Recently the Supreme Court decided the case South Dakota v. Wayfair, Inc., in which they addressed whether remote sellers of goods and services can be required to collect and remit sales taxes imposed by the consumer’s State.[1] According to S. 106, 2016 Leg. Assembly, 91st Sess. (S. D. 2016) [hereinafter “the Act”], remote sellers are required to collect and remit sales tax to the State in which the goods are sold.[2] Plaintiff, the State of South Dakota, filed of an injunction requiring respondents to register for licenses to collect and remit sales tax.[3] Respondents Wayfair, Overstock.com, Inc., and Newegg, online merchants selling goods such as furniture and electronics, moved for summary arguing that the Act is unconstitutional.[4] The Supreme Court granted certiorari to determine how to interpret precedent cases “in light of current economic realities.”[5]
In order to decide this issue, the court had to interpret and analyze the Commerce Clause and review the scope determined by two precedent cases, National Bellas Hess, Inc. v. Department of Revenue of Illinois and Quill Corporation v. North Dakota, which were decided in 1967 and 1992, respectively.[6] These cases determined that an out-of-state seller’s ability to collect and remit the tax depended on whether the seller had a physical presence in the State.[7] If the seller only permitted people to order from a catalog, it did not have a physical presence.
According to two key primary principles, state regulations cannot disfavor interstate commerce, and States cannot impose undue burdens on such commerce.[8] These principles, in combination with the
Commerce Clause, aid courts in determining outcomes in cases challenging state laws.[9] The Court laid out the guidelines for state taxation in Complete Auto Transit, Inc. v. Brady, where it held that a State can exclusively tax interstate commerce as long as the tax doesn’t create effects prohibited by the Commerce Clause. The Court determined that it would allow a tax as long as it applies to an activity with a significant connection to the taxing State, is fairly divided, doesn’t “discriminate against interstate commerce,” and is sufficiently connected to the services provided by the State.[10]
The concern about a significant connection arises from the established due process requirement that requires a business to have minimum contacts with the state in which they are selling goods or services.[11] Additionally, in Miller Brothers Co. v. Maryland, the Court held that there must be a connection between a state and the property or transaction it wishes to tax.[12]
The Court found that the physical presence rule is a flawed interpretation of the Commerce Clause in the ever-growing digital age as it gives online out-of-state businesses a significant advantage over companies with a physical presence in the state.[13] In addition, it creates market distortions.[14]
The issue of competition from online vendors has been an important one for South Dakota and the States more generally due to the fact that the States have lost revenue in the amount of $8 and $33 billion each year as a result of the rulings in Bellas Hess and Quill.[15] As a result, South Dakota residents had to “foot the bill” and pay the use tax on their purchases from other states.[16] These taxes constitute an important income source for South Dakota in funding state and local services, such as police and fire departments, as it has no state income tax.[17] Some states, such as Colorado, have imposed notice requirements on remote vendors just below collecting taxes. As a result, in the
future courts may encounter arguments regarding the meaning of physical presence.[18] Courts may also face the issue presented by small businesses seeking relief from tax collection.[19]
Ultimately the Court overruled Quill and Bellas Hess, finding that the physical presence rule was untenable.[20] Subsequently, the Court analyzed the tax under the Complete Auto test and found that the connection between the activity and the taxing State was sufficient, as respondents had significant economic and virtual contacts with the State. However, it remains to be seen whether another Commerce Clause principle could nullify the Act.[21]
In his dissent, Chief Justice Roberts argued that Bellas Hess was incorrectly decided and that deference should be given to Congress (rather than the Courts) to determine interstate commerce issues, citing the importance of stare decisis.[22] Further, Roberts argues that the harm caused by the physical presence rule, if there is any being done, is decreasing over time.[23]
Additionally, Roberts asserts that the Court’s decision will disproportionately and arbitrarily impose unjustified costs on various goods, which will burden small businesses. He opines that imposing taxes on each sale will harm the market by increasing costs for businesses and thereby decrease the variety of goods available.[24] Roberts argues that Congress is most suited to determine competing interests of businesses and analyze the Commerce Clause and might be able to avoid such a drastic policy change and determine any retroactive effect the change might have.[25]
This ruling is vital for commercial real estate and states as stiff competition from online retailers has injured sales.[26] It will have far-reaching implications for large online venders such as Amazon, which does not currently collect state sales taxes on products of third-party sellers (in all states except Washington and Pennsylvania). Following the publication of the decision, Amazon shares tanked. Stocks of other large online marketplaces are expected to show similar decline.[27]
As a result of the decision, South Dakota can require online out-of-state vendors that conduct sales numbering over 200 transactions or generating revenues of over $100,000 to collect taxes on items purchased by South Dakota residents. It is anticipated that other states will change their laws regarding the physical presence requirement to align similarly with South Dakota’s new requirement. It is estimated that the decision could create as much as $13 billion in tax revenue.[28] As the online market grows and improves and more stores face bankruptcy, it will be important to keep an eye out for additional legal issues and tax policies that are likely to arise in the online marketplace arena.
[1] South Dakota v. Wayfair, 138 S. Ct. 2080, 2093 (2018).
[2] Id. at 2088.
[3] Id. at 2089; see U.S. Const., Art. I, §8, cl. 3.
[4] State v. Wayfair Inc., 901 N.W.2d 754, 759-60 (S.D. 2017).
[5] South Dakota, 138 S. Ct. at 2089.
[6] Id. at 2087-88. National Bellas Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 753 (1967); Quill Corp. v. North Dakota, 504 U.S. 298(199).
[7] South Dakota, 138 S. Ct. at 2089.
[8] Id. at 2084.
[9] Id.
[10] Id. at 2085.
[11] Id. at 2093. See Int’l Shoe Co. v. Washington, 326 U.S. 310, 316 (1945); Burger King v. Rudzewicz,
471 U.S. 462, 476 (1985).
[12] Miller Brothers Co. v. Maryland, 347 U.S. 340, 344-45 (1954); South Dakota, 138 S. Ct. at 2093.
[13] South Dakota, 138 S. Ct. at 2092.
[14] Id.
[15] Id. at 2088.
[16] Id.
[17] Id. at 2097.
[18] Id. at 2098.
[19] Id. at 2099.
[20] Id.
[21] Id.
[22] Id. at 2101.
[23] Id. at 2103.
[24] Id. at 2104.
[25] Id.
[26] Erin Stackley, Supreme Court Ruling in Wayfair Case a Win for Real Estate and States, RISMEDIA (August 12, 2018), http://rismedia.com/2018/08/12/supreme-court-ruling-wayfair-case-win-real-estate-sales/#close.
[27] Erin Stackley, Supreme Court Ruling in Wayfair Case a Win for Real Estate and States, RISMEDIA (August 12, 2018), http://rismedia.com/2018/08/12/supreme-court-ruling-wayfair-case-win-real-estate-sales/#close.
[28] Jeff Mengoli, The Impact of the Supreme Court’s Ruling in South Dakota v. Wayfair, BigCommerce, https://www.bigcommerce.com/blog/south-dakota-v-wayfair/.
Jonathan
Some commentators have expressed desire for a return to the pre-Bellas Hess approach to sales and use tax that resembles the business and occupation tax model: “[t]hse test is simply the nature and extent of the activities”. See Scripto Inc. v. Carson, 362 U.S. 207, 211 (1960). Instead of the “physical presence” rule, an interstate entity would be analyzed on its economic nexus with the state and while interstate entities cannot be required by States to remit taxes merely for the pleasure of conducting interstate business, some believe they should be required to contribute for the benefits they derive. General Trading Co. v. State Tax Comm’n states that:
“Of course, no State can tax the privilege of doing interstate business. See Western Live Stock v. Bureau of Revenue, 303 U. S. 250. That is within the protection of the Commerce Clause, and subject to the power of Congress. On the other hand, the mere fact that property is used for interstate commerce or has come into an owner’s possession as a result of interstate commerce does not diminish the protection which he may draw from a State to the upkeep of which he may be asked to bear his fair share.” See General Trading Co. v. State Tax Comm’n, 322 U. S. 335, 322 U. S. 337 (1944).
Despite having no physical presence in the form of brick and mortar stores or in-state employees, interstate entities do still avail themselves of the services and utilities provided by states. They rely on the safety provided by the police force; the (ideally) smooth roads and highways for delivery of their products; the road planning and signage that helps delivery drivers get to where they need to go; and the “‘sound local banking institutions to support credit transactions [and] courts to ensure collection of the purchase price,’ Quill, 504 U. S., at 328” See South Dakota v. Wayfair, Inc., 138 S. Ct. 2080, 2093 (2018).
Maintaining the “physical presence” rule handed down in Bellas Hess is a failure to evolve with the ever-growing e-commerce industry. In this age of an “Internet of Things” where even your refrigerator can order groceries online, the law must evolve and grow alongside technology not at a slower rate, and their mutual Darwinian symbiosis is what will ensure the progress that society needs to thrive.
Judith
Any law student, and even lawyers who have been out of law school for decades, will remember (even vaguely) the case of International Shoe, in which the Supreme Court held that in order to sustain “traditional notions of fair play and substantial justice,” the Constitution’s Due Process Clause requires minimum contacts with a forum state for the state’s courts to have personal jurisdiction over that party. Int’l Shoe Co. v. Washington, 326 U.S. 319 (1945). In Quill, the Court went a step further to establish a bright-line physical presence test, requiring a party to be physically present in-state to meet the “substantial nexus” condition of the Dormant Commerce Clause. Quill Corp. v. North Dakota, 504 U.S. 298 (1992). Now, with the dawn of Wayfair, this bright-line physical presence test has been thrown out. And although Justice Kennedy, in his majority opinion, correctly notes that thanks to the rapid growth and public acceptance of e-commerce, “’a business may be present in a State in a meaningful way without’ that presence ‘being physical in the traditional sense of the term,’” the questions of where the line between substantial and insubstantial contacts should be drawn in this new “economic nexus” standard, and which businesses will be most affected, remain. South Dakota v. Wayfair, 138 S.Ct. 2080, 2095 (2018) (quoting Direct Marketing Assn. v. Brohl, 135 S.Ct 1124, 1135 (2015).
Smaller and newer businesses, both brick-and-mortar stores and smaller online retailers, are expected to feel the weight and effect of Wayfair more adversely than larger ones, as the overhead cost of compliance is usually higher despite smaller tax bills. See Erika Morphy, How Industrial Loses Under South Dakota v. Wayfair, GLOBEST., Jun. 25, 2018, https://www.globest.com/2018/06/25/how-industrial-loses-under-south-dakota-v-wayfair/?slreturn=20190015204229. As a result of the ruling, retailers engaged in interstate commerce, regardless of size, now need to track their business’ transactions across state lines and implement a sales tax collection service, and establish procedures to monitor the economic nexus thresholds of each state in which they do business and whether they have crossed or will cross these thresholds. Implementing these mechanisms require considerable resources, and many smaller retailers already lack the capital to adapt to the Wayfair requirements. Larger businesses, which usually have well-established legal and accounting departments, have the resources to navigate through these changes, and may in fact already have the ability to track sales taxes across state lines.
Justice Kennedy went on to argue that a lack of internet sales taxes results in substantial revenue losses to states, and that the growth of e-commerce has increased revenue shortfalls in states. See Wayfair, 138 S.Ct. at 2085-86 and 92. But, as emphasized by Chief Justice Roberts in his dissent, Congress, not individual states, holds the right to regulate interstate commerce. See id. at 2101-03. Consequently, it is arguable that the role of Congress encompasses debating and deciding on the merits of an internet sales tax. Under Wayfair, a business based in one state can now be affected by laws passed in another state where the business owner does not have the opportunity to participate in or influence political decisions. And when states are given the power to directly compel people who live outside state boundaries to adhere to state standards – standards these people had no chance to influence – the notion of statehood itself is weakened.
Ariel
While I find this analysis extremely thorough, I agree with the author and find it worth keeping up with the impacts of Wayfair on state economies in the three years following it and different legal issues and tax policies that have arisen in the online marketplace arena. Since the 2018 Wayfair decision, nearly every state has expanded its nexus standard, often in a manner similar to South Dakota’s legislation. Three years after Wayfair – now what?, PwC, https://www.pwc.com/us/en/services/tax/state-local-tax/wayfair-physical-presence-standard.html (last visited Aug. 23, 2021); South Dakota v. Wayfair is Decided: What does It Mean for You?, Sales Tax Institute, https://www.salestaxinstitute.com/resources/south-dakota-v-wayfair-is-decided-what-does-it-mean-for-you (last visited Aug. 23, 2021).
Many researchers have identified that the decision has harmed small businesses, which is in line with the dissenting opinion’s critique that, “[t]he Court . . . breezily disregards the costs that its decision will impose on retailers.” S. Dakota v. Wayfair, Inc., 138 S. Ct. 2080, 2103 (2018) (Roberts, C.J., dissenting). For example, some states’ legislation does not limit Wayfair taxation to larger businesses, causing a growing concern that small businesses will be targeted and that a small business’s cost of conducting a tax audit and ensuring compliance will far outweigh the tax revenue generated by the government. Eugene Maccarrone, The Impact of the U.S. Supreme Court’s Decision in South Dakota v. Wayfair, The CPA Journal (March 2021), https://www.cpajournal.com/2021/04/26/the-impact-of-the-u-s-supreme-courts-decision-in-south-dakota-v-wayfair/. Now, entering and succeeding in e-commerce at Amazon levels is made increasingly difficult not just by the Wayfair decision, but also by legislation passed in the years proceeding it and following it.
In 2019, a survey of 600 American small and medium-sized business (SMB) owners identified that 20 percent reported being “very concerned” about the Wayfair decision and nearly 53 percent thought that managing sales taxes for their businesses was either “somewhat” or “not at all” clear. Ritika Puri What the Wayfair Decision Means for American E-commerce, Performance Magazine (April 9, 2019), https://www.performancemagazine.org/wayfair-decision-american-ecommerce/.
In response to the fragmentation of state policy following this decision and the harms to SMBs, some critics have called for a more uniform federal sales tax policy for online vendors and have questioned whether the government and court were truly as friendly to small businesses at the time of this decision as they purported to be. Eugene Maccarrone, The Impact of the U.S. Supreme Court’s Decision in South Dakota v. Wayfair, The CPA Journal (March 2021), https://www.cpajournal.com/2021/04/26/the-impact-of-the-u-s-supreme-courts-decision-in-south-dakota-v-wayfair/. For those reading this that maintain a sales presence in New York, since June 21, 2018, New York State has determined that the economic nexus threshold is that the sales of tangible personal property delivered into New York exceed $500,000, AND more than 100 sales of property delivered into NY. However, other states using “or” rather than “and,” such as Georgia, New Jersey, and Utah may be construed to have a harmful effect on businesses making a negligible amount of sales in the state. Are You in Compliance With Wayfair?, BDO, https://www.bdo.com/wayfair, (last visited Aug. 23, 2021).
All in all, although there are few economic analyses coming from this decision, SMBs and policy researchers have been heavily critical of the Wayfair decision’s effect.