Just the mention of “taxes” can cause stomachs to tighten, but Thursday’s Supreme Court ruling in South Dakota v Wayfair is inducing anxiety in small business owners who aren’t sure exactly how it impacts them and if they need to take any immediate action.
While the case was about a specific law in a single state (South Dakota), one part of the Court’s decision throws a longstanding rule-book out the window, leaving lots of questions in its wake.
South Dakota had filed a lawsuit against three online retailers that said they didn’t have to collect its sales tax because they had no physical presence in that state, a standard set by the Supreme Court in 1992 in Quill v North Dakota. The retailers were correct under Quill, but South Dakota challenged the decades-old ruling – and succeeded.
The Supreme Court took the highly unusual step of overruling Quill on Thursday, meaning that a retailer who has no “physical nexus” in a state may still have “substantial nexus” and be required to collect and remit that state’s sales tax.
Suddenly, it’s a whole new ball game – on page 11 of the opinion, Justice Kennedy wrote, “Physical presence is not necessary to create a substantial nexus.” Online sellers everywhere took a collective gulp: the Court’s statement was clear, but the ramifications were not.
Not only does the physical nexus standard disappear, leaving online sellers vulnerable, the Supreme Court didn’t define “substantial nexus.”
By overruling Quill, the Court now relies on an earlier case, Complete Auto Transit, Inc. v. Brady, which said a state may tax interstate commerce so long as the tax does not create any effect forbidden by the Commerce Clause, and established a four-prong test when it came to laws impacting interstate commerce:
(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 South Dakota Supreme Court had ruled against the state because its law was in conflict with Quill, but now that Quill is dead, the United States Supreme Court said the SD court should look at the case again. In legal parlance, the US Supreme Court “vacated” the state supreme court decision in South Dakota v Wayfair and “remanded” it (sent it back).
“Because the Quill physical presence rule was an obvious barrier to the Act’s validity, these issues have not yet been litigated or briefed, and so the Court need not resolve them here.”
However, the Supreme Court gave broad hints about the validity of South Dakota’s sales tax law when it wrote the following:
“In this case, however, South Dakota affords small merchants a reasonable degree of protection. The law at issue requires a merchant to collect the tax only if it does a considerable amount of business in the State; the law is not retroactive; and South Dakota is a party to the Streamlined Sales and Use Tax Agreement.”
And it wrote, “South Dakota’s tax system includes several features that appear designed to prevent discrimination against or undue burdens upon interstate commerce.”
eBay is reading a lot into that, saying it was “pleased that the Court was very clear about the importance of protecting small businesses from unfair burdens.”
But even eBay recognizes that states could become aggressive – and that it may be sellers who have to bear the legal brunt of fighting such overreaching. In a post about the ruling, Cathy Foster, VP of Global Government Relations and Public Policy at eBay, said “If state tax authorities attempt to subject remote small businesses to expensive audits and lawsuits, there will be increased litigation across the country to protect small businesses from unfair burdens.”
eBay CEO Devin Wenig shared his similar thinking in a series of tweets, stating that a possible “chaotic state by state patchwork of uncertainty and litigation that could take years to resolve and could find its way back in the SCOTUS” is reason for the federal government “to step in now and provide clarity on a national tax regime that protects small business.”
this paints the picture of a chaotic state by state patchwork of uncertainty and litigation that could take years to resolve and could find its way back in the SCOTUS.
— Devin Wenig (@devinwenig) June 22, 2018
Sellers have time for the South Dakota Supreme Court to revisit South Dakota v Wayfair – but what about other states that have similar laws? They could argue that online sellers are immediately required to collect sales tax now that Quill is dead – and those states without such laws may quickly try to enact them.
But sellers rightly operating under Quill may not have been collecting state sales tax on transactions prior to June 21st – how quickly will states expect sellers to comply with the new reality?
We spoke to some experts and are working on a follow-up, but don’t expect the fear, uncertainty, and doubt to disappear. The High Court sent the case back to the state supreme court to deal with. And while South Dakota’s law defines nexus as annual sales of $100,000 or 200 separate transactions, each state has created or will create its own thresholds.
Note that by comparison, Congress set a bar of $20,000 and more than 200 payments when setting a threshold for Form 1099K, though that’s across the entire country. But unlike the 1099K provision, the “or” in South Dakota’s law means a seller who makes 200 sales of $20 items to South Dakota residents ($4,000) would have to collect sales tax from them and remit the tax to the state. In a high-population state, that would impact many small sellers.
While sales tax doesn’t come out of the seller’s pocket (they collect it from the buyer) – the cost of complying can be steep in terms of both time and money.
The Supreme Court showed it has faith in tax-compliance software programs, writing: “Eventually, software that is available at a reasonable cost may make it easier for small businesses to cope with these problems. Indeed, as the physical presence rule no longer controls, those systems may well become available in a short period of time, either from private providers or from state taxing agencies themselves.”
“And in all events,” it wrote, “Congress may legislate to address these problems if it deems it necessary and fit to do so.”
Should sellers feel comforted knowing they can rely on software or Congress?
Stay tuned for our next piece where we’ll have more on what the experts had to say, and in the meantime, leave a comment on the AuctionBytes Blog.