It’s the Wild West as far as state sales taxes go, and the states are winning. This statement may not seem to apply to online retailing, but it’s an appropriate way to describe what’s currently taking place in that space. Since June 2018, when the U.S. Supreme Court ruled in favor of South Dakota in South Dakota v. Wayfair, Inc., et al., state governments across the country have been hastily—if not haphazardly—passing legislation to tax sales that internet vendors make within their borders. The Supreme Court’s decision overturned Quill Corp. v. North Dakota, a 1992 ruling that barred states from compelling retailers to collect sales or use taxes on internet sales made to residents unless the business had a physical presence (e.g., an office, a storefront, a storage facility, or sales reps) in the taxing state.
While the Wayfair decision shocked many business owners, it’s been a long time coming. Online retail has exploded in the years since the Quill ruling, and states have missed out on millions of dollars in tax revenue due to the physical presence standard. South Dakota was the first to successfully challenge the rule, taking the law into its own hands by passing Senate Bill 106 in March 2016. The bill, which has become known as “kill Quill” legislation, required online retailers that had sales in excess of $100,000 or with more than 200 transactions per year to state residents to collect and remit taxes.
Wayfair fought Bill 106 before it started being enforced, and a lower court declared it unconstitutional, citing the Quill decision. South Dakota officials pressed on, and the Supreme Court eventually agreed to hear the case. In their 5-4 majority decision, the justices sided with South Dakota and ruled that the physical presence requirement established by Quill was “unsound and incorrect” in the current age of internet services.
Regardless of the rationale for the ruling, the impact of Wayfair will be far-reaching and profound. To date, almost every one of the 45 states that assess a general sales tax has already enacted similar legislation as South Dakota. Any business that exceeds the bright-line sales totals in any or all of those states must register, collect, and remit taxes on the transactions. It’s a sales tax compliance nightmare, to be sure, particularly since there’s little consistency to the thresholds or enforcement dates. Many states used the same parameters and time frames as South Dakota, while others developed their own standards and timelines.
Let that sink in a minute, then think about the potential ramifications. In theory, a company with sales evenly spread throughout the United States could trigger a sales tax filing requirement in all 45 states, that impose a sales tax, in addtion to local jurisdictions. This scenario would prove especially burdensome—or potentially catastrophic—for small and midsize companies, whose margins are already razor-thin and profit lines are based on the volume of sales they make. Many businesses that fall into these categories could face additional annual administrative costs in the $50,000 to $100,000 range in order to comply.
On the other hand, the states that enact new Wayfair-type economic nexus sales tax laws will realize an economic windfall. Online sales of physical goods amounted to more than $501 billion in the United States last year and are projected to eclipse $740 billion by 2023. Considering that states generate roughly 25 percent or more of their revenue from sales taxes, the financial boon will be substantial for their individual coffers. It’s estimated that South Dakota alone will collect approximately $50 million annually from the e-commerce tax.
Some industry observers believe that the Wayfair decision eliminates what many traditional retailers have long argued is an unfair advantage for online sellers that previously didn’t have to charge sales taxes. In June 2018, following the ruling, Corey Tollefson, senior vice president and general manager for retail at enterprise software company Infor, penned a column in Entrepreneur magazine in which he stated, “[Wayfair] has the potential to drastically change the reliance of shoppers on e-commerce and give brick-and-mortar increased opportunity in a market that has more recently been focused on digital.” He went on to say that internet-based businesses “will have to shift their strategy to retain and attract their customers online.”
In years past, this argument may have been true, as many shoppers purchased products and services via the internet rather than in a store to avoid paying taxes. However, time-pressed consumers have become so accustomed to the ease and convenience of online shopping that paying a few extra dollars in taxes will do little to dissuade them from continuing to do so in the future.
What’s an internet retailer to do? Other than shuttering operations, there’s nothing you can do but comply. These rules aren’t going away; in fact, they could grow more stringent and eventually lead to federal legislation. Audits will almost certainly increase, and companies that fail to comply will face civil, and in some cases criminal, penalties.
Given the stakes and the fact that the rules have already gone into effect in many states, the time to act is now. If you do business online, you should:
- Consult Your Tax Advisor. An experienced advisor, particularly one well versed in state and local tax planning, can outline how and to what degree the laws in each state impact your business.
- Conduct a Nexus Study. Once you determine the states in which your sales exceed established thresholds, you’ll know where you must register your company for tax-filing requirements.
- Develop a Solution. Do you need to update your current sales tax process? How and when must a return be filed? Should you purchase a software solution to assist with sales tax compliance? Is it more cost-effective to outsource or manage the collection and remittance process in-house? These are just a few of the questions your tax professional can help you answer as you work together to create strategies that ensure compliance and mitigate exposures.
Love it or hate it, the Wayfair decision transformed the sales tax landscape, rendering obsolete the “old” ways of doing business online. If you make a considerable amount of sales digitally and plan to continue doing so moving forward, you’ll most likely be forced to adjust your operations and make investments to comply with the new rules. Otherwise, you risk running afoul of the law and jeopardizing your entire enterprise.
Wild West or not, that’s a state of affairs that would challenge the resolve of even the most fearless of online trailblazers.
Jeremy Migliara, CPA, is a principal in the Tax practice of Elliott Davis and leader of the firm’s State and Local Tax (SALT) specialty group. He can be reached at email@example.com.