Tax departments could soon face a mountain of new activity to collect and remit state sales tax after a U.S. Supreme Court decision overruled longstanding case law regarding nexus.
In South Dakota vs. Wayfair, the Supreme Court decided states are entitled to collect tax on sales that occur within their boundaries, even when the seller does not have a physical presence, or nexus, in the state. The narrow, 5-4 decision reverses a 1992 Supreme Court decision in Quill vs. North Dakota, where the court found a selling entity should have nexus, or a physical presence of some kind, inside the state borders in order for the state to collect sales tax on a transaction.
State authority to collect sales tax has been a matter of legal debate since the advent of the internet and the ability of companies to do business with customers online. States have long wanted to collect tax on sales when customers buy merchandise and have it shipped to their doorstep from another state or country, but the nexus finding in Quill has proven to be a big obstacle.
The state of South Dakota enacted a law that said any entity that does $100,000 in sales or completes 200 or more transactions to customers in the state should be subject to sales tax. Wayfair, an online retailer of home goods, challenged the law, and the case made its way to the Supreme Court.
“When the day-to-day functions of marketing and distribution in the modern economy are considered, it becomes evident that Quill’s physical presence rule is artificial,” the Court wrote in its majority opinion. “Modern e-commerce does not align analytically with a test that relies on the sort of physical presence defined in Quill. And the Court should not maintain a rule that ignores substantial virtual connections to the State.”
The decision “ushers in a new era of compliance and sales tax assessment and collection for thousands of online businesses that, since the advent of e-commerce, have been exempt from such taxation,” said Bob Peters, managing director at Duff & Phelps. “This will create a rush of new capital investment for tax compliance software and allocation of resources to collect, remit, and file sales tax in multiple states.”
It remains to be seen, says Peters, whether Congress might take steps to clarify the Court’s complex ruling and provide certainty to the e-commerce market. “In the interim, all internet retailers, large and small, will need to re-examine their sale and use collection and reporting obligations,” he said.