By:  Karen T. Syrylo, CPA, Member of MACPA Board of Directors
 
States can require online sellers to charge sales taxes, according to today’s ruling by the U.S. Supreme Court in South Dakota v. Wayfair. 
The Justices voted 5 to 4 to support the states in the long-awaited decision regarding the states’ sales tax powers and the e-commerce industry.  The ruling does more than specifically vacate the decision of the South Dakota supreme court (that the state statute violated the U.S. Supreme Court’s precedents and was unenforceable).  The opinion is a flat-out rejection of the physical presence rule articulated by the Court in its previous decisions in Quill and National Bellas Hess:  “Because the physical presence rule of Quill is unsound and incorrect, [those two decisions] are overruled.”
Justice Kennedy wrote for the majority and was joined by Justices Thomas, Ginsberg, Alito and Gorsuch.  Justices Thomas and Gorsuch filed concurring opinions.  Chief Justice Roberts filed a dissenting opinion in which Justices Breyer, Sotomayor, and Kagan joined.
What the opinion says
Justice Kennedy’s 24-page opinion is detailed with Commerce Clause analysis, including:
  • “Each year, it [the physical presence rule] becomes further removed from economic reality and results in significant revenue losses to the States.  These critiques underscore that the rule, both as first formulated and as applied today, is an incorrect interpretation of the Commerce Clause.”
  • Quill is flawed on its own terms … The physical presence rule is not a necessary interpretation of Complete Auto’s nexus requirement.”
  • Quill creates rather than resolves market distortions.  In effect, it is a judicially created tax shelter for businesses that limit their physical presence in a State but sell their goods and services to the State’s consumers, something that has become easier and more prevalent as technology has advanced.”
  • “Modern e-commerce does not align analytically with a test that relies on the sort of physical presence defined in Quill.”
  • “The physical presence rule of Bellas Hess and Quill is also an extraordinary imposition by the Judiciary on States’ authority to collect taxes and perform critical public functions.”
  • Stare decisis can no longer support the Court’s prohibition of a valid exercise of the States’ sovereign power.  If it becomes apparent that the Court’s Commerce Clause decisions prohibit the States from exercising their lawful sovereign powers, the Court should be vigilant in correcting the error.  It is inconsistent with this Court’s proper role to ask Congress to address a false constitutional premise of this Court’s own creation.”
What the dissent would have ruled
For what it’s worth, the four Justices in the dissent had a different approach.  Writing for them, Justice Roberts said:  “I agree that Bellas Hess was wrongly decided, for many of the reasons given by the Court. The Court argues in favor of overturning that decision because the “Internet’s prevalence and power have changed the dynamics of the national economy.”  But that is the very reason I oppose discarding the physical-presence rule.  E-commerce has grown into a significant and vibrant part of our national economy against the backdrop of established rules, including the physical-presence rule. Any alteration to those rules with the potential to disrupt the develop­ment of such a critical segment of the economy should be undertaken by Congress. The Court should not act on this important question of current economic policy, solely to expiate a mistake it made over 50 years ago.”
What the opinion leaves open:  Retroactivity?  Different thresholds in different states?  Undue burdens on interstate commerce of small businesses?
 
The Supreme Court’s ruling leaves some items open.  The opinion admits “The question remains whether some other principle in the Court’s Commerce Clause doctrine might invalidate the Act [the South Dakota statute].”  But also “Any remaining claims regarding the application of the Commerce Clause in the absence of Quill and Bellas Hess may be addressed in the first instance on remand.”
Such open issues may present more dangers to businesses with respect to other states if not in the application of the now valid South Dakota law.
The opinion references several issues that were not litigated or even briefed in the Wayfair case and therefore not addressed.  However, the opinion also specifies:  “That being said, South Dakota’s tax system includes several features that appear designed to prevent discrimination against or undue burdens upon interstate commerce.”  It lists:
  • “Safe harbor to those who transact only limited business in South Dakota”  [i.e. the $100,000 and 200 transactions thresholds].
  • “The Act ensures that no obligation to remit the sales tax may be applied retroactively.”
  • “South Dakota is one of more than 20 States that have adopted the Streamlined Sales and Use Tax Agreement.  This system standardizes taxes to reduce administrative and compliance costs …”
But what about other states, too; what will businesses be faced with elsewhere after the Wayfair decision?  These are some of the issues that businesses and their advisors have long feared should the Court do what it did today.
  • The Court removed the physical presence rule and the opinion speaks favorably of the South Dakota statute’s specifics, but it gave us no parameters as to what “safe harbor” or threshold is or is not acceptable. Is $100,000 and 200 transactions that South Dakota uses the correct safe harbor?  Is the $10,000 threshold contained in other state economic nexus statutes not acceptable?  And importantly, will we end up with 46 states having different thresholds?
  • South Dakota took care to specify that it would not apply its nexus standard retroactively.  Other states have promised to avoid retroactivity should the Court rule in the State’s favor in Wayfair, but will that hold true?  Will other states now seek prior years’ taxes from internet sellers?  And what about a likely double burden if the purchaser has paid use tax?
  • The Streamlined Sales Tax Agreement has participation of more than 20 states, but those don’t represent the majority of the U.S. population, and there are 46 states that impose a sales tax.  The Streamlined project has had internal issues in getting to the goal of having all states “standardize taxes and reduce administrative and compliance costs.”  Will this change and the Agreement be expanded to other states, or will taxpayers continue to deal with compliance complexities, even more now that many taxpayers will have to address the requirements of more states?
  • Will the compliance complexities and costs, of more states and more issues, rise to the level of undue burdens on small businesses that conduct interstate commerce?  The opinion states “Eventually, software that is available at a reasonable cost may make it easier for small businesses to cope with these problems.”  Will software developers quickly create the tools that are truly cost-effective and easy-to-use for the nation’s small businesses?
  • Will there be additional litigation on these and other issues?
  • Will Congress act?
We will be following the states’ reactions and actions and will report back as developments occur.
The case is South Dakota v. Wayfair, Inc., et al, No. 17-494, at https://www.supremecourt.gov/opinions/17pdf/17-494_j4el.pdf
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