On June 21, 2018, the U.S. Supreme Court issued its decision in South Dakota v. Wayfair, Inc., et al, the highly anticipated challenge to the sales tax physical presence standard adopted through Quill v. North Dakota in 1992. Accordingly, the Court has overruled the Quill physical presence standard allowing states to impose economic sales tax nexus standards on remote sellers.
Recall that the challenge originated out of South Dakota when the state legislature enacted Senate Bill 106 in early 2016. That bill required certain remote sellers with no physical presence in the state to collect and remit sales taxes on sales to South Dakota customers effective April 1, 2016. The requirement was imposed on remote sellers who had either sales in the state exceeding $100,000, or 200 or more separate transactions. A declaratory judgment action was filed by the state less than a month after enactment, and the law was struck down in March of 2017 by a South Dakota Circuit Court. The South Dakota Supreme Court affirmed that decision and an appeal to the U.S. Supreme Court was filed. The U.S. Supreme Court agreed to hear the case in January of 2018.
Writing for the majority, Justice Kennedy, who also sat on the Quill court in 1992, noted that the Quill decision was, “flawed on its own terms,” for several reasons. The Quill decision, “created rather than resolved market distortions,” meaning that sellers essentially could take advantage of a judicially-created tax shelter by limiting physical presence in a state. Similarly, sellers were incentivized by avoiding such physical presence. Additionally, Justice Kennedy found that Quill imposed an, “arbitrary, formalistic distinction,” that more recent Commerce Clause jurisprudence sought to avoid, e.g., an in-state seller with a small inventory would be subject to sales tax collection while a larger remote internet retailer would not.
Justice Kennedy also noted that the Quill physical presence rule was no longer appropriate for, nor could it have anticipated, the modern e-commerce economy. Finally, it was noted that most of the states had requested the Court overturn Quill, stating that it was “essential to public confidence in the tax system” that the Court avoid creating an unfair burden shift in tax collection to in-state retailers.
Summarizing the nexus requirement under the Commerce Clause, the court pointed to the first prong of the Complete Auto test that seeks to determine whether a tax applies to an activity with “substantial nexus” with the taxing jurisdiction. Accordingly, substantial nexus is established when the taxpayer avails itself of the substantial privilege of carrying on business in that jurisdiction.
What should your business be thinking about now?
In light of the Court’s decision, there is great uncertainty in what the future holds for remote seller sales tax collection. Remote retailers and service providers will have a fragmented state landscape of various sales tax nexus provisions with little consistent guidance.
Additionally, even with this decision, taxpayers should be concerned with historic liabilities from noncompliance from failing to collect or remit the sales tax under any state’s current nexus standard.
Consider the following questions to help your business begin to tackle the Wayfair decision:
- Where and how much are your sales and services sold into each state?
- What was your nexus footprint prior to the Wayfair decision? Voluntary disclosure and amnesty should be considered for noncompliant collection and remittance as state statutes of limitation of three or more years will still apply to past periods. Considerations should be given to ASC 450.
- What products and services do you sell? Items and services may be exempt from the sales and use tax in one state, and taxable in another. Understanding how those items are characterized is important for multistate tax compliance.
- Has your business considered a technology/automation solution? If so, does your ERP track “ZIP+4” shipping address, individual line item taxability on an invoice, customer exemption status by state, and export sales into a return software? Determining sales tax compliance obligations in 10,000 jurisdictions requires using the right tools. Technology and ERP solutions are not necessarily “one size fits all” and should be considered with the needs of the business.
- How does your business stay up to date on new nexus legislation?
Additionally, your business should consider tracking of state legislative and regulatory developments that will become more prevalent in the coming months. New litigation stemming from the Wayfair decision is almost certain. Having a plan to respond quickly to state sales tax nexus developments must be an imperative.
What happens to other state economic sales tax nexus provisions?
States with economic sales and use tax nexus provisions
About a dozen states have enacted economic sales and use tax nexus provisions since the beginning of 2016. Read our article, Economic sales and use tax nexus laws, for a brief summary of economic nexus provisions enacted through the beginning of 2018. Additionally, a number of states have proposed economic sales and use tax nexus provisions in 2018, with several enacting those provisions. Connecticut, Georgia, Hawaii, Illinois, Iowa, Kentucky, Louisiana and Oklahoma are some of the states that addressed economic sales tax nexus in 2018 and in anticipation for the once-pending Wayfair decision.
Several states enacted economic sales and use tax nexus provisions that were contingent on Quill being overturned, including Louisiana, North Dakota and Vermont. The North Dakota law was scheduled to become effective only if the Court overturned Quill. Those laws will presumably become effective under the provisions of their respective statutes.
Pending state litigation on identical or similar economic nexus provisions
Several states are currently involved in litigation over their respective economic sales tax nexus provisions in state court including Alabama (regulation is currently effective, but one taxpayer has succeeded in defending against an assertion of nexus), Indiana, Massachusetts, Tennessee, and Wyoming. Many of those challenges were stayed pending the Wayfair decision because the provisions were identical, or substantially similar, to that of South Dakota’s law. In consideration of the Wayfair decision, Quill arguments in those cases are now moot, although there may be other claims that may be asserted against each state’s provision.
Federal legislative remote-seller solutions
Recall that Congress may have the authority to overrule the Court by exercising its constitutional power to regulate commerce between the states. Congress could codify the Quill physical presence standard into federal law, or enact a system of remote seller collection such as the frequently discussed Marketplace Fairness Act. However, many of the proposals previously introduced have not made it out of the House Judiciary Committee. If no further federal action is taken in 2018 to address remote sales tax collection, it is likely the committee will have a dramatically different makeup in 2019. With congressional elections in November, and the current chairman of the committee set to retire, the next round of federal remote seller bills may have a better chance to receive a floor vote.
At least three proposals aimed at solving the remote sales tax collection issue have been introduced in the current Congress. These proposals will need to be reintroduced if not acted on in 2018. The following proposals have bipartisan support:
Marketplace Fairness Act of 2017 (S.976)
Introduced in April 2017 by Senator Michael Enzi (R-WY), the Marketplace Fairness Act of 2017 (MFA) is in its third iteration since the 2013 version was voted out of the Senate. The MFA grants qualifying states the authority to compel remote sellers with more than $1 million in annual remote sales to collect and remit sales tax on taxable sales delivered to in-state purchasers. The sale would be sourced to the location where the product or service is received by the purchaser.
The MFA of 2013 made the most progress of any federal remote seller proposal, but ultimately stalled in the House Judiciary Committee.
Remote Transactions Parity Act of 2017 (H.R. 2193)
Introduced in April 2017 by Representative Kristi Noem (R-SD), the Remote Transactions Parity Act of 2017 (RTPA) bears similarities to the MFA with some important differences. The RTPA utilizes a phased-in exemption threshold, under which states are permitted to authorize remote collection where gross receipts exceed $10 million in the first calendar year, $5 million in the second, and $1 million in the third. Additionally, the phased-in exemption does not apply to businesses that sell through electronic marketplaces, such as Amazon.com.
No Regulation Without Representation Act of 2017 (H.R. 2887)
Introduced in June 2017 by Representative James Sensenbrenner (R-WI), the No Regulation Without Representation Act of 2017 (NRWR) effectively codifies the physical presence standard established through the Quill. The NRWR defines “physical presence” and imposes a 15-day threshold in order for an out-of-state entity to be deemed present in the taxing jurisdiction.
Takeaways
The Wayfair case moved through the court system at a blistering pace. Even with a decision from the nation’s highest court, very little is settled. Under the U.S. Constitution, Congress may have the authority to implement a remote seller solution or codify the physical presence standard into federal law. Whether Congress takes up the issue is a “wait-and-see” proposition.
With the death of Quill’s physical presence standard, sales tax nexus expansion is far from certain, however. New litigation stemming from Wayfair is likely. Additionally, Wayfair creates many more questions than it seeks to answer. Understanding how sales tax nexus may affect your business is extremely important.
Finally, the decision, as with most U.S. Supreme Court opinions, will be extensively dissected over the coming days for guidance on the Justices’ analysis and what that could mean for future state tax nexus cases. The Wayfair decision will ripple through the states. How the states and Congress collectively respond will be seen in the coming weeks and months. What is certain is that the sales tax nexus landscape will be changing very quickly and preparation will be key.
Taxpayers should speak to their state tax advisers about the impact of the Wayfair decision on their business. Implications will be felt by industries well beyond retailers.
