The Lawletter Vol 43 No 5
On January 12, 2018, in South Dakota v. Wayfair, Inc., 138 S. Ct. 735 (2018) (Mem.), the U.S. Supreme Court granted a petition for writ of certiorari with respect to the decision by the Supreme Court of South Dakota in State v. Wayfair Inc., 2017 SD 56, 901 N.W.2d 754, holding that a state statute that requires Internet sellers with no physical presence in the state to collect and remit sales tax violated the dormant Commerce Clause of the U.S. Constitution.
In reaching this decision, the Supreme Court of South Dakota had relied on the prior rulings from the United States Supreme Court in National Bellas Hess, Inc. v. Department of Revenue, 386 U.S. 753 (1967), and Quill Corp. v. North Dakota, 504 U.S. 298 (1992), holding that the Commerce Clause of the federal Constitution prohibits a state from requiring an out-of-state seller to collect and remit sales or use tax with respect to mail-order and similar sales and shipments of merchandise to in-state purchasers unless the former has a "physical presence" in the taxing state. Accordingly, the Supreme Court of South Dakota upheld the lower court's summary judgment order in favor of the out-of-state internet sellers involved in that case.
The U.S. Supreme Court decision in South Dakota v. Wayfair, Inc., 138 S. Ct. 2080 (2018), expressly overruled Quill and National Bellas Hess and held that an out-of-state seller's physical presence in a taxing state is not necessary for the state to require the seller to collect and remit sales tax on purchases by customers. Going forward, the new test for determining the taxability of Internet, mail-order, and similar interstate sales is “whether the tax applies to an activity with a substantial nexus with the taxing State." Id. at 2099. According to the Wayfair Court, "[s]uch a nexus is established when the taxpayer [or collector] 'avails itself of the substantial privilege of carrying on business' in that jurisdiction." Id. (citing Polar Tankers, Inc. v. City of Valdez, 557 U.S. 1, 11 (2009)). Noting that “the physical presence rule has ‘been the target of criticism over many years from many quarters,’” the Supreme Court cited a concurring opinion by Justice Gorsuch in a tax case that he considered while he was a federal circuit court of appeals judge. Id. at 2092 (citing Direct Mktg. Ass’n v. Brohl, 814 F.3d 1129, 1148, 1150-51 (10th Cir. 2016)). In Brohl, Justice Gorsuch had opined that Quill was flawed because the physical presence rule is not a necessary interpretation of the requirement that a state tax must be applied to an activity with a substantial nexus with the taxing state. Furthermore, according to the Gorsuch opinion, Quill created, rather than resolved, market distortions. And finally, Quill imposed the sort of arbitrary, formalistic distinction that the Court's modern Commerce Clause precedents disavow.
The majority opinion, delivered by Justice Kennedy, concluded as follows:
The Quill Court itself acknowledged that the physical presence rule is "artificial at its edges." 504 U.S., at 315, 112 S. Ct. 1904 [sic]. That was an understatement when Quill was decided; and when the day-to-day functions of marketing and distribution in the modern economy are considered, it is all the more evident that the physical presence rule is artificial in its entirety.
Modern e-commerce does not align analytically with a test that relies on the sort of physical presence defined in Quill.
Id. at 2095.Future editions of the Lawletter will provide updates on how lower courts apply the somewhat ambiguous "substantial nexus" test in particular cases.