On June 21, 2018, the Supreme Court of the United States handed down a historic decision in the sales and use tax nexus case South Dakota v. Wayfair, Inc. The ruling overturns historical requirements upheld in previous cases that called for the existence of a true “physical presence” before a state could impose sales and use tax collection obligations on a taxpayer. Taking its place is a much lower and vague threshold known as “economic nexus.” This decision is one of great significance, making it far more likely that many businesses will be required to register and collect sales and use tax in jurisdictions where they have not been required to do so in the past. It is imperative that business owners and managers who oversee sales and use tax compliance become aware of just how unfettered states are under the new standards – both in terms of enforcing existing rules and imposing new ones.
Nexus describes the amount and degree of a taxpayer’s business activity that must be present in the state before the taxpayer becomes subject to the state’s taxing jurisdiction. If a taxpayer has established sales and use tax nexus, it will be required to register, and collect and remit sales and use taxes on sales made to purchasers in that state.
States exercise their power to tax through statutes, case law, regulation or policy. Generally, state statutes are broadly written and include phrases such as “doing business in” or “deriving income from” to describe activity that will trigger nexus and thus a filing obligation. Statutes tend to vary from state to state.
Some examples of activities that can create nexus in a state under the physical presence standards are having employees working there, having property in the state, and using 3rd party independent representatives to solicit sales in the state.
In recent years, many states have become more aggressive in enacting various statutes that require out-of-state sellers to collect and remit sales tax. Over half of the states that impose a general state-wide sales taxes now have addressed a form of “economic” nexus. Under these economic nexus standards, nexus is generally established based on a certain threshold of economic activity in a state, such as the volume of sales to or number of transactions with in-state purchasers, rather than just a physical presence. Until the Wayfair case was decided, it was not clear that the relatively new concept of economic nexus would survive judicial scrutiny.
Significance of the Wayfair Case
In 2016, South Dakota passed an economic presence statute that required out-of-state sellers to collect and remit sales tax as if the seller had a physical presence in the state if certain economic thresholds are met. Under the statute, nexus (and therefore sales tax collection and filing requirements) is created if an out-of-state seller delivers more than $100,000 of goods or services to purchasers in South Dakota or engaged in 200 or more separate transactions in South Dakota in the current calendar year or the prior calendar year. The case was ultimately heard by the U.S. Supreme Court, which concluded that the long-standing physical presence rule is unsound and incorrect. By overturning the physical presence rule, the Court opened the door for states to impose sales tax nexus based on economic presence.
The U.S. Supreme Court’s decision in Wayfair will affect companies that have an economic presence in states that assert economic nexus. It will especially impact online businesses and other remote sellers that do not have a physical presence in these “economic nexus” states, and therefore did not have any sales and use tax collection and filing requirement. Most immediately, out-of-state sellers that deliver goods or provide services into a so-called “economic presence” state will need to determine if the business exceeds the state’s specific economic sales or activity thresholds, generally in the prior calendar year or previous 12 months. Currently 25 states have enacted economic nexus models with varying enforcement dates. Not surprisingly, with the Wayfair blood in the water, some states have put forth warnings indicating that they will be establishing thresholds and issuing further guidance. Sellers may need to conduct an analysis of their sales and transactions for each state that has adopted, or plans to adopt, economic nexus threshold requirements for sales and use tax collection to ensure they are in compliance with all jurisdictions. It is also reasonable to expect that states may use this ruling to determine economic nexus thresholds for state income tax purposes as well.
Now is the Time to Review Your Sales and Use Tax Compliance Requirements
It cannot be emphasized enough that the landscape of sales and use tax compliance has been significantly altered with the recent Wayfair decision, especially for remote sellers. It is important to understand where your business has nexus and how the recent ruling may impact your taxes and reporting requirements.
Disclaimer of Liability: This publication is intended to provide general information to our clients and friends. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.