Texas Clears Up Server-Nexus E-Commerce Sales Tax Issue

Both Houses of the Texas legislature have passed a bill that legislatively repeals a controversial regulation that has caused a great deal of concern to e-commerce vendors and to Web hosting companies.

A state can only require a company to collect its sales tax if the company has a substantial physical presence (“nexus”) in the state, because of a 1992 U.S. Supreme Court case, Quill v. North Dakota.

Until last July, the mere use of a server in a state (without any other presence there) had not been considered adequate to establish nexus. This is because of a federal rule forbidding states from forcing a company to collect sales tax if it only uses a computer server there.

Comptroller’s About-Face

However, this federal rule did not stop the Texas Comptroller’s Office from amending a regulation in 2010 saying that the mere use of a computer server located in Texas is adequate to establish nexus for sales tax purposes. This 2010 regulation meant that an e-commerce vendor who used a Web-hosting company with a server in Texas would have nexus there, and would have to collect Texas sales tax on sales to customers in the Lone Star State, even though it had no other contact there.

This new regulation caused quite a stir with Web-hosting companies with servers in Texas, which were concerned that they would lose business from e-commerce vendors that did not want to take on a sales tax collection obligation.

The Texas Comptroller’s Office recently backpedaled on its own regulation, when it released a ruling saying that the 2010 regulation’s language that “use of a computer server” in the state establishes nexus does not mean what it says, and concluded that the mere use of server did not establish nexus.

Although this ruling was a good start, technically it was only binding on the taxpayer that this private ruling was issued to. So, there was still doubt on this issue.

Fortunately, the Texas legislature has ridden to the rescue of Web-hosting companies and e-commerce businesses by passing HB 1841. This bill says that “a person whose only activity in this state is conducted as a user of Internet hosting is not engaged in business in this state.”

Sensible Move

This new law will do away with any question that the mere use of a Web-hosting company with a server in Texas might result in a Texas sales tax collection obligation, a wise tax policy choice since the state has worked hard to develop a major technology industry.

The bill is now headed to Gov. Rick Perry for his signature. Since this bill passed by overwhelming margins in both chambers of the Texas legislature, he is expected to sign it, putting to rest the sales tax problems that this regulation may have caused to e-commerce businesses.

It is important to remember, however, that if an e-commerce business has other contacts with Texas — like sending sales representatives there, or hiring contractors in Texas to provide installation or repair services for customers in Texas — then this would satisfy the physical presence requirement, and sales tax would have to be collected and remitted to the Comptroller’s Office.