Does Your Business Need to Collect Sales Tax on Out-of-State Online Sales?

Have you heard about the recent Supreme Court decision, South Dakota v. Wayfair, Inc., allowing state and local governments to impose sales taxes on out-of-state online sales? The ruling may be good news for many brick-and-mortar retailers and state and local governments. Online retailers no longer have an unfair advantage against brick-and-mortar stores while governments can now collect more sales tax.

But for businesses with out-of-state online sales who didn’t collect sales tax from out-of-state customers in the past, the decision brings many questions and concerns.

Previous Requirements for Out-of-State Online Sales Tax

Even before South Dakota v. Wayfair, Inc., a state could require an out-of-state business to collect sales tax from its residents on online sales if the business had a “substantial nexus” with the state. The nexus requirement is part of the Commerce Clause of the U.S. Constitution.

Previous Supreme Court rulings had found that a physical presence in a state (such as retail outlets, employees or property) was necessary to establish substantial nexus. Due to this ruling, some online retailers have already been collecting tax from out-of-state customers while others have not had to.

Changes from South Dakota v. Wayfair, Inc.

In Wayfair, South Dakota had enacted a law requiring out-of-state retailers that made at least 200 sales or sales totaling at least $100,000 in the state to collect and remit sales tax. The Supreme Court found that the physical presence rule is “unsound and incorrect,” and that the South Dakota tax satisfies the substantial nexus requirement.

The Court said the physical presence rule puts businesses with a physical presence at a competitive disadvantage compared with remote sellers that needn’t charge customers for taxes.

Additionally, the Court found that the physical presence rule treats sellers differently for arbitrary reasons. A business with a few items of inventory in a small warehouse in a state is subject to sales tax on all of its sales in the state, while a business with a pervasive online presence but no physical presence isn’t subject to the same tax for the sales of the same items.

What the Supreme Court Decision Means

Wayfair doesn’t necessarily mean you must immediately begin collecting sales tax on online sales to all of your out-of-state customers. You will be required to collect such taxes only if the particular state requires it. Some states already have laws on the books similar to South Dakota’s, but many states will need to revise or enact legislation.

Also, remember the substantial nexus requirement isn’t the only principle in the Commerce Clause doctrine that can invalidate a state tax. The others weren’t argued in Wayfair, but the Court observed that South Dakota’s tax system included several features that seem designed to prevent discrimination against or undue burdens on interstate commerce, such as a prohibition against retroactive application and a safe harbor for taxpayers who do only limited business in the state.

Please a Barnes Wendling service enterprise advisor with any questions you have about sales tax collection requirements.

 

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