Earlier this week California Amazon affiliates received devastating news. Amazon was terminating their affiliate program in California. Immediately this fostered debate, reaction, and suggested solutions.
Debate Over Taxes on Ecommerce Sites
The reason that Amazon terminated their affiliate program for California boils down to Taxes. The law requires that businesses pay sales tax when they have a presence in the state that they are doing business. This rule allows ecommerce companies, such as Amazon, to conduct business in the state without charging sales tax as long as they don’t establish a physical presence.
In theory, the residents of California who make purchases from Amazon are supposed to pay an equivalent Use tax for the purchased items when they report their taxes at the end of the year. However, many people don’t report their online purchases. This results essentially in an almost 10% discount for those online purchases made through Amazon. This has a twofold affect for the state of California.
First off, they are losing sales tax revenues on those items. Now, I’m not a big supporter of taxes, however though I may disagree with a law, I am a supporter of following the law. In this case, the reason that California loses tax revenues is essentially due to tax fraud from the residents who purchase items and don’t report the taxes. I don’t blame them either because it’s easy to do, and the onus of keeping track of all your online purchases just for the purpose of paying the government 10% at the end of the year just isn’t worth it. The state recognizes that, so they want to put the burden of keeping track of those taxes on the ecommerce company itself. In this case, Amazon.
The second affect of this 10% discount for ecommerce sites is that it gives them a competitive advantage over brick and mortar companies that have a physical presence in the State. Anyone who has ever shopped Amazon understands this affect. If I see an item selling at Amazon at the same price as it’s selling at Best Buy, I would rather buy through Amazon because I still save money on the taxes. Now most people don’t care about big business, I’m not a fan of the big corporation either. But the bigger picture is the question of what happens when all those companies are pushed out of business from their online competitors? People lose jobs. The state loses revenues and the economy goes in the tank. Just think, how many people lost jobs when Circuit City went out of business?
Don’t forget that international companies such as Amazon have the ability to station their headquarters anywhere in the world. What happens when they decide that it’s more economical to station their headquarters in Ireland where the corporate tax is miniscule? Remember that their loyalty is to their shareholders and making as much profit as possible, which includes avoiding paying taxes.
These are the two biggest reasons why California is making such a great effort to find a way to tax ecommerce sites. Which takes us back to the reason Amazon terminated their affiliate program in California.
One way that California is attempting to define a physical presence is through the argument that a company establishes a physical presence in a state when they have sales associates doing business in the state through an affiliate program. By enacting that law, California is basically attempting to find a way to create a link back to Amazon for the sales that they are doing in California.
How would this have affected Amazon?
Until the law is settled on whether affiliates are enough of a physical tie to the state, Amazon would have been required to pay sales tax back to the state of California for the sale of items to California residents. This of course would have cut into Amazon’s bottom line. They would would face equal competition from stores that have a physical presence in the state and potentially lose some sales business. In addition, there’s the cost of maintain the software to track sales from California and the costs of accounting for the sales tax.
This is the reason that Amazon cut its ties with their Californian affiliates.
Who’s to Blame?
I’ve already seen a lot of reaction from around the internet.
The reactions range from calm acceptance to anger.
People are angry at the state for “raising” taxes. They believe that this is an example of government greed.
My personal thoughts is that this is not really a new tax. This is just an effort to streamline the collection process on taxes that were being unpaid by the residents of California who were not reporting their use tax on their online purchases. It’s a shifting of the burden from the individual to the corporation.
We are essentially watching a cycle of taxation history.
Frankly, I’m more at a loss as far as where to place blame if there is any.
What are your thoughts?
Possible Solutions for Staying an Amazon Associate
There have been a number of proposed solutions to this issue.
Option #1: Creating a Corporation out of state
Chris Guthrie wrote a post suggesting establishing a corporation out of state. This is an interesting workaround. However, you really want to have a carefully thought out plan if you are going to go this route.
Incorporating often requires paying filing fees and it’s advisable to retain an attorney to assist in the incorporation process. Many states require establishing operating rules for your corporation, articles of incorporation, annual board meetings and so on. You attorney would assist in making sure that you are following all the rules for keeping your corporation running.
The cost of setting up and running a corporation may not be worth the tax savings.
Then you need to consider other tax consequences.
Your corporation will be subject to separate income taxes in the state that it’s operating. Then you have to establish a way to pay yourself out of the corporate funds. That means that if you pay yourself a salary, then you’ll be paying separate individual income tax on that money, essentially getting taxed twice on your revenue. If you decide to pay yourself a low salary to avoid individual income tax, then you’ll have to work out some way to access the money through stock offerings to yourself and dividends. Then you are dealing with capital gains tax.
Overall, it can be quite a headache to go the route of setting up a corporation for this purpose. I would only do it if I was earning a very large amount of money from Amazon associates. For someone like Chris Guthrie who is absolutely killing it with Amazon sales and earning hundreds of thousands of dollars annually, it makes financial sense. But if you’re only bringing in a couple of hundred dollars a month, you may be better off finding another affiliate program to make up the revenue.
If you don’t have your own attorney for setting up a corporation, you can try out the free incorporation service from Rocket Lawyer.
Option #2: Changing your address out of state
I’ve seen people suggesting simply using an out of state address for their account information. Frankly, I would be very concerned about using this method as a workaround. You may be subjecting yourself to violating Amazon’s terms of service and getting completely banned from their system.
The second issue is that it may cause your problems with your income taxes. Remember that Amazon reports your earnings to the IRS through 1099. If they are also reporting your residency address from their account information, you may run into problems when you are paying state income tax.
The biggest potential problem with simply changing your address is that it could potentially amount to fraud, especially if you are using a made up address.
One thing you may try to avoid this issue is to use the address of your hosting provider if they operate out of state. At least you have the potential argument that it is legitimately where your business operates. However, I would suggest consulting with an attorney about these issues before updating your account information.
Option #3: Finding a Partner Out of State
It’s much easier to form a partnership than a corporation. It can simply be an informal agreement between yourself and your partner. However, I would suggest drafting a simple partnership agreement to protect yourself. This is especially true if you intend to be doing all the work and collecting all the income and you simply have a “silent” partner as a base of operations. Some day your partner may want a portion of your income. You protect yourself if you can agree to the limits of your partnership early on and sign a simple partnership agreement. You can find free legal documents online from Rocket Lawyer if you need some assistance with a partnership agreement.
This is a more formalized way of getting an out of state address without simply changing your account information. A partnership with someone out of state will likely protect your from any TOS violations from Amazon, though I would read their TOS very carefully before changing your account information to make sure.
Option #4: Moving Out of State
What’s so great about California anyways?
If you are making a full time living online, then you can afford yourself to one of the great benefits to working online: mobility. You have the option of working anywhere in the world. You don’t need to tie yourself down to California.
This may be the simplest and best solution if you are able to make the move. You simply move out of state and continue your operations.
Of course, if you have family and friends here in California. You’ll need to weigh your options as far as whether it’s worth making that personal change.
However, all in all, this is the most risk free methods of continuing on with the Amazon Affiliate Program.
These are just a few possible solutions to this problem. Definitely they each have their pros and cons and I would recommend evaluating the risks of each and even consulting with an attorney and a tax specialist before implementing your plan. You never know if you may be running into any potential legal or tax problems.
I’m sure there are many other possible solutions out there. If any of you have thought of a solution that I haven’t discussed or you just have some thoughts about what happened, feel free to leave a comment. You can voice your suggestions, your frustrations with Amazon or the state of California regarding this issue.