Changes to Sales & Use Tax: South Dakota v. Wayfair Inc.

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Technology changes quickly. The law changes slowly. A recent example of the law catching up to changes in technology is the US Supreme Court’s decision in the 2018 case South Dakota v. Wayfair Inc.; Overstock.com, Inc.; and Newegg, Inc. By a 5-to-4 vote, the court overruled two of its previous decisions to find that states have the power to tax online retailers even though the businesses do not have a “brick-and-mortar” presence in the state.

The requirement that a business must have some tangible, physical operation in the jurisdiction to be subject to a state’s sales tax levies was established in Quill Corp. v. North Dakota, a 1992 case that affirmed the court’s decision in the 1967 case National Bellas Hess, Inc. v. Department of Revenue of the State of Illinois. Those cases predated the tremendous growth of internet commerce; at the time of the Quill decision, only 2% of US residents had access to the internet, according to Forbes.

Post-Wayfair, most states enacted economic nexus legislation to require remote sellers who reach various threshholds to collect and remit sales tax.  Many states are also requiring “marketplace facilitators,” such as Amazon or Etsy, to collect and remit sales tax on behalf of their vendors. These changes in state sales tax laws, which vary considerably by state and have different effective dates, are having a profound impact on retailers across the country. In the aftermath of the Wayfair decision, businesses will rely increasingly on tax professionals to understand and comply with their state tax obligations for online sales.

Sales and Use Tax Law Prior to 2018

The primary legal question underlying the Wayfair decision and the two cases it overruled was this: Where do states get their power to tax?

The US Constitution requires a “nexus,” or connection, between the taxpayer and the state. The question at issue in these cases was whether that nexus can be “minimum” or must be “substantial.” The “minimum nexus” standard falls under the due process clause of the 14th Amendment. By contrast, the “substantial nexus” standard is established via the commerce clause of the Fifth Amendment, which applies to the states via the 14th Amendment’s due process clause.

Brick-and-mortar stores in the state qualify as a substantial nexus, and that was the legal standard established by National Bellas and affirmed in Quill prior to the court’s decision in Wayfair. (Quill extended the ruling in National Bellas to apply the brick-and-mortar requirement for sales tax liability to online retailers.) The Supreme Court reversed its earlier decisions by ruling in Wayfair that the brick-and-mortar standard for state tax liability put retailers with a physical presence in the state at an unfair disadvantage compared to online retailers that were not subject to the sales tax requirements.

The 45 states that levy sales taxes concurrently apply “use” taxes to residents. (The five states that do not levy taxes on sales are Alaska, Delaware, Montana, New Hampshire and Oregon.) Use taxes are intended to cover the use, storage or consumption of goods sold in the state that are not subject to the state’s sales tax. The “use” component of the sales and use tax requires the state’s residents to pay the same tax on such items that they would have paid if they had bought the products from a brick-and-mortar merchant.

The South Dakota v. Wayfair Inc. Ruling

Critics of the Wayfair decision point out that online retailers are struggling to figure out which sales tax laws apply to their sales. State sales tax regulations and rates vary by jurisdiction. Rates may differ from county to county and city to city. The burden of calculating the correct sales tax rate may be onerous for small and midsize businesses that do not regularly employ tax law professionals.

In his majority opinion in South Dakota v. Wayfair, Justice Anthony Kennedy acknowledged the burden the decision places on the online retail industry but concluded that the issue was not in front of the court in the current case. Analysts conclude that the added burden placed on online retailers by the decision may be raised in future cases before the court as a reason to modify or overrule the Wayfair decision.

Other critics of the decision in Wayfair claim that it flies in the face of the legal principle of stare decisis, which states that once the court has decided a matter, the decision should be followed in subsequent cases. Chief Justice John Roberts wrote in his dissenting opinion in Wayfair that if the decision in Quill ruled that National Bellas applies as a precedent, “it should be an even greater impediment to overruling precedent now.”

The court’s decision in Wayfair has had a ripple effect on state and local taxes that could impact consumers’ online shopping experiences and other aspects of e-commerce. The National Taxpayers Union Foundation states that “the result will be a ‘new normal’ of state tax power that was unimaginable even a few years ago.” The group contends that small businesses and internet entrepreneurs will be particularly disadvantaged by the efforts of state and local tax agencies to increase the tax revenue they collect.

How Tax Professionals Can Help with Compliance

The implications of the South Dakota v. Wayfair decision are far reaching and unsettled. A Supreme Court decision affecting such a broad swath of commerce is bound to cause a great deal of confusion and uncertainty for online merchants, their customers and their business partners. Tax professionals must be able to answer their clients’ questions relating to their obligation to monitor sales by state and other jurisdictions; whether they need to charge sales tax on transactions with out-of-state customers; and how the decision impacts affiliate sales the company may make via Amazon Marketplace, Overstock.com or other platforms.

The Tax Foundation, an independent tax-policy nonprofit, outlines the concerns online merchants and their customers have about their responsibilities in light of the Wayfair ruling:

  • How quickly will states be able to amend their sales tax laws to raise revenue under the Wayfair decision?
  • Will the Wayfair decision raise the price of the goods and services purchased over the internet?
  • Will there be any limits placed on the level of sales tax increases the states are allowed to levy?
  • Is there any chance that the US Congress will set a minimum standard for states that attempt to tax interstate sales?
  • Will the process of calculating and collecting the sales tax be onerous and burdensome?

Having complete and accurate answers to, or analysis of, these and other questions that businesses have about the impact of the Wayfair decision on their operations requires a thorough understanding of relevant tax laws and regulations. These and other issues that directly affect a business’s bottom line are the focus of Villanova University’s Master of Laws in Taxation and Master of Taxation programs. The Master of Laws in Taxation is intended for attorneys looking to develop a specialty in taxation; the Master of Taxation is intended for accountants and business professionals who seek greater knowledge of tax law and practice.

Both degree programs offer a State and Local Tax (SALT) Certificate. The five courses in the SALT specialty can be taken in conjunction with a degree program or as a stand-alone program. The SALT curriculum equips tax professionals to provide guidance on the effects of changes to state and local tax laws on businesses of all types and sizes.

Build Your Career as a Tax Professional

Under the Wayfair decision, businesses will be challenged to ensure they are accurately calculating their sales tax liability for online transactions. This is only one of many areas where fundamental changes in tax law create uncertainty. Tax professionals are responsible for advising their clients on the best strategies for minimizing their tax liabilities in fast-changing regulatory environments.

Learn how Villanova University’s Master of Laws in Taxation and Master of Taxation programs and the SALT Certificate provide tax professionals with the advanced skills and expertise that can serve as the foundation for a successful career.

 

Recommended Readings

Sales Tax: From SALT to Federal Sales Taxes, Use Taxes and the VAT

How Lawyers Can Benefit from a Master of Laws in Taxation

Tax Automation: The Future of Corporate Tax Planning and Reporting

 

Sources

Forbes, “New Sales Tax Rules Take Effect This Week in More Than a Dozen States”

Forbes, “Supreme Court Kills Quill, Gives States More Authority to Collect Sales Tax”

Harvard Law Review, South Dakota v. Wayfair, Inc.: Dormant Commerce Clause

National Taxpayers Union Foundation, “South Dakota v. Wayfair: What It Means”

Tax Foundation, “What Does the Wayfair Decision Really Mean for States, Businesses, and Consumers?”

U.S. Supreme Court, “National Bellas Hess, Inc. v. Department of Revenue of the State of Illinois”

U.S. Supreme Court, “Quill Corp. v. North Dakota”

U.S. Supreme Court, “South Dakota v. Wayfair, Inc., Overstock.com, Inc., and Newegg, Inc.”

Villanova University, Master of Laws in Taxation

Villanova University, Master of Taxation

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