On April 17, 2018, the Supreme Court heard arguments for the case of South Dakota v Wayfair, Inc., which is an important case to all ecommerce companies and has the potential to substantially alter the state sales tax landscape. Currently, companies are protected from collecting sales tax in states where they do not have a physical presence due to the Supreme Court case Quill Corp v. North Dakota.
States are dealing with budget issues and are looking for ways to capture additional revenue. They have also noticed the decreasing sales tax amounts they are collecting. One cause for the decrease in sales tax is that out-of-state online retailers are not required to collect and remit sales tax unless they have a physical presence in the state. In an effort to increase sales tax revenue, states have started passing laws to try to circumvent the Quill decision.
In an effort to increase sales tax revenue, South Dakota passed a law requiring online retailers to collect and remit sales tax when making sales to South Dakota residents once the seller passed certain thresholds ($100,000 in sales or 200 transactions). Wayfair brought a case against South Dakota stating the law violated the Quill decision.
How Did We Get Here?
The Supreme Court case Quill Corp v. North Dakota ruled that retailers are only required to withhold and remit sales tax on sales in states in which they have a physical presence. The Quill case was decided in 1992 and is based on the Commerce Clause which prevents states from interfering with interstate commerce unless authorized by the United States Congress. Quill Corp did not have a physical location in North Dakota and was selling office equipment using catalogs, flyers, and advertisements.
Since the 1992 decision, states have not been allowed to collect sales tax on out-of-state companies who do not have a physical presence in the state. Commerce has changed significantly since 1992; instead of selling through catalogs and advertisements, companies are selling directly over the internet. Most states view the decision in Quill Corp v. North Dakota as outdated and some have passed laws similar to South Dakota’s to circumvent the Court’s decision. The law passed by South Dakota is the first to be brought before the Supreme Court.
South Dakota v. Wayfair, Inc. is a challenge by Wayfair of South Dakota’s law that online retailers must collect sales tax when making sales to South Dakota residents once the retailer meets the sales thresholds ($100,000 in sales or 200 transactions) whether or not there is physical presence in the state. The South Dakota Supreme Court ruled in favor of Wayfair, Inc., and South Dakota petitioned the Supreme Court to hear the case.
During the arguments, the Supreme Court recognized three major concerns with overturning the Quill decision:
Concern One: Retroactive or Prospective Approach
The first concern is whether states would try to retroactively collect sales tax or take a prospective approach. During the arguments, South Dakota pointed out that they have eliminated this issue as their statute “specifically bars retroactive application” (takes a prospective approach). That is not the case in other states. The Supreme Court is concerned with the potential lawsuits that could arise from a retroactive approach.
Concern Two: Minimum Contact Threshold
The second concern of the High Court is allowing the states to determine what the minimum contact to require sales tax collection and remittance. In the laws passed by the states, they use a “regular, continuous and systematic” test to determine minimum contact. The laws similar to South Dakota’s are trying to create an “economic nexus” threshold that acts as a minimum contact threshold for retailers to be required to withhold and remit sales tax. When South Dakota’s representation was asked the minimum number of sales necessary to trigger tax obligations, their response was “one sale”.
Concern Three: Compliance Cost
The third significant concern is the compliance costs (fees paid for documentation and filing tax returns) for businesses. During the arguments, attorneys representing both sides estimated seller compliance costs between $12 and $250,000. In 2006, PWC conducted a report on compliance costs. According to the report, sellers under $1 million in sales averaged compliance costs (as a percentage of sales) of 0.82%, sellers from $1 million to $10 million averaged compliance costs of 0.32%, and sellers over $10 million averaged compliance costs of 0.13%.
The Supreme Court has many issues to weigh when they make their decision. Besides the concerns outlined above, the Court will have to decide if the Quill decision is creating an imbalanced playing field for retailers, thus giving online retailers with no physical presence an advantage.
Where Do We Go From Here?
The Supreme Court is expected to make a decision by late June. In the event that the Supreme Court overturns the Quill decision and rules in favor of South Dakota, companies should be ready. Companies can start to prepare themselves by doing the following:
- Perform an analysis of what states they have sales in and steps necessary to become compliant with those states,
- Start the initial review of software options and how much time it will take to install and get the software up and running as it relates to compliance, and
- Determine the necessary man power it may take to stay compliant with state sales tax laws.
It’s better to have a plan in place so that you are not scrambling for answers. Selden Fox can help you with any questions and can work with your company in determining which states you may have a requirement to withhold and remit sales tax. For additional information please call us at 630.954.1400 or contact us directly.