Sales Tax Pro on Impact of Supreme Court’s Wayfair Decision

For roughly 200 years, the U.S. Supreme Court has resolved disputes arising from companies selling products across state borders.

A notable case occurred in 1992 when the state of North Dakota sued Quill Corp., an office-supply firm, which sold products via its catalog to North Dakota residents without paying state sales taxes. In Quill Corp. vs. North Dakota, the Court ruled that Quill had to pay the taxes only if it had a physical presence in the state, such as an office or a warehouse.

The practice of companies selling products across state borders exploded several years after Quill with the rise of ecommerce. (Amazon launched in 1994, for example.) Ecommerce companies sold items that traditionally came from local, tax-paying retailers. But few of the ecommerce firms had a physical presence in a particular state. Thus, under Quill, those firms did not pay sales taxes. States and municipalities that historically relied on that revenue to fund services — police, fire, ambulance — were squeezed.

States tried to respond, in part, by expanding the definition of “physical presence.” Employees, contractors, affiliates (as in affiliate marketing), cookies, hosting relationships — all eventually were a “physical presence” for one or more states.

The result was a bewildering mishmash of state laws, which generated even more disputes and more (lower) court cases.

By 2017, the state of South Dakota formally responded. It passed a law that relied on an “economic nexus,” not a physical one, to assign sales tax collection responsibility. If a company sold products to South Dakota residents, the law asserted, that company had to collect and remit sales taxes regardless of its location. It intentionally violated Quill.

The new law affected, likely, hundreds of ecommerce companies. Most ignored the law. South Dakota eventually sued three of them: Wayfair, Overstock, and Newegg. Lower courts ruled in favor of the ecommerce firms, citing Quill. South Dakota appealed to the Supreme Court. Last week, on June 21, in South Dakota vs. Wayfair Inc. (PDF), the Court issued its decision.

In a 5-4 vote, it overturned Quill. The collection and remittance of sales taxes no longer depend on a physical presence.

There’s no better observer than Shane Ratigan to explain last week’s decision and its impact on ecommerce merchants. He is senior manager, state and local tax for Clark Nuber, a Seattle-based accounting and consulting firm. He’s a longtime nationwide authority on online sales tax matters.

I spoke with Ratigan earlier this week. What follows is our entire audio conversation and a transcript of it, condensed for length and clarity.

Practical Ecommerce: Tell us about the decision.

Shane Ratigan: The Wayfair case was very deliberate. The state of South Dakota purposely passed legislation in violation of what, at the time, was Supreme Court precedent. The state sent this test balloon, if you will, partially in response to some language that Justice [Anthony] Kennedy had inserted in a sales tax case from a few years ago.

Justice Kennedy took the opportunity to invite the legal community to come up with a proper case for the Supreme Court to rehear and redecide what was the physical presence standard in Quill. The state of South Dakota took the opportunity and created legislation that was specifically designed to fast track through the courts.

The state lost at every turn, which, ironically, is exactly what it wanted. They knew they had passed a law that was violative of Quill. For plaintiffs, the state identified three online providers, Wayfair, Overstock, and Newegg.

Likely there were no surprises on either side. South Dakota passed this law with complete knowledge and understanding that it was violative of Supreme Court precedent. I would guess that the defendants were at least given notice. The desire for some clarity on what the future was going to look like was held by both the states in the regulated community [merchants].

PEC: What did the South Dakota law contain?

Ratigan: The crux of the law is it changes the manner in which states determine who’s obligated to collect their sales tax. For a state to obligate an out of state vendor to collect its sales taxes, it needed to prove or assert that the out of state vendor had some sort of physical presence within the taxing state.

In Quill, the justices thought that they were drawing a line in the sand with coming up with this physical presence test. The states went to work, almost immediately, trying to tug and pull and massage that concept of physical presence to gain more collectors.

It created a lot of diversity between the states in determining what was a nexus-creating activity, which allowed companies to operate in a way that was specifically designed to avoid the collection obligation.

Now, under Wayfair, the analysis is more simple. It is how much revenue is derived in that state by that remote seller. Your nexus is now triggered as a remote seller if you meet the threshold — $100,000 in annual sales or 200 annual transactions.

PEC: What’s the immediate impact to merchants nationwide?

Ratigan: This year, if you’re going to sell more than $100,000 into South Dakota, or you’re going to have more than 200 transactions, it’s time to act.

Of all the states with a sales tax, only about 16 or 17 of them have passed similar laws to South Dakota. The states are all watching what’s happening. Some of the laws are written with an effective date when and if the Supreme Court overturns Quill.

It’s easy to get the impression that starting tomorrow, every state is going to collect. It’s not true.

PEC: You mentioned that the court used the South Dakota law a model. What aspects of the law are you referring to?

Ratigan: They looked at the South Dakota law, and they said that it addresses three key requirements.

The first one is what the court calls the small seller exemption. If you’re selling less than $100,000 a year into South Dakota or not reaching 200 annual sales transactions, this doesn’t change anything for you.

Second, the South Dakota law is not retroactive. The state cannot say, for example, you had $100,000 in sales in 2015, we’re going to audit you for 2015 since you should’ve been collecting. The law precludes that.

The third thing that the court liked about the law was that South Dakota is a member of the Streamlined Sales Tax Governing Board. Streamlined Sales Tax Project is a voluntary group of states — 23 of them — with a sales tax. Over the years they have met and tried to standardize some of the more prickly elements of sales tax compliance.

PEC: The small seller exemption, is that a permanent exemption?

Ratigan: Yes, but the exemptions in Wayfair only refer to those thresholds to the obligation of the seller to collect the tax. Nothing in Wayfair eliminates or alters the consumer’s obligation to remit use tax on anything they buy.

Justice Kennedy alludes to this in the decision. He said that the consumer remitted use tax is likely the most evaded tax in the history of the world.

PEC: So if I live in South Dakota and buy a couch online from a small seller who is beneath the threshold, under the new law I am still responsible for paying use tax on that couch.

Ratigan: Yes. The decision doesn’t affect the taxation of any given transaction. It only affects who is obligated to collect and pay it.

PEC: In light of Wayfair, do you anticipate a response from Congress?

Ratigan: The U.S. Congress over the last 25 or 30 years hasn’t been great at solving big problems. Moreover, the Marketplace Fairness Act and the Remote Transactions Parity Act both set up a threshold, a small seller exemption, and prevented states from applying the rules retroactively. Neither of those became law. The South Dakota law is very similar to those.

I just don’t see Congress undoing the Wayfair decision.

PEC: Anything else?

Ratigan: Keep in mind that Wayfair does not change the past. If you are a company that has had a physical presence in a state for years, you still have to deal with those past periods.

The Quill precedent was law until June 21, 2018. We’ll see how aggressive the states are at looking at past periods. I don’t think they’ll be any less aggressive than they are now. If a state can assert that your company had a Quill presence in a prior period, you might be on the hook.

PEC: What about pending cases involving, say, a physical presence?

Ratigan: The states have no interest in dropping those cases, I wouldn’t think, unless they decide not to spend the money to pursue them

Kerry Murdock
Kerry Murdock
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