On June 21, 2018, the United States Supreme Court issued its decision in South Dakota v. Wayfair, which overturned decades of physical presence precedent regarding sales tax nexus. At the heart of the challenge was the South Dakota sales tax statute that required out of state retailers with either $100,000 of sales or 200 or more transactions in the state to register and collect sales tax. The South Dakota statute ignored the longstanding sales tax nexus standard that required physical presence in a state to be subject to sales tax requirements.
In overturning its prior decision issued in Quill v. North Dakota, the Supreme Court argued that Quill is “flawed on its own terms.” In deciding the fate of the physical presence standard, the Supreme Court looked to the standards of the Due Process and Commerce Clauses to decide when a state has the authority to levy a tax. Under the Supreme Court’s scrutiny, it determined that physical presence was not necessary to avoid any discrimination or undue burdens on interstate commerce.
In reaching its decision, the Supreme Court reasoned that all that is necessary is that there be a substantial connection with the state and that the tax be fairly apportioned. As a result of the Supreme Court’s decision, it is a brave new world for out-of-state retailers and their multistate sales and use tax collection responsibilities going forward.
Unfortunately, the Supreme Court’s decision did not go far enough to resolve the underlying issue at the heart of sales tax nexus. If physical presence is no longer required for sales tax nexus, what is the minimum contact with a state that will create nexus for sales tax purposes? The South Dakota statute is only one example of the state’s attempt to override the physical presence standard. Although the Supreme Court overturned the longstanding precedent established in Quill, it did not address the question as to whether the South Dakota statute is constitutional. The Court’s unwillingness to address the constitutionality of a state’s nexus statute perhaps signals its desire to force Congress to step in and take some action to finally enact a uniform standard that will provide certain protections and clarity.
Today, the one certainty created by the Court’s decision in Wayfair is that uncertainty reigns. States will see this decision as their opportunity to enact legislation that will create a nexus standard to capture the lost sales tax revenue generated by all of the out-of-state retailers. Prior to the decision in Wayfair, there were approximately 13 states that had some type of alternative nexus standard similar to the one enacted by South Dakota. Some of them adopted a standard that mimicked the minimum contacts contained in legislation introduced at the federal level. Some of the states, however, enacted significantly more aggressive standards. The number of states enacting a new nexus standard will most likely grow and, with the question of constitutionality still unaddressed, it is possible that the standards will grow more aggressive.
The Wayfair decision affects almost every business operating some type of online retail operation, and the costs of multistate compliance can become burdensome for small businesses. Will Congress finally take action and pass the badly needed legislation to protect smaller businesses from potentially burdensome and complex sales tax reporting requirements? It is probably too early to tell. However, businesses should begin to assess the potential impact of the decision and adopt a policy to deal with the new reality that physical presence is no longer necessary for sales tax nexus.
If you have any questions about this information or would like to discuss this subject further, please do not hesitate to contact a member of Kreischer Miller’s State and Local Tax group at 215.441.4600.
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