California Says You Have to Pay The Tax Before You Can Fight The Tax

A few days ago we reported that Isabel Rubinas, a small, online business owner from Glen Ellyn, Illinois filed a civil rights lawsuit Thursday in the US District Court for the Northern District of Illinois against the state the California Department of Tax and Fee Administration (CDTFA), the state agency that oversees the collection of sales and use taxes.

With support from the Online Merchants Guild (OMG), Rubinas filed for a Temporary Restraining Order and Preliminary Injunction requesting that the CDTFA be barred from any further collection action for the duration of this lawsuit as well as be required to return her funds that they have unlawfully seized.

A hearing was granted for yesterday and today the Online Merchants Guild provided the following update on this case.

Excerpts From Sales Tax Challenge Court Hearing

Much of the hearing initially focused on if the court has jurisdiction in this case. The problem is that OMG and Rubinas are challenging a long line of jurisdictional cases.

“In this case we are challenging a long line of jurisdictional cases that dates back almost a hundred years regarding state tax cases being heard in federal court. The problem with those cases as well as the precedents set by them is that they are incompatible with today’s ecommerce economy. There are also exceptions to the general rule, and we believe Isabel and other similar situated Amazon merchants come in under those exceptions, but they are often difficult to establish.”

The “general rule” that is referred to is that you first must pay the tax before you can sue for a refund. ”You have to pay the tax before you can challenge the constitutionality of the tax,” is what the defense counsel for the State of California argued in yesterday’s hearing.

This means that the plaintiff must first pay whatever taxes to the state they owe, then be ready to pay the legal fees to sue the government for a refund, even if it is a civil rights case. In California, the legal fees can run upwards of $500,000 that the plaintiff would have to cover.

“Obviously, this makes adjudication of fundamental rights wholly inaccessible for most of us. We believe it’s important to establish as [a] precedent that when a state you have no contact with, i.e. not your home state or a state you have direct connections to, invades the sovereignty of another state, by going after small businesses in that state, those businesses should have a remedy: a right to seek sanctuary in the federal courts of your home state.”

This lawsuit is the first time this tax situation is being brought up in Federal Court and the court has to ascertain if it has jurisdiction over this case. The Online Merchants Guild believes they do.

“For now, the judge asked for some additional information from CDTFA about the remedies available to Isabel so that he has a clear picture of the situation, and we are expecting a ruling on the restraining order by Thursday [January 14, 2021], and a clearer picture of how this case will proceed in the district court.”

The fundamental issue here is that this type of behavior from the State of California toward small businesses is unconscionable and puts small business owners into potential ruin.

“Imagine if 50 states sent Isabel, or you, a baseless demand for $10,000, or more, and your only option would be to pay the taxes that all 50 states are demanding from you, simultaneously, and individually sue each state for a refund, even if the underlying basis of the tax assertion is a violation of your civil rights, as it is in Isabel [Rubinas]’s case and every FBA seller facing this.”

This is The Fallout of South Dakota v. Wayfair, Inc.

When in 2018 the US Supreme Court overturned “Quill” in South Dakota v. Wayfair, Inc., it opened the door for every state to just about do whatever they want. Since then it has been the “Wild Wild West” with states trapping small business owners in difficult tax situations.

Just today, an eBay seller in an eBay Facebook Group claimed that the State of Illinois told him that eBay is not authorized to collect or remit sales tax for in-state transactions. Yet, eBay collected sales tax from his sales and now the state says that he still owes the money.

This could be an issue of not having the eBay listings setup correctly or an issue involving the local sales tax (ie Chicago city tax) portion as marketplace facilitator laws only require marketplaces to collect the “state portion” of the tax. Even if this was a mistake by the seller in setting up the listings, it’s the complexity of the situation that is trapping sellers to understand different tax rules and situations for every state. Marketplaces wash their hands by telling sellers this is your problem.

Without Congress getting involved by setting up a uniform sales tax collection system that all states must follow, there are too many nuances that can get a seller into trouble and hit with a hefty tax and penalty. With 45 states and the District of Columbia collecting statewide sales taxes, thousands of local tax authorities, there are just a lot of chances to get it wrong. Something must change!

The full text of OMG’s statement on this case is available on their Facebook page.

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