United States

What’s the deal with sales and use tax on remote purchases?

Five primary approaches, one big discussion for remote sellers


The imposition of sales and use taxes on remote purchases is one of the most controversial issues in state taxation today, driving substantial federal and state legislation, regulatory action and litigation. From the strong showing of the Marketplace Fairness Act (MFA) of 2013 at the federal level to aggressive expansion of traditional nexus principles, implementation of comprehensive information disclosure requirements, and creation of stiff criminal penalties at the state level, legislatures and regulatory agencies launched an unprecedented assault on interstate commerce protections, consumer privacy and traditional notions of fair play. These approaches are already having a significant impact on sellers and consumers across a broad spectrum of industries. For all of this activity, however, the issue is remarkably simple.

In 1992, the U.S. Supreme Court ruled in Quill Corporation v. North Dakota that, under the Commerce Clause of the U.S. Constitution, an out-of-state seller cannot be required to collect and remit sales tax on remote sales made to an in-­state purchaser unless the seller has established a physical presence in the purchaser’s state.  In coming to this conclusion, the U.S. Supreme Court noted that Congress was better able to resolve this issue and had the power to legislatively overrule this decision in relation to the U.S. Commerce Clause.  However, to date, Congress has not shown the political will to successfully take up this option, and remote sellers, and in particular internet sellers, have by and large sold taxable goods and services to in-state purchasers without collecting and remitting sales tax.

Sales tax free, though, does not mean tax free. Where an in-state purchaser buys taxable goods or services from a remote seller without paying sales tax, the purchaser is required to remit use tax on the taxable goods or services in question in order to put the purchaser on equal footing with other in-state purchasers that made like purchases from vendors with nexus in the state. This complementary use tax is generally charged at the same rate on the same goods and services and, in theory, renders infirm the notion that an in-state purchaser can save money on transaction taxes by purchasing from remote sellers.

Theory in this instance does not match reality, however, and therein lies the problem. At the individual consumer level in particular, the remittance of use tax due on purchases on which sales tax has not been paid is the rare exception and not the norm. And, nowhere is this pervasive culture of noncompliance seen more than in e-commerce, which is the primary contributor to annual lost state tax revenue estimated to range between $2 billion and $22 billion per year.

To close this compliance gap, states have turned to ever-more-draconian measures. Over the course of the last few years, these measures have coalesced into five distinct approaches:

  • First, states have come out in strong support of national legislation at the federal level, such as the MFA of 2013, which would operate to overrule the physical presence nexus standard established by the U.S. Supreme Court in Quill and require remote sellers to collect and remit sales tax
  • Second, states have pushed at the boundaries of the physical presence standard by implementing click-through nexus rules, under which states assert that a remote seller has established a physical presence in the state if the remote seller enters into a commission agreement with an in-state resident for referring customers to the seller’s website
  • Third, states are closely observing the impact of Colorado’s comprehensive disclosure rules, under which remote sellers must either voluntarily collect and remit sales tax on sales to Colorado residents or file an invasive report with the Colorado Department of Revenue disclosing detailed information regarding all sales made to in-state purchasers
  • Fourth, states are enacting statutes and promulgating regulations that mandate collection of sales taxes by remote sellers under a theory of “economic nexus,” directly contradicting Quill’s physical presence requirement
  • Lastly, states are enacting laws and implementing reporting requirements designed to encourage greater use tax compliance

Considered separately, each of the above has the potential to affect the business operations of remote sellers in specific locations or nationwide. Considered jointly, with the realization that all five approaches may ultimately exist in concert, the potential impact becomes even more significant.

The MFA of 2013 and its progeny

On May 6, 2013, the U.S. Senate voted 69 to 27 in favor of the MFA of 2013, a bill that would grant qualifying states the authority to compel remote sellers with more than $1 million in annual remote sales within the United States to collect and remit sales tax on sales of taxable goods and services delivered to in-state purchasers. This collection and remittance responsibility would apply regardless of whether the seller has established a physical presence in the state to which the goods and services are delivered. Accordingly, the passage of the MFA of 2013 would have effectively signaled the death of the physical presence nexus standard established in Quill.

The MFA of 2013 was hotly debated, with various supporters and opponents making strong arguments on both sides of the equation. Supporters, including some of the largest retailers in the United States, have argued that (1) systemic failures in the use tax system have caused consumers to view the lack of sales tax collection by remote sellers as a sales price differential in relation to like goods sold by in-state sellers, and (2) this perceived price difference has negatively affected the competitiveness of in-state businesses to the detriment of local economies. Opponents of the MFA of 2013 noted that (1) the bill did not address or promote uniformity between the states on what transactions are taxable, and (2) the relative cost of compliance for small and medium remote sellers, which are likely to have customers in many if not all the states, was inordinately large.

The MFA of 2013 was the subject of much political posturing and debate, but ultimately never made it out of the House Judiciary Committee before the end of the congressional session.  Since then, the MFA of 2013 was reintroduced as the MFA of 2015, along with a number of competing bills aiming to address remote sales tax collection.

Jan. 3, 2017, marked the first day of the 115th Congress. Legislation previously introduced in the 2015 or 2016 calendar years, including all of the proposed remote seller solutions, must be reintroduced to be considered for passage by Congress. In 2017, several bills addressing remote sales were proposed, including the Marketplace Fairness Act of 2017 and the Remote Transactions Parity Act of 2017.  Another bill, the No Regulation Without Representation Act of 2017, was re-introduced in June and would essentially codify the physical presence standard established through Quill as federal law. Through the beginning of 2018, none of the remote seller bills have made any significant headway in Congress.

Click-through nexus laws

In 2008, New York became the first state to enact “click-through” nexus provisions targeting internet remote sellers by creating a presumption that a remote seller with at least $10,000 in sales to New York customers has established physical presence in New York and is required to collect and remit sales tax on its taxable sales to New York customers if the seller enters into a commission agreement with a New York resident for referring customers to the seller via a link on the New York resident’s website. Overstock and Amazon challenged the statute on the grounds that it violated the Commerce Clause and the Due Process Clause of the U.S. Constitution, but these contentions were rejected by the New York Court of Appeals in March 2013.  In December 2013, the U.S. Supreme Court denied Overstock and Amazon’s petition for certiorari, making final the New York Court of Appeals decision upholding the state’s click-through nexus statute under the Commerce Clause and Due Process Clause of the U.S. Constitution.

In 2011, Illinois enacted its own click-through nexus statute modeled after the New York law. This statute was challenged by the Performance Marketing Association (PMA), an industry association comprising more than 200,000 businesses and individuals engaged in online marketing and advertising programs in which advertising affiliates post customer ads on their websites and are paid by the customer on a performance basis (e.g., number of clicks). In October 2013, the Illinois Supreme Court found that the state’s click-through nexus law was preempted pursuant to the Supremacy Clause of the U.S. Constitution by the federal moratorium on discriminatory taxes on electronic commerce under the Internet Tax Freedom Act (ITFA). PMA did not petition the U.S. Supreme Court for review of the Illinois Supreme Court’s decision. The Illinois legislature subsequently redrafted the click-through statute intending to cure the discrimination found in the original law. There have been no challenges to the revised law in the Illinois courts.

The outcome of these cases leaves a great deal of uncertainty. The U.S. Supreme Court’s denial of Overstock and Amazon’s petition for certiorari is not a decision on the merits, and, therefore, the constitutional analysis undertaken by the New York Court of Appeals is only binding in New York. The Illinois case, on the other hand, failed to address the U.S. Commerce Clause arguments of the PMA, instead deciding the case on federal law grounds. No state court has ruled a click-through nexus law unconstitutional based on the U.S. Commerce Clause and the U.S. Supreme Court has yet to hear a challenge to any click-through law. Since the PMA decision, at least nine states have enacted click-through nexus legislation, including Illinois’ revised law, and no click-through law has made it back in front of a state’s highest court.

The wave of states enacting click-through nexus provisions has turned into an ebbing tide. Only one state enacted a click-through provision in 2016 and none in 2017. As states take other approaches to nexus expansion, click-through nexus may be a trend of the past, but with about twenty states enforcing the provisions, click-through nexus continues to be a mechanism for states to capture remote seller activity.  

Comprehensive disclosure

In March 2010, Colorado enacted comprehensive use tax reporting requirements, mandating retailers that do not collect Colorado sales tax and whose Colorado gross sales exceed $100,000 to either:

  • Collect and remit sales tax voluntarily, or
  • Provide transactional notices to Colorado purchasers informing them of their duty to pay use tax, send annual purchase summaries to Colorado customers and annually report Colorado purchase information to the Colorado Department of Revenue

The statute was immediately challenged by the Direct Marketing Association (DMA), which obtained an injunction from the U.S. District Court for the District of Colorado barring the enforcement of the statute. However, the U.S. Court of Appeals for the Tenth Circuit found that the U.S. District Court was precluded from hearing the claim under the Tax Injunction Act and ordered the U.S. District Court to dissolve the injunction on remand. On Dec. 10, 2013, the U.S. District Court carried out the orders on remand of the U.S. Court of Appeals and dissolved the injunction barring the enforcement of the reporting requirements. The DMA immediately filed a motion for a preliminary injunction against the law in Colorado State District Court in Denver, and on Feb. 18, 2014, Judge Morris Hoffman entered an order granting this motion. Additionally, the DMA filed a motion for certiorari with the U.S. Supreme Court challenging the Tenth Circuit’s holding under the Tax Injunction Act, which was granted on July 1, 2014.

On March 3, 2015, the U.S. Supreme Court unanimously held that the Tax Injunction Act did not bar the Tenth Circuit Court of Appeals jurisdiction from hearing the case because Colorado’s notice and reporting statute merely required informational reporting and did not impose tax. Pursuant to that order, the Tenth Circuit heard the Commerce Clause and comity issues reviewed by the Federal District Court and, on Feb. 22, 2016, reversed the Federal District Court’s grant of summary judgment in favor of DMA. As a threshold matter, the Tenth Circuit found that the physical presence standard did not apply to Colorado’s notice and reporting requirements because the physical presence standard applied only to the requirement to collect and remit sales tax. The Tenth Circuit then held that Colorado’s notice and reporting requirements did not violate the Commerce Clause of the U.S. Constitution because the reporting requirements did not discriminate against or unduly burden interstate commerce. Whether DMA again sought U.S. Supreme Court review of the Tenth Circuit’s decision, but was ultimately denied a review of the Tenth Circuit’s decision. 

As a result of the Tenth Circuit’s decision, the Data and Marketing Association, formerly the Direct Marketing Association, entered into a settlement agreement with the state of Colorado. Pursuant to that settlement agreement, DMA withdrew all of its claims against the notice and reporting law. Accordingly, without further challenge, the Colorado use tax reporting and notification law will go into effect on July 1, 2017. Additionally, the Colorado Department of Revenue has indicated it will not assess penalties or interest against remote sellers that fail to comply with the law before July 1, 2017.

With the uncertainty surrounding Colorado’s comprehensive disclosure effectively resolved, other states that may have taken a “wait and see” approach to disclosure laws will likely begin to more seriously consider similar provisions of their own.

During the pendency of the DMA litigation, others states enacted their own use tax notification and reporting requirements. For example, Oklahoma requires notification of use tax by remote sellers annually making more than $100,000 of sales into the state. South Dakota requires remote vendors with annual gross sales in the state of $100,000 or more to inform customers that use tax is due on non-exempt taxable purchases of tangible personal property, services and electronically transmitted products for use in South Dakota. Vermont also enacted notification requirements that become effective at the earlier of July 1, 2017, or when the challenged reporting requirements are implemented in Colorado. Additionally, a number of states addressed use tax notification and reporting in 2017 and many other states had pending proposals. The use tax reporting trend is expected to continue into 2018.

State sales tax economic nexus laws

In his concurrence to the U.S. Supreme Court’s 2015 opinion in Direct Mktg. Ass’n v. Brohl, Justice Anthony Kennedy looked beyond the question of the appropriate application of the Tax Injunction Act, and considered the ultimate problem addressed by Colo. Rev. Stat. section 39-21-112: remote sellers cannot be required to collect and remit sales tax on sales to in-state purchasers and those in-state purchasers overwhelmingly fail to meet their use tax remittance responsibilities, thus resulting in an unjust loss of state tax revenues. Justice Kennedy concluded that the combination of this tax loss and far-reaching systemic and structural changes in the economic and social activities wrought by the expanding use of the internet were indicative of a need for the court to revisit the Quill physical presence, and called for the states to provide the Court with a case suitable to address whether the rationale in Quill is still viable in the modern world.  The states quickly moved in response.

In October of 2015, the Alabama Department of Revenue adopted a regulation establishing sales tax nexus for remote retailers if the retailer made over $250,000 of sales of tangible personal property to Alabama customers and conducted one of a number of activities in the state. Per the regulation, an out-of-state retailer that lacks an Alabama physical presence but meets the requisite sales threshold has “a substantial economic presence in Alabama for sales and use tax purposes and [is] required to register for a license with the Department and to collect and remit tax.” The regulation became effective in January of 2016 and, as expected, an internet retailer with no physical presence in the state challenged the regulation in the Alabama Tax Tribunal just six months later. That litigation is ongoing.

On March 22, 2016, South Dakota Governor Dennis Daugaard signed legislation requiring certain remote sellers with no physical presence in the state to collect and remit sales tax on sales to South Dakota customers effective May 1, 2016. The South Dakota Department of Revenue subsequently began mailing notices to remote sellers requiring collection and remittance of sales taxes on sales to South Dakota customers. The notices were followed by the Department filing a declaratory judgment action against four remote internet retailers in Hughes County Circuit Court. One of the retailers was subsequently dismissed from the action. The declaratory judgment action automatically enjoins the enforcement of the law during the pendency of the litigation. On March 6, 2017, the Hughes County Circuit Court struck down South Dakota’s economic sales and use tax nexus law when it granted summary judgment for the three remote-seller defendants. The South Dakota Supreme Court subsequently agreed with the county court that the law was unconstitutional under Quill.  In October of 2017, the state filed a petition for a writ of certiorari with the U.S. Supreme Court. To the surprise of many state tax professionals, the U.S. Supreme Court agreed to hear the challenge to physical presence nexus. Argument on the case is expected to occur in the spring of 2018, with a final decision by the end of the summer.

Alabama and South Dakota’s sales tax economic nexus laws were the first laws deliberately challenging the long-established principles of physical presence. Several other states have also begun a direct challenge to Quill. Vermont enacted a sales tax economic nexus law similar to South Dakota’s that will be effective at the later of July 1, 2017 or beginning on the first day of the first quarter after a controlling court decision or federal legislation abrogates the physical presence requirement established by Quill. The Tennessee Department of Revenue promulgated a regulation requiring sales tax collection and remittance of remote sellers making sales to Tennessee customers exceeding $500,000 during the previous 12-month period. The regulation requires registration of remote sellers by March 1, 2017, and collection to begin by July 1, 2017. However, enforcement of the regulation was stayed while challenged in state court. Finally, a number of other states have addressed establishing an economic sales and use tax nexus standard with varying effective dates, including Indiana, Maine, Mississippi, North Dakota, Pennsylvania, Vermont, Washington, and Wyoming.

Individual use tax requirements

With the lack of certainty surrounding the prospect of imposing some form of collection or reporting requirement on remote sellers, some states have come full circle, focusing once again on the use tax. As a preliminary matter, these states determined that the most likely causes for poor individual use tax compliance are that individuals generally are not aware of their use tax compliance responsibilities, and, even if they are, there is no convenient method to remit use tax to the various states. The states in question responded to these problems by adding a use tax line to individual income tax returns and prominently notifying individual income tax payers that the use tax line was to be used to report use tax on purchases on which sales tax was not paid.

Not surprisingly, the addition of the use tax line to individual income tax returns has not resulted in a meaningful increase in use tax compliance, except possibly among tax practitioners and government employees. For this reason, a small number of states have begun to experiment with enhanced use tax enforcement techniques, such as auditing individual income tax returns showing substantial income and no use tax solely to determine whether use tax was not properly reported. Additionally, an even smaller number of states, with Connecticut and Louisiana leading the way, have begun to enact strict criminal penalties for willful use tax non-compliance, including monetary fines, felony convictions and mandatory prison sentences. The effect of these measures in Connecticut and Louisiana remains to be seen, but it is likely that these states will be looking to make some high-profile examples in the next audit cycle. Clearly, other states’ appetites for enacting similar measures will at least in part depend upon whether these measures prove to be revenue generators for those states on the leading edge.


The issues surrounding the imposition of sales and use tax on remote purchases are currently in a state of flux likely to continue deep into 2018. However, the U.S. Supreme Court will have an opportunity to provide clarity on whether the physical presence nexus standard is still appropriate in the modern era. Additionally, 2017 brought a new administration, resulting in both houses of Congress and the executive branch representing the same political party for the first time in 10 years. It is not yet clear whether the president would support a federal solution to remote sales tax collection, and if so, to what extent that support would align with previous proposed solutions. Treasury Secretary Steven Mnuchin has indicated that the administration would release a position on the remote sales tax collection issue at some point. Regardless, it’s almost certain there will be continued federal legislative activity on this issue and Congress could preempt a U.S. Supreme Court decision in South Dakota v. Wayfair, or overrule the decision once it is issued.

The strongest possible approaches to dealing with the remote purchase use tax non­compliance problem are well in focus, and remote sellers and purchasers alike should keep a close watch on a possible return of the MFA, a wave of state economic sales tax nexus laws, the continued progress of click-through nexus and other nexus expansion provisions, the activation of Colorado’s comprehensive disclosure rules and the impact of enhanced use tax enforcement efforts.

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