Sales and Use Tax Updates

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Recent Supreme Court ruling on sales tax nexus:

On June 21, 2018, the US Supreme Court issued its much-anticipated ruling in South Dakota Vs. Wayfair. The US Supreme Court has held that Quill corp Vs. North Dakota and National Bellas Hess Inc Vs. Department of Revenue of Illinois, are overruled because Quill`s physical presence rule is unsound and incorrect.

Background – History of physical presence standard

  • Before the decision in Wayfair, a state could compel an out-of-state seller to collect sales tax only if the seller has “Physical presence” in the state.
  • In other words, out-of-state sellers are not required to collect and remit sales taxes if those retailers were not physically located in the taxing state. In those cases, buyers are supposed to pay use tax.
  • In a series of cases, the US Supreme Court established a general rule of “substantial nexus” which requires an out-of-state seller to have a physical presence in a state before that state can require the seller to collect and remit sales and use taxes.

    Important cases where physical presence standard was established are

    • Quill corp Vs North Dakota
    • National Bellas Hess Inc Vs Department of revenue of Illinois
  • Physical presence can be created by employees or other agents, property owned or leased in the state or other factors.

South Dakota Vs Wayfair case:

  • With no income tax, South Dakota relies on sales taxes for funding. From the states perspective, it loses massive tax revenue to internet retailers that don’t collect South Dakota sales tax (due to absence of physical presence).
  • State of South Dakota passed a legislation that requires out-of-state retailers to collect South Dakota sales tax if the retailer
    • Had annual gross revenue of more than $100,000 from sales in South Dakota
    • Completed more than 200 sales annually in South Dakota
  • After the law enacted, South Dakota sent notices to several companies about the new law and advised companies to register to collect South Dakota sales tax.
  • When the sellers did not register, the state sought a declaratory judgement against them.
  • After losing in South Dakota Supreme Court, State appealed in US Supreme Court.
  • US Supreme Court opined that physical presence standard is unsound and incorrect and issued a 5-4 ruling in favor of South Dakota state.

Implications of Wayfair case:

  • The decision opens the door for states to enact laws that require remote sellers to collect and remit sales or use tax regardless of whether they have a physical presence in the taxing jurisdiction.
  • However, states are still required to limit their taxation to sellers and service providers where a substantial nexus exists with the state.
  • The short-term outcome of this opinion is that states will likely act quickly to amend their sales tax statutes to reflect the holding of the court and begin levying sales and use tax on any interstate commerce that has substantial nexus.
  • In long term, states may begin pushing the envelope of the requirements of the holding, trying to stretch the definition of substantial nexus.