U.S. Supreme Court Reverses Law on a state’s right to compel mail-order/internet sellers to collect sales tax on products delivered to that state
Our Constitution in its Commerce Clause prevents states from discriminating against or unduly burdening interstate commerce. Commerce has obviously changed considerably in the almost 250 years since the Constitution was written: sales taxes were once collected only on local transactions: but as remote sales by “mail-order” became more prevalent, it became less clear as to which states could charge sales taxes on these sales.
The Supreme Court in earlier decisions had held that a state must prove a mail-order seller had “physical presence” in that state before it could compel that seller to collect sales tax on goods sold and delivered to that state. Beginning in 1991, when Tim Berners-Lee invented the Internet, the physical presence test logically was extended to on-line sales as well. The Physical Presence Test required that a remote seller could be required to collect sales tax in the destination state only if the company maintained:
- A store in the state;
- A warehouse in the state;
- An office in the state; or
- A salesperson in the state.
In South Dakota v. Wayfair, the U.S. Supreme Court has ruled that the Physical Presence Test no longer determines individual states’ rights to require mail order and internet sellers to collect sales tax on products delivered to that state. The court recited that the massive growth of on-line sales, which has allowed Amazon to pass Wal-Mart as the world’s largest retailer, requires a change in the laws governing interstate commerce tax collection.
Referring to the creation of the internet, the court stated that in 1992, less than 2% of Americans had internet access: today the number is 89% and while in 1992, mail-order sales in the U.S. totaled $180 billion, in 2017, e-commerce sales alone were over $450 billion. The Court ruled that such massive changes required change to the laws regarding state regulation and taxation of interstate commerce.
The South Dakota law which was upheld was crafted to allow it to survive judicial challenges and to be reasonable to administer:
- It only applied to sellers who annually deliver more than $100,000 of goods and services or had more than 200 separate transactions in South Dakota per year, and
- along with more than 20 other states, South Dakota has adopted the “Streamlined Sales and Use Tax Agreement” which standardizes tax collection to reduce administrative and compliance costs for remote retailers, including providing sales tax administration software which protects sellers who use it from audit liability.
The Supreme Court was split 5-4 in this decision. Chief Justice Roberts’ dissent agreed with the majority’s conclusion that the massive shift in commerce supported a change in the law – but he argued that it was not the Court’s place to abandon its precedents to make that change. Rather, he felt that Congress, which is charged with regulating interstate commerce, should act, not the Courts. He also noted that, as Amazon has now decided to collect sales tax on all sales, the problem has begun to dissipate.
Individual states have been trying to legislate “Amazon Laws” for years under the old Physical Presence Test. Under Illinois’ 2015 law, a retailer must collect sales tax from Illinois customers if that retailer’s gross sales to Illinois customers exceeds $10,000 in the preceding four (4) quarters and if has an agreement with a person located in Illinois to pay for customer referrals obtained via a link on the Illinois customer’s website (a click-through arrangement). Most of our clients are not aware that, under Illinois law, if an Illinois resident buys on-line and the retailer does not comply with the Illinois “Amazon Law” or if that law does not apply to the retailer in Illinois, the resident is required to pay the tax directly to Illinois – the tax is then called a “Use Tax” rather than a sales tax and an annual use tax return must be filed by the Illinois resident.
However, many types of products (books, newspapers, magazines, sheet music and musical recordings, for example) are exempt from such sales/use tax. The complexity resulting from these conflicting details makes compliance with Use Tax collection quite problematic.
At the end of the day, this Supreme Court ruling will likely cause all states to revisit their “Amazon Law” to broaden its application – and increase their interstate commerce sales tax revenues under the new standards. Whether our clients have a business which sells on-line, by mail order or are just on-line consumers, we urge you to keep an eye on Illinois legislative attempts to step through the door opened by the South Dakota v. Wayfair case.