What the landmark Supreme Court decision on e-commerce tax means for retail
With precedent struck down, the law heads back to South Dakota, where it is likely to be upheld.
Update: This story has been updated to include comment from Etsy on the effects the decision could have on small businesses.
After decades of fights on Capitol Hill and in states across the country, the U.S. Supreme Court in a narrow 5-4 decision on Thursday struck down two long-standing precedents in the e-commerce state sales tax debate, clearing the way for states to require e-tailers to collect and remit state sales tax. But there's one more hurdle to jump before South Dakota's law could become a model for other states.
Without precedent in place (Quill Corp. v. North Dakota and National Bellas Hess Inc. v. Department of Revenue of Ill.), the 2016 law establishing an economic standard, as opposed to a physical presence one, will now head back to the South Dakota courts for an official decision after the justices issued a remand. Tax experts told Retail Dive that the courts are likely to uphold the law, which proposes state sales tax collection and remittance be required if an online seller does more than $100,000 worth of business, or processes more than 200 transactions in the state.
In the court's majority opinion, Justice Anthony Kennedy wrote that the precedents to the law at hand were "unsound and incorrect," a sentiment echoed even by justices who dissented the decision to overturn precedent.
"The physical presence rule has long been criticized as giving out-of-state sellers an advantage," Justice Kennedy wrote. "Each year, it becomes further removed from economic reality and results in significant revenue losses to the states. These critiques underscore that the rule, both as first formulated and as applied today, is an incorrect interpretation of the Commerce Clause."
The opinion also cited that precedent has caused South Dakota to lose between $48 million to $58 million annually. In November, the U.S. Government Accountability Office published a report indicating that collectively states were losing between $8.5 billion to $13 billion in annual uncollected taxes on e-commerce purchases.
"By giving some online retailers an arbitrary advantage over their competitors who collect state sales taxes, Quill's physical presence rule has limited states' ability to seek long-term prosperity and has prevented market participants from competing on an even playing field," Kennedy also noted in his opinion, which Justices Clarence Thomas, Ruth Bader Ginsburg, Samuel Alito and Neil Gorsuch joined. Chief Justice John Roberts filed a dissenting opinion, which Stephen Breyer, Sonia Sotomayor and Elena Kagan joined.
Broadly, the high court's decision is a win for states as well as brick-and-mortar retailers, who have long argued that e-commerce businesses have been given an unfair price advantage by not charging sales tax. The court didn't find sympathy for the likes of Wayfair and Overstock — both of which in statements issued Thursday said their businesses would not be significantly affected by the ruling and that they would comply (Newegg, which is also a respondent in the case, did not issue a press release).
But the extent to which small e-commerce businesses, including third party marketplace sellers, could be hurt by the costs of compliance is one of many still unanswered questions.
What's next for e-commerce companies?
As the law awaits the South Dakota court system's review, it is unclear whether e-commerce respondents will offer new arguments against the law, as statements from the companies involved haven't indicated they will continue to challenge the courts. Steve DelBianco, president and CEO of NetChoice, told Retail Dive in an interview that the trade group currently has a lawsuit against the state on this issue, which it is reconsidering with its members.
Wayfair welcomed the "additional clarity provided by the Court’s decision," in a statement on the matter Thursday. "Wayfair already collects and remits sales tax on approximately 80% of our orders in the United States, a number that continues to grow as we expand our logistics footprint. As a result, we do not expect [Thursday's] decision to have any noticeable impact on our business, as it may on other retailers who do not currently collect and remit sales tax."
While the states won on overturning precedent, they didn't win a Supreme Court ruling on what the standard should be across states, which means there's likely a lot of litigation to come from state to state, Andy Pincus, a lawyer at Mayer Brown who filed a brief to the high court on behalf of eBay, told Retail Dive in an interview.
"We are a long way from online businesses collecting in every state in the union," he said. "What they need to be doing is looking at what happens in South Dakota, looking at their laws and figuring out what they have to do to comply with what the court has said with respect to the undue burden test and not treat this as a green light."
What's most problematic, he said, is that for now, e-commerce companies are in a period of uncertainty. DelBianco says that will grow into "chaos."
"The court has upset the apple cart and dumped apples all over the streets of America where small business have learned how to go online to find customers around the country," he said. "Now, that store with a website is facing 45 additional state tax auditors and over 10,000 new tax jurisdictions. With that chaos, I think a lot of these small businesses will find themselves running into the arms of marketplaces like Amazon to take over the collection burden."
For Amazon's part, it already collects sales tax in every state with such levies. However, it does not collect and remit sales tax on behalf of its third-party sellers (except in a few states), which provide over half of Amazon's retail sales. Credit Suisse estimates Amazon Marketplace has sales of around $135 billion.
Paul Rafelson, Pace University law professor and co-founder of the newly formed trade association Online Merchants Guild, told Retail Dive in an interview that he is concerned that states now feel "empowered" to go after small marketplace sellers. He added that many sellers who use Fulfillment By Amazon could go bankrupt over the issue if groups like his don't step in to file new lawsuits across the states.
Currently, 31 of the 45 states with a sales tax have provisions to tax online sellers without a physical presence, according to the Tax Foundation. While some of those laws are crafted in a way similar to South Dakota's — which provides a small business exemption, free sales tax software and does not impose retroactive taxes — others put larger compliance burdens on out-of-state retailers.
Will other states follow suit?
Considering many states already have legislation similar to South Dakota's because of the Streamlined Sales Tax project, which the Supreme Court cited as helpful, many more states are likely to begin collecting too, Joe Bishop-Henchman, executive vice president of the Tax Foundation, told Retail Dive in an interview. However, the threshold for compliance will vary greatly, potentially making things difficult for states more populous than South Dakota.
"South Dakota's law said if you have less than $100,000 in sales into the state and fewer than 200 transactions than you don't have to collect. Let's say New York were to pass that threshold. Well, $100,000 goes a lot further in South Dakota than it does in New York. Two hundred transactions? I mean you could probably do that in one day in New York compared to South Dakota."
If a state wants to collect quickly, Bishop-Henchman said states should do their best to emulate South Dakota. Those who have been involved in the state's case from the beginning, including Deborah White, senior executive vice president and general counsel at the Retail Industry Leaders Association and president of the Retail Litigation Center, had hoped all along the case would end up being a model for others.
"What this does is rationalize the playing field, regardless of whether [companies] are contributing to the local community or are entirely remote and shipping in product from out of state. Everyone has the same obligation and that's important regardless of the delta of the retail economy," she said on a conference call with journalists Thursday. The decision is a major win for retail groups like RILA and the National Retail Federation, which have been working to remove Quill through Congress and through the states for decades.
Yet, some groups on both sides of the issue — although more on the e-commerce side — are concerned that some states will carve their own, more aggressive path, and many are still calling on Congress to step in on the issue.
"With Quill gone a state or city could tomorrow morning issue a regulation including back taxes without any protection for small businesses. Watch for that to happen because that will provide the motivation for Congress to act," DelBianco said.
While not the decision that Etsy advocated for, CEO Josh Silverman in a blog post Thursday pointed out that Chief Justice John Roberts in his dissenting opinion acknowledged that the court's decision to strip precedent will disproportionately burden small businesses.
"There are currently significant complexities in the thousands of state and local sales tax laws, including different minimum thresholds, tax holidays, and product tax category rules," Silverman said. "By vacating Quill, we believe there is now a call to action for Congress to create a simple, fair federal solution for microbusinesses."
Silverman added that three quarters of Etsy sellers are companies of one, which means they have very different needs than larger online sellers like Wayfair. Ebay did not immediately respond to Retail Dive's request for comment but told MarketWatch in a statement that it was calling on Congress to address the needs of small businesses.
Overstock.com executive and board member Jonathan Johnson echoed fears in a statement Thursday. "Unless Congress responds, the Court’s ruling may remove key entrepreneurial opportunities before they even get out of the heads of the inventors."
While several relevant bills are floating through Congress, including one led by Senator Bob Goodlatte (R-VA) that has support from e-commerce groups, compromise has been elusive.
"Congress has chosen not to act on this in part because of a debate about how to do it," Bishop-Henchman said. "Some people want to remake the sales tax system completely instead of just solve this one problem. So will this change those attitudes? We'll see."
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