The Illinois Department of Revenue recently adopted regulations that clarify when a seller must collect sales tax on shipping and delivery charges. The new regulations are effective as of April 1, 2016. While largely consistent with proposed regulations published in August 2015, they contain important revisions, including elimination of a retroactivity provision that would have reached back nearly seven years.
Under the prior regulations, transportation and delivery charges were not subject to Illinois sales tax so long as they were separately stated on an invoice or purchase order. However, in Kean v. Wal-Mart Stores, Inc., 235 Ill. 2d 351 (2009), the Illinois Supreme Court held that shipping and delivery charges were subject to sales tax when such charges either were not separately stated on a purchase order or, even if separately stated, the buyer did not have the option to receive the property without payment of the delivery charge. For example, if a buyer purchasing goods through a website for $50 could not complete the order without paying a $5 shipping fee, under Kean the fee was treated as a part of the purchase price and was subject to sales tax—even if separately stated on the invoice or receipt. Thus, the buyer was subject to sales tax on a purchase price of $55 rather than $50.
The court’s holding in Kean conflicted with the existing regulations, creating confusion among Illinois businesses and businesses shipping goods to consumers in the state. The proposed amendments published in August 2015 sought to bring the regulations in line with Kean. The amendments provided that even separately stated transportation and delivery charges would be subject to Illinois sales tax unless the seller provided the buyer an option to pick up the property for no additional charge. This pickup option relieved businesses from the obligation to collect sales tax on delivery charges, even if the pickup would be impractical for the consumer.
Although the final regulations, as adopted, are similar to the proposed regulations, the final regulations changed or clarified some important issues:
- Most importantly, the final regulations add a safe harbor for taxpayers who complied with the existing regulations through April 1, 2016, the effective date of the new regulations. The original proposed amendments applied retroactively as of November 19, 2009, the date of the Kean decision.
- The final regulations clarify that delivery charges are exempt from sales tax when the seller offers free delivery—even if the customer chooses a more expensive delivery method. Thus, if a customer could have selected free delivery for a particular purchase but chooses to pay extra for expedited delivery, the expedited delivery charge is not subject to sales tax. However, a delivery charge is not exempt from sales tax merely because the customer could have qualified for free delivery by spending more money.
- When delivery charges are itemized, their taxability is determined according to the standards discussed above. But if an invoice contains a lump sum delivery charge, the entire delivery charge will be nontaxable if the sale price of the items for which delivery is nontaxable is greater than the sale price of the items for which delivery is taxable. For example, assume a customer purchases a computer monitor for $60, a keyboard for $40 and a computer mouse for $30. The seller requires the customer to pay $10 to have the monitor delivered but offers a free pickup option for the keyboard and mouse. The customer chooses to have all of the items delivered, and the seller’s invoice includes a $15 lump sum delivery charge. Since the sale price of the items for which delivery is nontaxable ($70 for the keyboard and mouse) is greater than the sale price of the items for which delivery is taxable ($60 for the monitor), the entire delivery charge is exempt from sales tax.
- The revised amendments also include a new method for determining the tax rate on delivery charges when the underlying transaction involves items taxed at varying rates. When delivery charges are itemized, the seller may separately calculate the tax rate for each delivery charge. For example, assume a customer orders medical equipment for $50 and a book for $18. The medical equipment is taxed at a rate of 2.25% and the book is taxed at a rate of 10%. The buyer cannot complete the transaction without paying a delivery charge of $10 for the medical equipment and $2 for the book. The seller separately lists each delivery charge on the purchase order. Since the delivery charges are itemized, the 2.25% rate applies to $60, for the medical equipment and its delivery charge. The 10% rate applies to $20, for the book and its delivery charge.
More than six years after Kean was decided, the new regulations finally give retailers greater certainty regarding when they must collect sales tax on shipping and delivery charges billed to Illinois consumers. To discuss whether your company’s practices comply with the current law in Illinois regarding Retailers’ Occupation Tax and compensating use tax, please contact Robert R. Pluth, Jr. or Ivan H. Golden in Schiff Hardin’s Tax Group.