Catalogers’ Legal Challenges ’07 (and Beyond)

Beginning with our January 2008 issue, veteran direct marketing tax attorney George Isaacson will join our distinguished panel of columnists with a periodic column devoted primarily to tax issues affecting catalogers and multichannel marketers. To lay the groundwork for his column, in this issue he offers an overview of key legal issues affecting catalogers and other direct marketers. His columns next year will delve more deeply into the specific issues.
Sales & Use Tax (Nexus)
State revenue departments have stepped up their efforts to require catalog companies and Internet merchants to collect state sales and use taxes. To impose such collection obligations, state tax auditors must be able to prove that a retailer has some form of physical presence in the taxing state — what lawyers refer to as “nexus.”

Increasingly, states are relying upon so-called “agency nexus” theories, claiming that presale promotional programs and after-sale customer services performed by a third party (such as in-state distribution of advertising materials, acceptance of customer returns and performing on-site repairs) are a sufficient connection with the out-of-state seller to establish nexus.

States also are pursuing “clicks and mortar” retailers. These are companies whose common parent corporations have both a retail store subsidiary, which collects sales tax in all states where it has stores, and a catalog/direct marketing subsidiary, which collects sales tax only in its headquarters state.

Auditors have attacked these multicorporation structures, arguing the commonly owned companies are so financially and operationally integrated that the nexus created by the retail stores should apply to the direct marketing entity as well.

Finally, keep an eye on Congress. There’s proposed legislation that would require most direct marketers to collect state taxes.
Escheat (Abandoned Property)
The word “escheat” may sound like a new brand of perfume, but it’s actually a long since established legal doctrine entitling states to take over property that has been abandoned by its owner. All states have laws requiring holders of unclaimed property to report and pay over money that has remained unclaimed for a specific number of years (usually three to five years, depending on the state and the type of property).

Most catalog/direct marketers hold unclaimed property in the form of unredeemed gift certificates or gift cards; customer overpayments; and un-cashed refund, payroll and vendor accounts-payable checks. Many catalogers aren’t compliant with state escheat laws, which generally require that unclaimed property must be paid over to the state of the owner’s last-known address as shown on the holder’s books and records. And if there’s no record of the owner’s last-known address, then the property must be paid to the holder’s state of incorporation.

States are becoming increasingly aggressive, often hiring private contractors, sometimes referred to as “bounty hunters,” who conduct an audit of a single company on behalf of several states simultaneously. A marketer could find itself on the receiving end of an unclaimed property assessment going back decades, along with accrued interest and penalties for having failed to report and turn over property to the states on a timely basis.

In order to limit their exposure, catalogers/multichannel marketers that haven’t been targeted for audit should consider entering into voluntary disclosure agreements (VDAs). Where available, VDAs usually permit companies to avoid interest and penalties and to limit the number of years they must “look back” in reporting unclaimed property. Generally, however, in order to qualify for a VDA, a company must approach the state before it receives a notice of audit.

S&H Class Action Lawsuits
Here’s one that caught a number of direct marketers by surprise: class action lawsuits regarding shipping and handling (S&H) charges, in which the plaintiffs claim that customers are charged excessive and deceptive fees.

These lawsuits maintain that (1) S&H fees are implicitly represented to the public as simply a direct pass-through of the actual costs of delivering products, and (2) consumers aren’t informed that these surcharges include a hidden profit component.

In addition to the economic ramifications (some companies have agreed to multimillion-dollar settlements), being named as a defendant in a highly publicized, consumer-fraud class action can have a serious, adverse impact on a company’s brand reputation and customer relations.

Cost-justification for delivery charges, based on a documented cost study, is an excellent defense to allegations of a “secret profit center.” In addition, improved disclosure practices are a direct marketer’s best protection against these kinds of class action lawsuits.
Privacy and Security
Because of fragmentary federal regulations and inconsistent state laws, compliance in the area of privacy and security can seem overwhelming to direct marketers. Security violations often are splashed across newspapers, and the impact on customer loyalty can be quick and severe.

Greater uniformity in this area of law is slowly evolving, however. For example, California privacy laws provide a relatively straightforward set of rules regarding the content of privacy policies and the use of opt-out provisions. If a direct marketer follows these standards, it will be well on its way to compliance with most other state privacy laws.

In addition, the federal CAN-SPAM legislation provides uniform standards governing e-mail promotion. This law governs the following:

* It bans false or misleading e-mail header information (“from” and “to” entries);

* Prohibits deceptive subject lines;

* Requires that recipients of commercial e-mail messages have an opt-out method; and

* Mandates that commercial e-mails be identified as advertisements.

It’s of critical importance that every direct marketer develops a set of CAN-SPAM compliance procedures.

George S. Isaacson is a senior partner with the Lewiston, Maine-based law firm Brann & Isaacson. He represents direct marketers and online merchants nationwide on tax matters, and is tax counsel to the Direct Marketing Association. You can reach him at gisaacson@brannlaw.com.

George Isaacson explores three other key legal matters in the Web exclusive, “On Cybersquatting, Product Safety and Trademark Protection.” Click on the sidebar under Related Content.