On June 21, 2018, the U.S. Supreme Court rendered a decision in the sales tax case of South Dakota v. Wayfair, Inc. which overturned Quill v. North Dakota, and thereby will change the nexus standard for sales and use tax, established by Quill in 1992.
The Quill decision put the sales tax burden and obligation on sellers of tangible personal property or services which had a physical presence in the state jurisdiction. The Wayfair case, now places both remote sellers and sellers with physical presence seemingly on an equal playing field.
Writing the decision for the 5-4 majority, Justice Kennedy stated the Quill decision was “flawed on its own terms” and “created rather than resolved market distortions” allowing sellers to benefit from a judicially created tax shelter, provided they avoided physical presence in the state. At the time the case was decided in 1992, no one could have anticipated the modern e-commerce economy. In 1992, mail order sales were $180 billion, where as in 2017, the sales from e-commerce and other remote sellers totaled $500 billion.
State governments continually look for ways to generate tax revenues, and find it is politically favorable to tax out-of-state remote sellers and making it more competitive for the locally situated merchants and businesses. Since 1992, there have been several states that have attacked the Quill decision and enacted statues that expanded the nexus definition in the forms of “click-through”, “cookie”, or “affiliate” nexus concepts. Additionally, there are three bills currently before Congress which would require online sellers or marketplaces (i.e., Amazon, Ebay, Etsy, etc.,) to collect and remit sales tax. The newest trend used by states is by applying an “economic” nexus concept using thresholds (either a specified number of transactions or sales dollar volume). This economic nexus is the underlying basis in the Wayfair case. Since 2016 many states have enacted economic nexus thresholds for sales taxes and additional 8-10 states have provision in their 2018 budget bills in anticipation of the state-favorable outcome of the Wayfair case.
The Court did not specifically rule on whether South Dakota’s economic thresholds were the appropriate level or constitutional; rather, if a remote seller reached those thresholds, the question was whether the seller had “substantial nexus” with the taxing jurisdiction as laid out in the Court’s 1977 decision in Complete Auto Transit, Inc. v. Brady. The Court ultimately decided that if a remote seller met those thresholds, then the seller would have substantial nexus, and should be subject to South Dakota’s sales tax. Two other features of South Dakota’s law that avoided pitfalls with the federal Commerce Clause protections were; 1.) the law was not retroactive and 2.) South Dakota is a member of the Streamline Sales and Use Tax Agreement, which reduces the administrative and compliance cost for remote sellers. Although the Court considered these elements in its decision, it did not provide any guidance on whether states could enact retroactive provisions.
The Wayfair case now provides for an increased compliance issue for remote sellers. Currently, 45 states and the District of Columbia have sales and use tax laws. Add on to that the various county and city sales tax laws and there are now more than 10,000 potential collection obligations nationwide. Sellers that were previously exempt from sales tax compliance now must answer the following questions:
- What is the correct tax rate?
- Is the tangible personal property or service that I am selling taxable in the jurisdiction?
- Do I need to register in the state?
- How often do I have to file; annually, quarterly or monthly?
- When am I required to start collecting sales tax?
- Do I have to collect exemption/resale certificates and track them? Even on non-taxable products?
- Does collecting and emitting sales tax subject me to income tax?
Despite the Court’s decision in the Wayfair case, very little is settled. Congress could, and possesses the authority to codify the physical presence standard established in the now overturned Quill decision. What is certain is additional litigation that will stem from Wayfair and will likely focus on the questions of; 1.) what is the minimum threshold that will create substantial nexus with a jurisdiction, and 2.) can a jurisdiction enact retroactive provisions. We can only hope for clarity.
The Court’s Wayfair decision makes it imperative to understand how the expanding nexus rules for sales tax may impact your business.
Please contact a BST tax advisor to evaluate your current multi-state business activities and potential collection obligations.