Introduction

In order to engage cross-border taxation issues of electronic commerce, an underlying foundation of the principles that govern basic judicial in personam jurisdiction, as generally applied in a domestic context, provides the foundation and the international pathway. These basic principles that established precedent to the electronic communications phenomenon were the content of a previous writing. (1) Cross border taxation of international enterprise incorporates two basic themes, one of which is the interpretation of the United States Commerce Clause and the Due Process distinction from jurisdictional analysis.

Jurisdiction is one of the two basic aspects that govern the authority of a source and resident country or state to tax commerce, be it domestic or international. A foreign taxpayer that derives income from the United States as a source country, is income that is taxable by the source country and the resident country; both jurisdictions may tax as a general premise. Treaties involve solutions to just this setting.

A residence based method of taxing, taxes income in the country of residence without regard to where the income is derived. The other basis of taxing is the source based view. Pursuant to that principle, income is taxable in the country in which it is generated. (2) Foreign taxpayers are taxed normally pursuant to principles of source concepts. (3) The United States is restricted in taxation of foreign parties and entities by virtue of a concept of the necessity of a fixed or permanent establishment doing business in the United States. In the Model Treaty guidelines the specifics of a business entity must be established as a permanent.. (4)

The basic principles that established domestic in personam jurisdiction, general or specific, evolved on a case by case basis; judicial factual analysis that focused upon the complexity of the application of the Due Process clause. (5) The complexity is further engendered as the essence of the Commerce Clause is contrasted to Due Process of in personam jurisdiction.

It too is rooted in factual analysis that has been dramatically impacted by the electronic communications phenomenon. The essence of this contrasting involves contacts with a jurisdiction as perceived for in personam jurisdiction and the concept of nexus to a state as it pertains to the Commerce Clause; whether it creates an unconstitutional burden on interstate commerce and the factual nexus to the state. (6)

Jurisdiction – Nexus – Electronic Commerce

It would be logical to query the importance of the evolution of Due Process of jurisdiction to the concepts of nexus as delineated under cases relevant to the Commerce Clause and taxation. The underlying reason is that irrepressible core language and phraseology that preceded the evolution of Due Process of jurisdiction was embedded in United States taxation case law and the use of nexus. At this point the jurisprudence of taxation and the nexus requisite for a state to assert taxation in interstate commerce is at best vague and ill defined. Understanding the evolving case law of jurisdiction as it evolved is an important and valuable insight to where and how nexus may be influenced.

To capture that essence, one summarizes the concepts of Due Process in personam jurisdiction as it expanded from territorial to purposeful availment of a sister jurisdiction. This link of judicial terminology that traversed from taxation to jurisdiction can be seen in an early leading case that established the foundation of whether a trade or business was being conducted in the United States by a foreign person. And in this connecting of terminology, the logic is founded in that the terminology was derived in taxation and then became embodied in judicial jurisprudence of opinions proffering this theory of what sometimes was perceived as exorbitant jurisdiction.

Presence and Nexus

In an often cited case for the proposition of what constitutes doing business in the United States by a foreign person, it was decreed that the test was both quantitative and qualitative. In the context as was being defined for purposes of international taxation, the phrases of engaged in business, carrying on business and doing business were expressions either separately of connectively conveying the idea of progression, continuity, and sustained activity. (7)

The character of the activities and purpose for which an office was established in the United States were determinative whether one was engaged in a trade or business in the United States; that is the element of physical presence. (8) Presence is at the heart of the evolution of the notion of Due Process and nexus as it pertains to the principles of the Commerce Clause. The degree of presence that is necessary to incur United States taxation as a foreign person is the difficult question.

Initially the nexus that was overriding, required a certain amount of physical presence that sought to impose a tax. (9) With respect to the source of income, the core activity has a situs or location and it is that activity that determines the source. (10) This United States tax case has also been a bell weather case pertaining to what the parameters are for a presence in the United States by a foreign person conducting business. (11)

The significant defining of presence and nexus regarding the Commerce Clause was established in the first major case in an evolving of nexus in 1992. A bright line test was stated to establish that a minimum threshold physical presence was necessary to impose sales and use taxes on mail order sales. It was a case that dealt with a state use tax. (12) Subsequent cases eroded the physical presence bright line established by interjecting the notion that an economic presence would establish a threshold to satisfy nexus and the concerns of the Commerce Clause.

This was the introduction of economic presence and an elaborate consideration of contacts with a state to assert in personam jurisdiction. Its conclusion was that the requirements of due process are met irrespective of a corporation’s lack of physical presence in the taxing state. It stated directly that the courts previous decisions that indicated that the Due Process Clause required physical presence in a state for the imposition of a duty to collect use tax, were specifically overruled “… superseded by developments in the law of due process…”. (13)

Thereafter in 2009, the Supreme Judicial Court of Massachusetts addressed economic presence, rather physical presence, with respect to the imposition of financial institution excise tax. The activities of a defendant bank were found to be a substantial nexus that justified imposition of the FIET (financial institution excise tax) The reasoning was that purposeful target marketing of customers in Massachusetts, their use of the Massachusetts court system to collect and resolve disputes, and their use of sophisticated networks within the state provided the substantial nexus. The court specifically referenced Quill, the 1992 major case upon which nexus evolved, stating that a financial institutions’ physical presence in the taxing state was not required to have a substantial nexus and thus the imposition of the taxation was constitutional under the federal Commerce Clause.

This sounded along the comparable reasoning of purposeful availment as previously used in the evolution of in personam jurisdiction when jurisdiction was expanded beyond. The defendant contended that sales and use taxes do not impose a more significant burden on interstate commerce than income-based taxes and that the two types of tax should have a distinction under the Commerce Clause. The court disagreed. It distinguished Due Process by stating that the concept of substantial nexus is more elastic than physical presence, stating that it plainly means a greater presence between a state and a taxpayer than the minimum connection that would satisfy a due process inquiry. It stated the test is substantial nexus not minimal nexus. (14)

Jurisdiction and Electronic Commerce

By virtue of the fact that Due Process as utilized in jurisdiction analysis and nexus and Commerce Clause analysis are made a part and distinguished in opinions, the trend of jurisdiction and its electronic commerce evolution is an important judicial platform of jurisprudence. The new horizon of the Internet and electronic commerce has presented the question of what the breath is that establishes the type of Internet contact that can be deemed sufficient to exert personal jurisdiction upon a foreign defendant in much the same way that jurisdiction to tax is viewed by nexus.

Initially a very bold concept evolved that advanced the notion of jurisdiction being appropriate upon the mere presence of a Website that could be accessed in a forum of the plaintiff by an Internet source. (15) This same approach was adopted in the United States District Court of California. Their assertion of general jurisdiction was rejected. However the limited scope of specific jurisdiction extended pursuant to a three-prong test that evaluated the nature and quality of contacts requisite to assertion of limited jurisdiction. It reviewed whether the defendant had purposefully availed itself of the jurisdiction, thus availing itself of the protections and benefits of its laws. (16)

The factual notation of the court, that the use of computers makes a message available not only to the recipient, but also any other party that has Internet access. For that reason the court explained a need to therefore broaden the permissible scope of jurisdiction exercisable by courts. One can readily match the jurisprudence of purposefully availing ones self of a jurisdiction and the reasoning in Capital One & Another v. Commissioner of Revenue (17) where the analysis was a purposeful target marketing and the use of the state’s court system to collect and resolve disputes that provided substantial nexus for taxation. The terminology and jurisprudence is too coincidental to not attach significance.

The term sliding scale came into play in a subsequent important judicial analysis and court decisions were very much swayed by the flexibility. The sliding scale developed seemed a flexible guidance to the judiciary that sought not to apply broad reaching jurisdiction that was flavored with an exorbitant expansion. (18) Website interactivity was deemed to be comprised of three areas, the passive website, the commercial website, and the interactive.
Utilizing this scale, a passive website is depicted as one that provides information to an Internet user and does not provide any additional presence in the jurisdiction. Again the jurisprudence is of such a notable flavor as it revolves around presence as does the analysis of nexus. This is the move away from the concept that mere Website accessible by any Internet user worldwide could bestow presence and personal jurisdiction requisites for electronic commerce. (19)

It is an accepted principle that Website presence is a significant contact with the forum. However that quality and quantity of contact is not viewed by most judicial interpretations to be sufficient alone to exert personal jurisdiction over a foreign defendant when the Internet is the only contact. (20) Again the analogous language is present of quality and quantity as used for purposes of international taxation and doing business, having a presence and nexus.
A second type of website, one deemed commercial in nature, is seemingly defined by the characteristics that it seeks to complete a volume of transactional business over the Internet. Its design is to accommodate a quantity of transactions. This would embrace website activity that is perceived as doing business over the Internet, such as making of contracts with residents of a foreign jurisdiction. This would be demonstrated when a party repeatedly is engaged in the transmission of computer files over the Internet. (21) The circuit courts of the United States have themselves applied altered application of this doctrine and other approaches.

The courts that have embraced the doctrine and regarded it as the seminal authority of personal jurisdiction founded upon the operational functions of the Website. In application the propriety of exercising jurisdiction is a function of determining where commercial interactivity comes within. The core of this reasoning is that personal jurisdiction is established where a commercial Website’s interactivity reflects a specific intention of interaction. (22)

Just as with nexus analysis and the Commerce Clause, the electronic commerce principles have evolved with jurisdictional contacts. In an effort to lean to the traditional analysis one circuit was specific in stating that the existence of a Website that is visible in a forum and that gives information about a company and its products is by itself, insufficient to subject a defendant to personal jurisdiction.

That circuit recognized that the maintenance of a Website could be construed in some sense as a continuous presence everywhere in the world, but that Internet contacts with the forum were not in anyway substantial. Therefore due process concerns precluded the exercise of general jurisdiction because contacts in the aggregate were not sufficient. (23) The judicial preoccupation with presence and substantial contacts or nexus as used in the Commerce Clause analysis is simultaneous and seemingly interchangeable though distinguishable.

A next step in this progressive development of the applicability of traditional principles of jurisdiction to concepts brought about by electronic commerce courted bringing a buyer and seller together by virtue of their commercial Website. Specific jurisdiction sought upon the defendant was questioned regarding the qualitative evaluation of defendant’s contact with a forum state. Lone transactions proctored through an intermediate Website did not satisfy what has been termed the something more concept. Terms of presence were stated to be used merely to symbolize the activities within the state that a court would deem sufficient to satisfy the demands of due process. (24)

It called for a focus upon the economic reality of activities rather than a mechanical checklist. There was the first finding of a presence without the ordained factors normally associated with this consideration. It was based upon the finding that the merchant targeted its electronic advertising at the state, maintained a highly interactive website from which a very large number of consumers regularly made purchases and interacted with the sales representatives. Though there was no presence, the continuous and systematic contacts transmuted the activities to a virtual store and that was its substitute for physical presence; virtual enterprise was presence. Business activities that reach out and beyond one state and create continuing relationships and obligations is the thrust of purposeful availment. (25)

The jurisprudence of logic was that “…(I)t is increasingly clear that modern businesses no longer require an actual physical presence in a state in order to engage in commercial activity there. With the advent of “e-commerce,” businesses may set up shop, so to speak, without ever actually setting foot in the state where they intend to sell their wares. Our conceptions of jurisdiction must be flexible enough to respond to the realities of the modern marketplace. “As technological progress … increase[s] the flow of commerce between States, the need for jurisdiction over nonresidents [undergoes] a similar increase…. In response to these changes, the requirements for personal jurisdiction over nonresidents [evolve].” Businesses who structure their activities to take full advantage of the opportunities that virtual commerce offers can reasonably anticipate that these same activities will potentially subject them to suit in the locales that they have targeted…” (26) Thus the term virtual commerce was formally coined.

In accordance with Circular 230 Disclosure

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Footnotes

1. See, TaxConnections, Due Process and Regulation of Commerce – Offshore Financial Centers, Cross Border Taxation, World Wide Tax Blog, June 3, 2014.
2. U.S. Department of Treas. , Blueprints for Basic Tax Reform 98 (Jan. 17, 1977).
3. Section 871 of IRC of 1986.
4. U.S. Model Tax Treaty.
5. Supra at note 1.
6. See, TaxConnections, The Commerce Clause – Due Process and Cross Border Taxation, World Wide Tax Blog, June 11, 2014.
7. The Linen Thread Co. v. Comr., 14 T.C. 725 (1950).
8. id. at 7.
9. Bruner v. Kansas Moline Plow Co., 168 F. 218 (8th Cir. 1909).
10. Piedras Negras Broadcasting Co. v. Comr., 43 B. T. A. 297 (1941), aff’d 127 F. 2d 260 (Cir. 1942)
11. Id. at 10.
12. Quill Corp. v. North Dakota, 504 U.S. 298 (1992).
13. Id. at 12.
14. Capital One Bank & Another v. Commissioner of Revenue, 453 Mass. 1 (Sup. Jud. Ct of Mass 2009).
15. Millennium Enterprises v. Millennium Music, LP, 33 F. Supp. 2d. 907 (U.S. District Court Oregon (1999).
16. Inset Systems, Inc. v. Instruction Set, Inc. 937 F. Supp. 161 (D. Conn. 1996). “… The essence of the minimum contacts test is “that there some act by which the defendant purposely avails itself of the privilege of conducting activities within the forum State, thus invoking the benefits and protections of its laws.”…”. “… This “due process inquiry rests upon the totality of the circumstances rather than any mechanical criteria.
17. Supra at note 14.
18. Zippo Manufacturing Co. v. Zippo Dot Com, Inc. 952 F. Supp. 1119 (U.S. District Court W. D. Pa. 1997).
19. Supra at note 15.
20. Arthur F. Sawtelle v. George E. Farrell, 70 F.3rd 1381 (1995).
21. Supra at note 7.
22. Cybersell, Inc. v. Cybersell, Inc. 130 F. 3d 414 (United States District Court 9th Cir. 1997),
23. Supra at note 16.
24. S. Morantz, Inc. v. Hang & Shine Ultrasonics, Inc., 537 (E.D. Pa. 1999). Chloe v. Queen Bee of Beverly Hills, LLC, 616 F.3rd 158 (2nd Cir. 2010), also see, Tamburo v. Dworki, 601 F.3rd 693 (7th Cir. 2010) which specifically declined to use the Zippo Doctrine in determining specific jurisdiction; and UBID, Inc. v. GoDaddy Group, Inc. 523 F.3rd 421 (7th Cir. 2010) with the court stating “… When a plaintiff alleges that some of the defendant’s contacts occurred through a website is relevant to, but not dispositive of, the sufficiency of those contacts. Using a separate test for Internet-based contacts would be inappropriate when the traditional analysis of the “nature, quality, and quantity of the contacts, as well as their relation to the forum state, remains up to this more modern task…”.
25. Gator.com Corp. v. LL Bean, Inc., 341 F.3d 1072 ( 9th Cir. 2003); Boschetto v. Hansing, 539 F.3d 1011 (9th Cir. 2008).
26. Id. note 25.