What is the Significance of South Dakota v. Wayfair to Your Business?

In June of 2018, the Supreme Court decided a case in favor of a South Dakota law allowing the state to collect sales tax from sales to its citizens from out-of-state online retailers.[1] A South Dakota statute provided for the collection of sales tax on sales by out-of-state retailers who sold more than $100,000 in sales or who completed 200 or more transactions annually. If an online retailer, with no physical connection to the state of South Dakota, went over those thresholds, it would be liable for sales tax collected on each of the sales which the retailer, would have to remit to the state. The court overruled long-standing previous precedent which generally required that the retailer have a physical presence in the state before sales tax was required to be collected.

Before Wayfair, the Quill case provided that in order for a state to tax interstate commerce, the business needed to check four boxes. It needed a substantial nexus with the taxing state, the taxes levied needed to be fairly apportioned, the taxes could not discriminate against interstate commerce, and the taxes needed to be fairly related to the services the state provided.[2] At issue in this case was the substantial nexus question, which arose due to the growing number of online retailers. The substantial nexus necessary to impose a tax was most typically found to be present when the retailer maintained a physical presence in the state. This meant that if a business was situated outside of the state and selling via the internet, it did not usually have a substantial nexus and therefore had a slight advantage over businesses located inside the state in not having to charge sales tax on online sales.

The Court ruled that this was improper stating, “By giving some online retailers an arbitrary advantage over their competitors who collect state sales taxes, Quill’s physical presence rule has limited States’ ability to seek long-term prosperity and has prevented market participants from competing on an even playing field.”

Commerce clause challenges such as this one are notoriously difficult since the Court has to ensure that the state’s regulations do not discriminate against or impose undue burdens on interstate commerce. Perhaps that is why the Court was divided five to four on this issue, with the minority recognizing that the practicalities of business compliance with 50 potentially different sales tax laws could pose a serious issue. The suit centered around three retailers in particular: Wayfair, Inc., Overstock.com, Inc. and Newegg, Inc., but according to some CNBC articles, small businesses are the true losers of this case. According to experts, large national online retailers like Amazon have robust sales tax compliance programs already in place, but the smaller online retailers who will now have to accommodate 50 new sets of rules in order to continue nationwide sales are facing a huge compliance hurdle.

What is certain is that this decision was a huge win for the individual states. Since the Supreme Court ruled that this type of law is constitutional in South Dakota, other states can now bet that similar laws will also be upheld. In fact, this has resulted in a recent flurry of legislation surrounding online sales tax by the states to come up with their own similar laws. The Supreme Court allowed the South Dakota parameters requiring over $100,000 in sales or over 200 transactions per year, but not all states currently have the same specifications. A lot of states jumped on South Dakota’s bandwagon after the decision was published using the same thresholds. A few, however, like Connecticut and Georgia are more lenient with a $250,000 threshold, and others, like Pennsylvania and Oklahoma are more stringent, with Pennsylvania having no minimum transaction number and a mere $10,000 threshold.

So is your business prepared? Do you have an online presence, and if you do, are you registered to file sales tax returns according to each state’s requirements where sales take place? Although small businesses without e-commerce abilities are not affected by this decision, others with web sales are scrambling to understand and comply with dozens of new tax procedures to legally sell outside of their home states. If you have not already, now might be the right time to enlist the help of some tax professionals to reexamine your business’s internet sales practices.

[1] SD v. Wayfair, Inc., 138 S. Ct. 2080 (2018).

[2] Quill Corp. v. ND, 504 U.S. 298 (1992).