presence in the taxing state is derived from the fact that it has a policy of selling to in-state persons on the installment basis and from whom it routinely secures a protected security interest in the property sold and located in the taxing state. In the MTC's view, the out-of-state business has made a conscious choice to submit to the jurisdiction of the taxing state because the security interests were secured as part of a routine business practice.
    In example three, the MTC concludes that an out-of-state business' presence in a taxing statute is de minimis when its employee, on his/her own initiative enters the state and makes a single sale. The taxpayer did not consciously submit to the taxing state's jurisdiction.
    In its fourth example, the MTC concludes that the presence of an independent contractor who enters a state which is part of an assigned territory on an average of two times per year in not de minimis, because the state is part of the independent contractor's assigned territory. In example five, the MTC concludes that an out-of-state business' presence in a state is not de minimis when the presence arises from an independent contractor who is hired to perform warranty services on property sold to in-state persons and the independent contractor enters the state on average of two times a year to perform such services. In the MTC's view, the performance of warranty services in the state is important to the establishment and maintenance of a market in the state and reflects a regular or systematic business practice. In other words, the out-of-state business has made a conscious choice to submit to the taxing state's jurisdiction.

88. Multistate Tax Commission, Nexus Bulletin 95-1 (December 20, 1995). On March 14, 1996, California withdrew its support for Nexus Bulletin 95-1. See, Ernest J. Dronenburg, Jr., Board of Equalization Official Explains Position on Regulation of MTC Bulletin, 3 TAX MNGT. MULTISTATE TAX REPORT 120 (April 26, 1996), for an explanation of California's action as explained by Ernest J. Dronenburg, Jr., a member of the California State Board of Equalization.

89. Letter to Editor from Dan R. Bucks, Executive Director, Multi-State Tax Commission, 10 STATE TAX NOTES 820 (March 11, 1996).

90. 504 U.S. 298 (1992).

91. 386 U.S. 753 (1967).

92. Multistate Tax Commission, Nexus Bulletin 95-1. For the full text of the bulletin, see 10 STATE TAX NOTES 62 (January 1, 1996).

93. 362 U.S. 207 (1960).

94. 322 U.S. 335 (1944).

95. 306 U.S. 62 (1939).

96. 483 U.S. 232 (1987).

97. 419 U.S. 560 (1975).

98. Multistate Tax Commission, Nexus Bulletin 95-1.

99. The bulletin's reliance on Scripto, General Trading, Felt & Tarrant, Tyler Pipe and Standard Pressed Steel to support its conclusion is misplaced. These cases address due process nexus principles, not Commerce Clause "substantial nexus" principles. Not one of the cited cases supports a finding that "substantial nexus" can be based solely on the activity of a third party who provides repair services for products sold by the out-of-state seller. Thus, the cases cited by the bulletin cannot be relied on as binding precedent. At best, the bulletin sets forth an argument as to what the law should be. It does not, as it would lead you to believe, set forth the current state of the law.

100. See, George S. Isaacson and Martin I. Eisenstein, MTC Nexus Bulletin 95-1 Goes Beyond Existing Law, 10 STATE TAX NOTES 1168 (April 15, 1996).

101. Id. at 1169; see also, Pomp and McIntyre, supra note 27, at 178 n.8. In many instances, diagnostic and repair services can be performed on-line from a remote (out-of-state) location. Where do these repairs take place? Would the provision of these repairs in this manner create constitutional nexus in the state in which the computer being repaired is located? Is this the next logical extension of the MTC's position?

102. America Online and CompuServe are known as "closed systems" which are networks under the control of a single corporate entity with access limited to consumers who have subscribed to the network on a fee basis. Vendors must contract with the closed system network provider to obtain access to the network's users.

103. The Internet is known as an open network which is a network of computers with no formal control over access.

104. These on-line services which are often referred to as "value added networks" or "VANs" provide many services to out-of-state sellers other than the mere transmission of electronic data. Services provided include:
     a. protocol conversion;
     b. set-up and management of "cybermalls";
     c. easy access to potential in-state customers;
     d. e-mail;
     e. encryption; and
     f. approval of credit and collection of money.

105. A node is a conduit through which an electronic signal is transferred from a customer's personal computer to the on-line services mainframe computer. The customer gains access to the on-line service through the on-line service provider's local node.

106. A cybermall provides various services for mall inhabitants. Among the services provided are sorting, processing, billing and payment collection services for customer orders.

107. 362 U.S.207(1960).

108. 419 U.S. 560 (1975)

109. 306 U.S. 62 (1939)

110. 322 U.S. 335 (1944).

111. 483 U.S. 232 (1987).

112. See those cases cited as pp. 27-29 for cases addressing the agency issues. Currently, there are no cases which address the relationship between an out-of-state on-line information service provider and a telecommunications service provider who provides access to a local node.

113. The State of California has, however, by statute, chosen to limit its taxing jurisdiction to exclude from use tax collection responsibility a retailer who takes orders in the state through a computer telecommunications network located in the state. In Revenue and Tax Code Section 6203(j)(1), excludes from use tax collection responsibility any retailer who takes orders from customers in California through a computer telecommunications network located in the state, provided that (1) the telecommunications network is not owned by the retailer when orders are taken, (2) the orders result from the electronic display of products on the network, and (3) the network consists substantially of on-line communications services other than the displaying and taking of orders for products. Note, however, that this exclusion sunsets upon the earlier upon the earlier of (i) the operative date of provisions of a congressional act that authorize states to compel the collection of state sales and use taxes by out-of-state retailers; or (ii) the date five years from the effective date of the act adding this subdivision.

114. On-line information service providers can not avail themselves of the protections afforded by P.L. 86-272. They do not sell tangible personal property. Thus, on-line information service providers must rely on constitutional limitations to avoid a state's taxing jurisdiction.

115. If the out-of-state merchant utilizing the on-line information services provider's network is engaged in the sale of services, the protections afforded by P.L. 86-272 will not be available. This taxpayer most rely on the Constitutional limitations of the Due Process Clause and Commerce Clause. If a taxing state can establish that the merchant has purposefully directed its activities toward the taxing state and the state and correct in asserting that for net income tax purposes, an economic presence is sufficient to satisfy the Commerce Clauses substantial nexus requirement, the merchant will be subject to the taxing state's jurisdiction. If, however, a physical presence is required in the taxing state, the state will have to establish that the on-line information service provider utilized by the merchant is acting as the merchant's agent or representative in the taxing state before taxing jurisdiction will arise.

116. 437 S.E.2d 13 (S.C. 1993), cert. denied, 570 U.S. 992 (1993). For a critical analysis of the Geoffrey decision, see, John L. Coalson, Jr. and Fred O. Marcus, STATE TAX NOTES 419 (August 7, 1995).

117. Dkt. No. F-94-444, 1995 Ala. Tax LEXIS 211 (Ala. Dept. of Rev. Dec. 11, 1995). The Alabama Department of Revenue dropped its appeal of the administrative law judge's ruling in Cerro Copper Products.