Article prepared by FGMK Tax Senior Associate Jeffrey Golds
On June 21, 2018, the United States Supreme Court (the “Court”) issued its ruling in South Dakota v. Wayfair, Inc. (https://www.supremecourt.gov/opinions/17pdf/17-494_j4el.pdf) and overturned its prior decisions in Quill Corp. v. North Dakota (1992) and National Bellas Hess v. Department of Revenue of Illinois (1967). This decision has wide ranging impact, and presents a victory for traditional retailers which now appear to be on more equal footing with internet sales. States, including Illinois, will now enact laws that require large online retailers, such as Amazon, as well as remote sellers selling via catalogues, telephone, mail order, etc. to collect sales tax regardless of the customer’s location.
Illinois lawmakers included language in budget bills passed last month to allow the state to begin collecting sales tax from online and remote sellers that lack physical presence in the state. The law goes into effect October 1, 2018.
For additional discussion with regard to the ruling, please read below. In addition, FGMK will be hosting an upcoming July webinar during which Chuck Schultz and Matt Fuller will discuss the impact of the decision on the marketplace and with respect to FGMK’s client base.
Summary of South Dakota Law & Case History
South Dakota enacted the Digital Sales Tax (the “Act”) which imposes sales tax collection duties on retailers with more than $100,000 in annual sales or more than 200 individual transactions in the state of South Dakota, regardless of where the seller is located. South Dakota had filed suit in state court seeking a declaration that the Act’s requirements were valid and applicable, and an injunction requiring respondents to register for licenses to collect and remit the sales tax. Respondents, including Wayfair, an online furniture seller, sought summary judgment, arguing the Act was unconstitutional. The trial court granted respondents’ motion for summary judgment, and the State Supreme Court affirmed on the grounds that Quill was controlling precedent. The case was appealed to the Court.
In a 5-4 decision, the Court determined that the physical presence test developed by Quill was “unsound and incorrect”. In issuing its opinion, the Court determined that the Quill decision was wrong, and that the physical presence test is “flawed on its own terms”. However, the Court did not declare a formal rule for determining whether or not any particular state’s digital sales tax law is constitutional. Rather, the Court stated that “any remaining claims regarding the commerce clause’s application in the absence of Quill” need to be determined on remand.
Effect of United States Supreme Court’s Ruling
With Quill and National Bellas Hess no longer having effect, the general rule regarding nexus is the rule established in Complete Auto Transit v. Brady (1977). In Complete Auto Transit, the Court held that a tax will be sustained as 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.” Stated simply, states will likely need to show only that their tax has a substantial nexus to the state. While the Court determined that the Act satisfies the substantial nexus test under Complete Auto Transit, it did not preclude the possibility that the Act could fail some other test under the Commerce Clause. That being said, the general belief is that the model established by South Dakota’s Act will likely pass constitutional muster: it has been deemed to have substantial nexus; and the Court stated that, as a law, it is unlikely to burden interstate commerce. It is less clear whether other models, including Colorado’s notice and reporting regime or Massachusetts’s “cookie nexus” regime will be deemed to be constitutional.
It is possible a great deal of states will take steps to implement South Dakota style sales tax statutes. In addition, many states, including Illinois, have already drafted sales tax collection laws set to take effect upon the overturning of Quill. With that condition met, these laws will go into effect. It is worth noting that, though not a dispositive fact in its decision, the Court cited the fact that the Act was not retroactive as a fact in its favor: should states attempt to impose digital sales tax laws retroactively, it might invite litigation. It is also possible that Congress will take steps to implement national standards and rules regarding the collection of sales tax from out of state retailers. In the short term, the only real certainty is that the physical presence test under Quill is no longer applicable.
If you have additional inquiries as to the Court decision and potential impact for your clients, please contact FGMK.
Matt Fuller Jeff Golds
SALT Practice Leader Specialty Tax Practice
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