Supreme Court Rules That States May Collect Taxes on Out-of-State Retailers

By Mark Walsh — June 21, 2018 3 min read
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In a potentially major boost to the coffers of states, cities, and school districts, the U.S. Supreme Court on Thursday cleared the way for the enforcement of sales taxes on Internet purchases from retailers that don’t have a physical presence in a state.

The court ruled 5-4 in South Dakota v. Wayfair (Case No. 17-494) that the physical-presence rule developed in two precedents from 1967 and 1992 was constitutionally unsound.

“The Internet’s prevalence and power have changed the dynamics of the national economy,” Justice Anthony M. Kennedy wrote for the majority. “This court should not prevent states from collecting lawful taxes through a physical-presence rule that can be satisfied only if there is an employee or a building in the state.”

His opinion was joined by Justices Clarence Thomas, Ruth Bader Ginsburg, Samuel A. Alito Jr., and Neil M. Gorsuch.

Chief Justice John G. Roberts Jr. wrote a dissent that was joined by Justices Stephen G. Breyer, Sonia Sotomayor, and Elena Kagan.

“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,” Roberts said. “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.”

Thomas and Gorsuch each wrote brief concurring opinions.

In the majority opinion, Kennedy cited figures from court filings suggesting that the physical-presence rule was causing states to lose between $8 billion and $33 billion each year.

Kennedy himself had invited a challenge to the two precedents in a 2015 concurrence in a different sales-tax case.

The 1967 precedent was National Bellas Hess Inc. v. Department of Revenue of Illinois, in which the court held that under its commerce clause jurisprudence, states could not collect sales or use taxes from out-of-state retailers unless the retailer had a physical presence such as facilities or sales representatives. A quarter-century later, in its 1992 decision in Quill Corp. v. North Dakota, the court somewhat reluctantly upheld the rule from Bellas Hess as a matter of stare decisis.

“Because of Quill and Bellas Hess, states have been unable to collect many of the taxes due on” Internet purchases, Kennedy wrote in that 2015 case. “States’ education systems, health-care services, and infrastructure are weakened as a result.”

In 2016, South Dakota passed a new sales-tax law that says that a retailer’s economic presence in the state, such as through the minimum $100,000 in sales or 200 transactions, is enough to establish a nexus that would require the retailer to collect sales taxes.

The state’s supreme court ruled against the law, saying that the physical-presence rule of Bellas Hess and Quill still prevailed.

In the Supreme Court, three retailers sued by South Dakota—Wayfair Inc., Inc., and Newegg Inc.—defended the physical-presence requirement by saying that retailers and consumers had come to rely on the arrangement.

But four education groups—the National School Boards Association, AASA, the School Superintendents Association, the National Association of Elementary School Principals, and the Association of School Business Officials International—joined with the National Governors Association in a friend-of-the-court brief on South Dakota’s side.

“The physical nexus requirement results in a loss of crucial revenue from owed taxes that state and local governments depend on to fund basic government functions,” including education, the brief said.

Kennedy said Internet retailers now have “substantial virtual connections” to a state and that “there is nothing unfair about requiring companies that avail themselves of the states’ benefits to bear an equal share of the burden of tax collection.”

A version of this news article first appeared in The School Law Blog.