Online Sales Tax
A recent U.S. Supreme Court ruling has opened up new avenues for states to demand that online retailers collect online sales tax from customers, even if those businesses are not actually physically located in the given state (South Dakota v. Wayfair, No. 17-494, June 21, 2018). This change comes in contrast to the controversial Quill v. North Dakota case (504 U.S. 298, May 26, 1992), and it places Internet sellers on the same tax footing as traditional brick-and-mortar retailers, creating a rising need for business tax accounting in e-commerce settings.
New Changes in Online Sales
In 2016, South Dakota enacted legislation that demands that all merchants collect a 4.5 percent tax if they made more than 200 individual transactions or received more than $100,000 in yearly sales from state residents. Three large online retailers — Newegg, Overstock.com, and Wayfair — did not comply, and they were sued by the state.
In particular, Wayfair was recognized by Justice Anthony M. Kennedy (who wrote the majority opinion) for playing up the omission of state online sales tax when advertising. The courts ruled in favor of online retailers. The most recent reversal by the Supreme Court, however, has changed the business tax accounting landscape once again.
In his writings, Justice Kennedy made particular note of how the retail landscape has shifted since the Quill case occurred in 1992. In 1992, mail-order sales totaled $180 billion, whereas in 2017, online retail sales alone were approximately $453.5 billion. When combined with brick-and-mortar remote sellers, the total was greater than $500 billion in 2017.
“When it decided Quill, the Court could not have envisioned a world in which the world’s largest retailer would be a remote seller,” the opinion stated. It went on to say, “The Internet’s prevalence and power have changed the dynamics of the national economy.”
The court’s opinion was that the expenses associated with complying with different tax regimes in today’s digital world are largely irrelevant to whether or not a company has a physical location, or nexus, in a particular state. At the same time, the majority opinion provides room for certain transactions to be exempt from sales tax collections, such as if they’re random or very small. Additionally, the court did not offer any guidance on whether states can collect retroactive online sales tax.
An Overview of Sales and Use Taxes
With the exception of Alaska, Delaware, Montana, New Hampshire and Oregon, 45 states, plus the District of Columbia, impose a sales tax on businesses. Companies within these states are required to collect this sales tax when transactions occur. Additionally, these states have a “use tax” that is essentially the same as the sales tax, with the difference being that the former is applied when businesses do not collect sales tax immediately, instead delivering merchandise into the states.
These two types of taxes are never applied together; it is always one or the other. In the past, companies of all sizes collected and remitted both sales and use taxes to respective government authorities. However, the rise of online businesses drastically changed the landscape, creating a need for online sales tax regulations and, in many cases, new approaches to business tax accounting.
In the early days of online retail, there was no definitive decision made on sales tax responsibilities. However, it was only a matter of time before states realized they could generate tax revenue from online businesses, especially corporate giants such as Amazon. For that reason, those laws were often referred to as “Amazon laws.” At this time, Amazon willfully collects taxes on products sold directly, but not for third-party transactions.
The Quill Case
In the Quill case that occurred in 1992, the United States Supreme Court determined that states can require online retailers to collect and remit sales and use taxes only if the company has a presence or “nexus” in that state. In most cases, that meant the business had some sort of physical location in the state, such as a delivery center or a warehouse. Without the presence of a physical location, online retailers were not obligated to require customers to pay a tax.
Further complicating business tax accounting matters, numerous states, including New York and California, boosted their attempts to collect online sales tax by changing the core concept of “nexus.” Naturally, this led to a confusing mess of varying state laws. Simultaneously, the Congress struggled with proposed laws that would impose sales tax collections nationally.
In the meantime, brick-and-mortar store owners were unhappy about the competitive shortcomings they were forced to endure. However, no laws were set in place by Congress, so the Supreme Court was left to make the decision.
Dissenting Opinion Focuses on Small Businesses
Chief Justice John G. Roberts wrote the dissenting opinion in the Wayfair case, recognizing that previous rulings, such as the decision in the Quill case, were less than ideal. However, he also determined that there was not enough cause for the top court to overturn the previous ruling.
The dissenting opinion said, “E-commerce has grown into a significant and vibrant part of our national economy against the backdrop of established rules, including the physical-presence rule. Any alteration to those rules with the potential to disrupt the development of such a critical segment of the economy should be undertaken by Congress.”
Chief Justice John G. Roberts also stated that the ruling is significant for businesses both small and large. However, smaller companies may struggle to comply with the many varying online sales tax regulations throughout the United States, which is why having an experienced business tax accounting team on your side is can be crucial for online retail. For professional advice on Internet retail taxation, contact us today.