Stanley R. Kaminski
As everyone who practices state income tax law knows, there is a federal law called the Interstate Income Tax Act of 1959, also known as Public Law 86-272 ("PL 86-272"), which prohibits a state from imposing its income tax on numerous multi-state businesses.  This federal limitation on state income taxation only applies, however, if these six (6) requirements are met: (1) the state tax being applied is a net income tax, (2) the business being taxed is an out-of state business, (3) the only activity of the business in the state is the solicitation of orders, (4) all orders are accepted by the business outside of the state, (5) the product being sold is shipped from outside the state, and (6) the product being sold is tangible personal property. This article focuses on the tangible personal property aspect of PL 86-272 and whether the sale of digital goods by a business falls under its protection. The article lays out the context, development and importance of PL 86-272. It explains the concept of "digital goods," and an evaluation of the applicability of PL 86-272 to multistate sellers of digital goods. The article concludes with the various legal and logical reasons why PL 86-272 should apply to sellers of digital goods.
What Is PL 86-272?
In 1959, the United States Supreme Court in Northwest States Portland Cement Co., v. Minnesota, 358 U.S. 450 (1959), expanded the reach of states to impose their income taxes on multi-state businesses that solicited sales in such states. In response, the U.S. Congress decided to impose restrictions on such state taxing powers and passed PL 86272 later that same year. Congress originally designed this law as a stopgap measure to limit state taxing power on remote sellers until Congress could look at the issue more closely. As part of PL 86-272, Congress created the Special Subcommittee on State Taxation of lnterstate Commerce (commonly called the "Willis Commission" after the chair of the committee, Representative Edwin Willis (D-Louisiana)). The Willis Commission was tasked with reviewing the interstate taxation issue and reporting on its findings to Congress.
In 1965, the Willis Commission provided the last volume of its four-volume report ( the "Willis Report") to Congress. The Willis Report discusses PL 86-272 and various multi-state tax issues that were facing the country at the time. However, Congress made no changes to PL 86-272 after the Willis Report was issued and has not updated or modified the language of the prohibition contained in PL 86-272 in the more than fifty-nine (59) years since its passage. Moreover, PL 86-272 never defined the term "tangible personal property." So there is little to no guidance from Congress as to how PL 86-272 should be applied in the current digital-centric marketplace.
PL 86-272 is a short and sweet law that states in pertinent part:
No State, or political subdivision thereof, shall have power to impose, for any taxable year ending after September 14, 1959, a net income tax on the income derived within such State by any person from interstate commerce if the only business activities within such State by or on behalf of such person during such taxable year are either, or both, of the following:
(1) the solicitation of orders by such person, or his representative, in such State for sales of tangible personal property, which orders are sent outside the State for approval or rejection, and, if approved, are filled by shipment or delivery from a point outside the State; and
(2) the solicitation of orders by such person, or his representative, in such State in the name of or for the benefit of a prospective customer of such person, if orders by such customer to such person to enable such customer to fill orders resulting from such solicitation are orders described in paragraph (1).
Simply put, PL 86-272 bars a state from imposing a net income tax on a business located outside that state that sells tangible personal property located outside that state, for delivery to customers in that state, as long as the activities of the business in that state are limited to the solicitation of orders, and all orders are approved by the business outside of that state. As a result of the explosion of digital goods in the last few years—not an issue in 1959—this article explores the question of whether PL 86272 should apply to businesses that sell digital goods in today's e-commerce environment.
What Are Digital Goods?
"Digital goods" are generally referred to as "any goods that are sold, delivered and transferred in digital form." Unlike physical goods, sellers ship digital goods electronically to consumers through e-mail or by allowing the goods to be downloaded over the internet. Digital goods include "media files, including music files, video files containing movies or television programming, branded multimedia files and other similar types of products. "The Digital Goods and Services Fairness Act of 2015." introduced into Congress, similarly defines a digital good as "any software or other good that is delivered or transferred electronically, including sounds, images, data, facts, or combinations thereof, maintained in digital format, where such good is the true object of the transaction, rather than the activity or service performed to create such good, and includes, as an incidental component, charges for the delivery ortransfer of the digital good." States have also defined digital goods similarly. For example, the state of Washington defines digital goods as "sound, images, data, facts or information or any combination thereof, transferred electronically." Common types of digital goods are items such as e-books, downloaded movies or music, streaming media, electronic photos, mobile apps, prewritten software, e-games, etc.
While the understanding of "digital goods" appears relatively consistent, whether digital goods are or should be considered a type of tangible personal property for tax purposes is an open issue in many states. Yet, most states have talcen a stand on the treatment of prewritten computer software—a digital good—for state tax purposes. These states classify computer software as either tangible personal property or a service for sales tax and, in some cases, income tax purposes, depending on whether it is prewritten software or custom software. This state tax treatment of prewritten computer software as tangible personal property is consistent with how prewritten computer programs are treated under the United States Treasury Department Regulations, which likewise consider such prewritten programs as being tangible personal property, Treasury Regulation Section l.861-18(g)(2) makes it clear that the manner in which the computer program is transferred does not change the character of the transaction for federal income tax purposes. Therefore, the sale of a computer program using the worldwide web is considered by the Treasury Department as the sale of a "copyrighted article," rather than an intangible license. Following this federal treatment, some courts have held that the sale of downloaded prewritten software is the sale of tangible property for state income tax purposes. For instance, the Nebraska Supreme Court in American Business Info Inc v. EGR, ruled that the sale of business data products "electronically over telephone lines" was the sale of tangible personal property for Nebraska income tax purposes.
Looking from a strictly sales tax perspective, and to bring some uniformity among its member states, the Streamlined Sales Tax Project (the "SSTP"), has addressed the state sales taxation of certain types of digital products. The SSTP was formed to simplify the application of state sales taxes by way of the "Streamlined Sales and Use Tax Agreement" (the "Agreement"). The SSTP is made up of23 member states that are required to adopt the streamlined definitions to tax the digital products referenced in the Agreement. The Agreement defines "specified digital products"-a subset of digital goods-for sales and use tax purposes. Specified digital products under the Agreement covers a subcategory of digital goods, which encompass digital audio visual works, digital audio works, and digital books transferred electronically. These products include recorded or live, music, songs, reading of books or other written materials, speeches, ringtones or other sound recordings, digital books (but not periodicals, newspapers or magazines, or other news or information products), movies, motion pictures, music videos, news and entertainment programs, and live events. Under the Agreement, member states that impose their sales tax on specified digital products cannot do so by classifying such digital products as tangible personal property. Significantly, however, the Agreement does not address whether digital goods can or should be classified as either intangible or tangible personal property for income tax purposes.
Why Is PL 86-272 Important?
Without the limitations provided by PL 86-272 on state income taxation, multistate sellers of goods would likely be taxed by virtually every state in which they solicit business and send goods to customers. The reason for this is that the presence of representatives or independent contractors soliciting in a state is more than enough presence to create income tax nexus with a state under the Federal Due Process and Commerce Clauses. Moreover, the advent of the widespread use by states of economic nexus and factor presence nexus means most multi-state sellers of goods, which may not currently be subject to the various state and local income taxes in the country, would be subject to such income taxes if not for the protection of PL 86-272.
Neither economic nexus nor factor presence nexus require any physical presence in a state for a state to impose its income tax jurisdiction over a seller. Therefore, without the protections of PL 86-272, a state that uses economic nexus could require a remote seller to pay that state's income tax even if that seller had no physical presence in that state, Economic nexus generally occurs when a remote business has "purposefully avail[ed] itself of the benefits of an economic market" in a state. Economic nexus may be created by a multi-state seller in a number of ways, such as simply directing its advertising or other solicitation at customers in a state, and then generating substantial sales or revenues based on that solicitation, or even by the purposeful use of trademarks in a state that generates income from such state. The issue in most economic nexus states comes down to how much state directed activity and/or how many transactions or related revenue is needed to create nexus.
Similarly, factor presence nexus has been adopted by a few states, such as New York, California and Tennessee. Under factor presence nexus, income tax nexus is created if a multi-state seller has sufficient sales, property, or payroll in a state. The laws of each state set the amounts of sales,property, or payroll necessary for nexus, which have thus far generally complied with the Multistate Tax Commission's nexus thresholds of: (1) $50,000 in property or payroll; (2) $500,000 in sales; or (3) 25% of the business's total property, payroll, or sales in the state.
As the above demonstrates, PL 86-272 provides the only protection many multi-state sellers of goods have from being inundated with the crush of the various state and local income taxes that would otherwise be imposed throughout the country. Thus, the importance of PL 86-272 to multi-state sellers of goods cannot be understated and determining the extent of the application of PL 86-272 to digital goods is critical to understanding the income tax exposure of such multi-state sellers.
Does PL86-272 Apply to Digital Property?
Two observations must first be made before analyzing the application of PL86-272 to digital goods. First, PL 86-272 does not apply to sale of services, so transportation and communication companies, as well as insurance companies and financial institutions, cannot claim the protection of PL 86-272 under its clear language. But then again, at that time in history, sellers of goods were "clearly the major source of revenue" for state net income taxes. In addition, these sellers of services may have been excluded from the protection of PL 86-272 since they were generally subject to special taxes or special apportionment rules that impacted them quite differently from sellers of goods when it came to state income taxes, As a result, Congress apparently decided that it was only crucial to design PL 86-272 to protect multi-state sellers of goods from the confusion and economic burden of trying to comply with various non-uniform state income tax laws around the country.
Second, in 1959, the delivery of goods digitally did not exist, so sellers of such products would not have been referenced in the debates on PL 86-272 or in the Willis Report. Yet, today, sales of digital music and books are as ubiquitous as the sale of hard copies of such items were 60 years ago. Therefore, the goal of PL 86-272, namely, to protect multi-state sellers of goods, would logically apply equally to sellers of digital goods in today's digital age.
With the above in mind, a review of the various state positions on the taxation of digital goods indicates that some states already apply the protection of PL 86-2 72 to multi-state sellers of digital goods. And, as previously noted, other states classify digital property as tangible personal property so as to tax such property under their sales taxes or source such property and/or their sales to the state for income tax purposes. These states should logically then apply PL 86-272 to the sales of digital goods. Finally, some states have taken the position that sales of digital goods are sales of intangibles that are not protected by PL 86-272. Consequently, these varying positions have resulted in the state income tax landscape becoming a maze of uncertainty when it comes to PL 86-272 and digital goods.
Notwithstanding the conflicting state positions, the fundamental question is whether PL 86-272 should apply to the sale of digital goods, which leads to the secondary question of whether multi-state sellers should challenge any state that says otherwise. As to the primary issue, both the goal behind PL 86-272 and federal income tax treatment of digital goods as tangible personal property would surely support the protection of sellers of digital goods under PL 86-272.
Looking at the underlying purpose of PL 86-272, the Willis Report provides some insight. The Willis Report states PL 86-272 "was enacted in 1959 to protect from state tax liability, a business that does no more than solicit orders within the taxing state." Moreover, the Willis Report repeatedly noted the "uncertainty" in income taxation that PL 86-272 was designed to address for these multi-state businesses. There is no doubt that sellers of digital goods today face this same uncertainty in state taxation.
Likewise, the Senate Report on Senate Bill 2524, which became PL 86-272, explained that the reason behind the law was to reduce "uncertainty" and to promote greater "uniformity" in state taxation. The Senate Report expressly mentioned the burdens placed on businesses that had to comply with the wide array of non-uniform state income tax laws around the county as one major reason behind PL 86-272.
In addition, in Wisconsin DOR v. Wrigley, the U.S. Supreme Court rejected an overly narrow interpretation of PL 86-272 when it came to the term "solicitation." In doing so, the U.S. Supreme Court interpreted PL 86-272 consistently with its purpose and goal of creating some "certainty" in state taxation. As with the term "solicitation," businesses today face this same uncertainty in the interpretation of the term "tangible personal property" with respect to digital goods.
Moreover, allowing each state to classify digital goods as either tangible or intangible property for PL 86-272 purposes, rather than following the federal income tax lead of treating such goods as tangible property exacerbates this "uncertainty." Consequently, it is reasonable to conclude that to be consistent with PL 86-272's goal to protect sellers of goods, to create some certainty and consistency in the application of PL 86-272 across the states, and to be consistent with the federal income tax treatment of digital goods, PL 86-272 should rationally be interpreted to apply to multi-state sellers of digital goods.
Another factor to consider is that if PL 86-272 only applies to multi-state sellers of hard goods but not multi-state sellers of digital goods, sellers of digital goods will be at a substantial disadvantage compared to their hard goods competitors. This will also result in the odd situation of a state being able to tax a multi-state seller who sells downloaded digital goods over the internet (such as music, videos, books, etc.) but not a multi-state seller of hard copies of such goods for delivery through the mail, by common carrier, or through the sellers' trucks. An unusual and illogical outcome, indeed, and a sound policy reason for applying PL 86-272 to sales of digital goods. Moreover, it could also be argued that for a state to interpret PL 86-272 in a fashion so as to apply its income tax to sellers of digital goods, but not hard goods, it would discriminate against electronic commerce in violation of the Internet Tax Freedom Act.
Another way of analyzing whether PL 86-272 should apply to digital goods sales is from a purely common sense standpoint. If a multi-state seller of music CDs starts selling the same music by download, the nature of the sale does not change, only the medium of transfer. To interpret PL 86-2 72 as applying one day to the seller but not the next because music is now downloaded would appear illogical, since the same seller is selling the same basic product. Moreover, while some state sales tax laws may classify a digital download as a sale of an intangible, this should not prevent PL 86-272's application to multi-state seller of such digital goods to protect it from the imposition of multiple non-uniform state income taxes, for the same reason it protected such seller prior to selling the digital downloads. Thus, common sense suggests that consistency in the application of PL 86-272 should be sought.
Allowing each state to interpret PL 86-272 in a way that discriminates among interstate businesses is also inconsistent with the goal of the United States Commerce Clause. In the recent case of South Dakota v. Wayfair, Inc., the U.S. Supreme Court was concerned about "economic discrimination'' in the application of Commerce Clause nexus for sales/use taxes in the "modern e-commerce" economy. The U.S. Supreme Court in Wayfair, Inc, stated that "it is essential to public confidence in the tax system that the court avoid creating inequitable exceptions." Instead, the Court emphasized that the "basic principles of the Court's Commerce Clause jurisprudence are grounded in functional, marketplace dynamics." Thus, even the Commerce Clause would cry out for equal treatment between sales of the same goods whether delivered digitally or otherwise when applying PL 86-272's nexus requirements on a national basis.
So what should a seller of digital goods do? First, a review of the state's income tax laws and rules must be undertaken to determine if that state already applies PL 86-272 to the sale of digital products. Unfortunately, the answer may not be that obvious. In Virginia, for instance, the Virginia Department of Revenue does not discuss digital property with regard to PL 86-272 but it does say in a 2016 ruling that PL 86-272 applies to the sale of both tangible and intangible items. Thus, it follows that digital property would naturally be covered in Virginia. Likewise, other states classify digital goods as tangible personal property for sales tax or factor apportionment purposes, which should include such digital products under PL 86-272 protection. Nevertheless, an opinion letter to such states may be required to clarify the treatment.
Lastly, in states that classify digital goods as intangibles for sales tax purposes and suggest or indicate that such goods are not protected by PL 86-272, sellers of digital goods should argue that this treatment for income tax purposes is not justified. As noted earlier, such a position would conflict with the federal tax treatment of digital goods as tangible personal property (Treasury Regs§ 1.861-18), and discriminate among similarly situated sellers of goods. It also undermines national consistency and the underlying purpose behind PL 86-272 of eliminating uncertainty in state income taxation and promoting more "uniformity" in state taxation for multi-state sellers of goods. Therefore, for these states, taxpayers will have to choose to pay the tax or to challenge the states' authority to impose their income tax as violating PL 86-272.
PL 86-272 was a milestone in Congress's protection of interstate businesses. In the law, Congress flexed its muscles to reduce the economic burdens, confusion and complexity of businesses operating in interstate commerce. Congress, the states, and businesses have relied upon PL 86- 272 for some stability in the state income tax area for almost sixty (60) years. To eliminate uncertainty in the marketplace, avoid economic discrimination among sellers of substantially similar goods, provide national consistency in the enforcement of federal law, promote the goals of PL 86-272, as well as to be consistent with the federal income tax treatment of digital goods as tangible property, the protection of sellers of digital goods under PL 86-272 would appear not only appropriate but is the only sensible interpretation of PL 86-272 in today's modern digital society.
 Special Subcomm, on State Taxation Of Interstate Commerce of the House Comm. on the Judiciary, State Taxation Of Interstate Commerce, H.R. REP. NOS. 89-952, Vol. 4 (1965), 89-565, Vol. 3 (1965), 88-1480, Vols. 1 and 2 (1964) [hereinafter "Willis Report"].
 Although not the focus of this article, PL 86-272 also contains provisions dealing with independent contractors and the exclusion of certain individuals and domestic corporations from the law. Additionally, a multitude of cases on what constitutes solicitation exist that affect the applicability of PL 86-2 72.
 Digital Goods, TECHNOPEDIA, https://www.techopedia.com/definition/1467/digital-goods (last visited Sep. 7, 2018).
 Digital Goods, WIKIPEDIA, http://em.wikipedia.org/wiki/digital_goods (last visited Sep. 7, 2018).
 See, e.g., NYTB-ST-128 (8/5/2014)(prewritten software is tangible personal property under sales tax); Louisiana's Tax Regs., LAC 61:I.4301 (Tangible personal property includes "digital or electronic products");Illinois DOR IT 08-0031-GIL (10/08/2008) (Canned software is tangible personal property for PL 86-272 purposes); but see Illinois DOR Sales Tax Regulation § B0.210S (unlike downloaded canned software, downloaded information or data such as downloaded books, music or magazines are not sales of tangible personal property).
 See, Norwest Corp. v. Commissioner, 108 TC 358 (1997) (A perpetual license of prewritten software was the sale of tangible personal property for Investment Tax credit purposes.); see also Accuzip, Inc. v. Director Division of Taxation, No. 004692-2002 (N.J. Tax Ct. 2009) (Tax court followed Regulation Section 1.861-18 and held that the sale of prewritten software is the sale of tangible personal property in New Jersey for income tax purposes in applying PL 86-272).
 American Business Information, Inc. v. EGR, 650 N.W. 2d 251 (Neb. 2002) (Following federal case law, the Supreme Court of Nebraska held that the sale of "business data products" by download was the sale of "tangible personal property for Nebraska income tax purposes").
 See Streamlined Sales Tax Governing Board, Inc.,"About Us," https://www.streamlinedsalestax.org/index.php?page=About-Us (last visited Sep. 7, 2018).
 "Streamlined Sales and Use Tax Agreement," http://www.streamlinedsalestax.org/index.php?page=modules (last visited Sep. 7, 2018).
 Rule 332.2 of the Streamlined Sales Tax Governing Board, Inc.'s Rules and Procedures, http://www.streamlinedsalestax.org/index.php?page=governingboard-rules (last visited Sep. 7, 2018).
 See Smith, Scott D.; Faciana, Todd, Questions for the Economic Factor-Presence Nexus Statutes in a Post-'Quill' World, https://www.bna.com/questionseconomic-factorpresence-n57982085176/ (last visited Sep. 7, 2018).
 See S. Dakota v. Wayfair, Inc., 138 S. Ct. 2080, 2096 (2018) ("nothing unfair" about requiring entity soliciting customers in state to share tax burden); Geoffrey, Inc. v. South Carolina Tax Comm., 437 S.E.2d 13 (1993) (licensing intangible for use in South Carolina and deriving income from their use creates "substantial nexus").
 See Multistate Tax Commission, Factor Presence Nexus Standard for Business Activity Taxes 1 (2003), http://www.mtc.gov/uploadedFiles/Multistate_Tax_Commission/Uniformity/Uniformity_Projects/A_-_Z/FactorPresenceNexusStandardBusinessActTaxes.pdf.
 See, e.g., Colo Dept of Rev., GIL-11-014 (7/29/2011); AZ Dept of Rev., CCH Survey, May 25. 2000; AZ "Taxability of Digital Goods, Software and other electronic items in Arizona" by Grant Nulle, Deputy Dir, AZ DOR. Graham Packaging Co. v. Commonwealth Of Pennsylvania, 882 A.2d 1076 (2005) (software delivered electronically was tangible personal property); South Central Utah Telephone Ass'n v. Auditing Division of Utah State Tax Comm'n, 951 P.2d 218 (Utah 1997) (software delivered electronically is tangible personal property); South Central Bell Telephone Co. v. Barthelemy, 643 So. 2d 1240 (La. 1994) (same); American Business Information, Inc. v. EGR, 650 N.W. 2d 251 (Neb. 2002) (following federal case law, the Supreme Court of Nebraska held that the sale of "business data products" by download was the sale of "tangible personal property for Nebraska income tax purposes.').
 The Internet Tax Freedom Act ("Act") prohibits discriminatory taxes on electronic commerce. Section 151 of Act (47 U.S.C.A. §151, note). Section 155 defines a discriminatory tax as "A) any tax imposed by a State or political subdivision thereof on electroniccommerce that--(i) is not generally imposed and legally collectible by such State or such political subdivision on transactions involving similar property, goods, services, or information accomplished through other means; ....... or (iii) imposes an obligation to collect or pay the tax on a different person or entity than in the case of transactions involving similar property, goods, services, or information accomplished through other means ... "