South Dakota v. Wayfair, Inc. What it Means for Sales Tax Collection Responsibility?

If you are reading this, you are likely familiar with the issues involved in the United States Supreme Court’s Wayfair decision on June 21, 2018. I have previously written about this issue here, here , and here , so I am not going to discuss in the issues in detail.  

The Court’s Opinion

Rather than get into excruciating detail of the Wayfair opinion—which is widely available all over the internet—this piece explains, to the extent possible, what the Wayfair opinion means for businesses’ sales tax collection responsibility going forward. 

In short, in Wayfair the Court overturned a 1992 decision, Quill v. North Dakota, which prevented states from imposing sales tax collection responsibility on an out-of-state (or “remote”) seller unless the seller has physical presence, or substantial nexus, in the state. Post-Wayfair, we know that the bright-line physical presence law no longer exists, but the Court did not articulate a clear definition of nexus to apply going forward.

In Wayfair, the Court noted that “[t]he basic principles of the Court’s Commerce Clause jurisprudence are grounded in functional, marketplace dynamics.” The Court found it difficult to understand why a single employee in a state would create nexus under prior law, but “’physical’ aspects of pervasive modern technology” such as a website on a customer’s computer, cookies on a customer’s hard drive, or an app on a phone should not create nexus. Ultimately, the Court stated that it “should not maintain a rule that ignores these substantial virtual connections to the State” and explicitly overruled National Bella Hess and the physical presence requirement of Quill.

What is the Law Post-Wayfair?

So, if physical presence is no longer the law of the land, where are we now?  The Court indicated the four-prong test used in Complete Auto should be the starting point in Commerce Clause cases.  Under Complete Auto, the Court will sustain a tax, so long as it:

1. Applies to an activity with a substantial nexus with the taxing state;
2. Is fairly apportioned;
3. Does not discriminate against interstate commerce; and
4. Is fairly related to the services the state provides. 

The Court directly analyzed the first prong of Complete Auto test as it applied the tax law imposed by South Dakota—which imposed a tax collection requirement on remote sellers with $100,000 in sales or 200 separate transactions in a 12 month period.

Under the first prong, the Court noted that nexus is “clearly sufficient” since the quantity of business ($100,000 in sales or 200 separate transactions in a year) could not occur “unless the seller purposefully availed itself to the substantial privilege of carrying on business in South Dakota.”

The arguments before the Court focused solely on the substantial nexus issue under Quill, so the Court was not briefed on and, therefore, did not directly apply the second through fourth prongs of the Complete Auto test. However, the Court noted that the South Dakota tax law appears to be designed to prevent discrimination against or undue burden on interstate commerce, including:

• A safe harbor for those with limited business in the state (i.e., $100,000 or 200 separate transactions in a year).
• A limitation on the state’s ability to apply the Court’s ruling retroactively.
• South Dakota’s participation in a system that standardizes taxes among states to reduce administrative and compliance costs.  (i.e., Streamlines Sales and Use Tax Agreement).

To the extent that other Commerce Clause claims are made, they will be heard on remand.

So, it appears that the new test is largely based on the old four-prong Complete Auto test.  But, we are left guessing to what extent a state must provide a safe harbor for those businesses with minimal contact with the state.  Almost certainly, a single, $10 transaction should not trigger sales tax collection responsibility. But, what about $50,000 in sales or 100 separate transactions?  What about those states that do not provide protection to taxpayers by preventing retroactive application of the law, thereby leading to potentially large assessments?  What about those states that are not part of a multistate system that standardizes taxes to reduce administrative and compliance costs? Are they precluded from imposing these economic nexus standards?  The answers to these questions will be resolved in the future.

Going Forward

I should be clear that, unlike the headlines may lead you to believe, remote sellers are not required to start collecting sales tax in every state that they make a sale. States must first enact laws imposing collection responsibilities, and those laws must not run afoul of the Commerce Clause, as defined by the Court in Wayfair.

Currently, more than 15 states have either proposed or enacted economic nexus laws that are the same or substantially similar to South Dakota’s law, with varying effective dates. As a result of Wayfair, more states will undoubtedly look to enact economic nexus laws. States that have or enact laws that are the same or substantially similar to South Dakota’s laws may now enforce their economic nexus laws.   

If your business has significant sales in a state, but has historically relied on the physical presence law as your shield for not collecting sales tax, it is wise to reevaluate your sales tax collection requirements under Wayfair.  

The material in this blog is not intended, nor should it be construed or relied upon, as legal advice. Please consult with an attorney if specific legal information is needed. 

- Cody Edwards