By Allan Maurer

RESEARCH TRIANGLE, NC – The North Carolina Department of Revenue’s attempts to get Internet retailer Amazon.com to collect sales taxes on purchases by state residents has already caused trouble for Internet-based startups.

When the dispute began, North Carolina maintained that by having sales associates in the state, Amazon established what is called “nexus,” or the substantial presence the U.S. Supreme Court has ruled is necessary for a state to collect taxes from a company.

Amazon retaliated by dismissing all of its North Carolina sales affiliates, some of whom were doing substantial business and paying income taxes on the profits. Their only recourse was to leave the state.

Tougher for Internet startups

But entrepreneurs launching Internet-centric businesses in North Carolina continue to face a tougher uphill climb without the early income that the Amazon affiliate relationships produced.

Bill Bing and Mitesh Patel, for instance, tell us it has made it more difficult  to get some steam in the engine at their latest venture, Loyalese.com. They want Loyalese to be a free loyalty rewards program that gives consumers cash back for purchases made through Loyalese. “Affiliates would be a big part of our business,” says Bing.

The company launch is still a month away, but Bing says that when they talk to potential investors or partners, “They know we’re not going to Amazon on board and it’s an additional hurdle.

“The place it hits hardest is our ability to have that additional revenue stream,” Bing says. “It slows our ability to scale. It’s one more thing that makes it difficult to be in the Southeast instead of another geography.”

What will the long term impact be?

He adds, “This impacts our ability to create more jobs in the state. The state may collect a couple of million today, but the longterm cost to the state will be far greater.”

Some state estimates say North Carolina will lose $162 million or more in sales taxes on Internet purchases this year. The state sales tax is 5.75 percent.

The whole issue goes way beyond just North Carolina and Amazon, however. Many Internet retailers offer affiliate relationships that help Internet startups gain traction and obtain investments. Other states, including New York, and Colorado and others are also battling with Amazon and other Internet retailers over the sales tax issue.

“Everyone is waiting to see how this plays out,” says Bing.

Latest round: tax amnesty offered

In the latest round of events, North Carolina threatened Amazon with legal action if it did not provide the state with information on its residents’ purchases going back to 2003. Amazon countered by suing the state in federal court in Seattle, where it is located.

Serial entrepreneur Bob Butler, founder of Bestthinking.com, his latest venture, says, “Targeting one company with a tax law, rushing to file contempt charges, and instilling fear in its customers about tax audits and lost privacy is making this look like a blood feud.”

In the suit, Amazon contends that complying with the state’s demands would violate the privacy rights of people who may have bought “sensitive” books, tapes, dvds or other materials from the company. Amazon says those purchases amount to 50 million items.

North Carolina then offered Internet retailers what it calls “The Internet Transactions Resolution Program.” By joining the program and agreeing to collect sales and use taxes in the future, a business will not be assessed tax, penalties and interest for prior liability.

NC Revenue Secretary Ken Lay said the amnesty deal has nothing to do with Amazon’s suit. Uh huh.

A spokesperson for the NC Department of Justice tells us its attorney’s are preparing a response to the Amazon suit, but has no comment on it at this time.

Federal intervention needed?

Catherine Fox-Simpson of major tax advisory firm BDO, tells us, “States are becoming very aggressive. They’ve seen a huge drop in their revenue. It’s impacting every business, but small businesses are taking a lot of the burden.”

She agrees with Tech America’s Senior Director of Tax Policy, Bartlett Cleland who told us in a previous interview on the topic that Congress needs to step into the fray and settle the issue on a federal level. “But I think that’s a long way from happening,” says Fox-Simpson.

An ugly battle of wills

“Because of the Internet, it’s now easy to become a multi-state business,” she says. “The way businesses enter and exit states regularly makes it very complicated.”

Butler, who feels the affects of all this directly, since his new business would have profited from an Amazon affiliate relationship, concludes, “Our universities, tech industry, life sciences, and reputation for business friendly public policies have long been the four cornerstones of the economic success of NC.

“This ugly battle of wills undermines the NC tech industry and destroys any perception that NC is business friendly.  It’s time for the Governor or General Assembly to step up and call for a time out and consider that the collateral damage, which began with 6,000 NC websites losing tens of millions in revenue and investment capital, will continue for many years beyond the current budget crisis.”

For further reading:

The Tax Foundation sees the Amazon tax as unconstitiutional: Amazon tax unconstitutional

A good, multi-state overview from Stateline:

The ‘Amazon tax’ war escalates

Previously on TechJournal South:

North Carolina and other states spar with Web retailers

NC’s “Amazon tax” could backfire