The Interstate Tax Grab – WSJ

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The Supreme Court’s landmark 1992 Quill decision protects small businesses across the country from tax-grubbing politicians across the country. On Tuesday the Justices will consider whether to overturn Quill and open Pandora’s box.

At issue in South Dakota v. Wayfair is whether governments can tax and regulate remote retailers that don’t enjoy the state’s representation or benefit from its public services. The Court has long held they cannot. In Bellas Hess (1967), the Court ruled that states can’t impose sales taxes “upon a seller whose only connection with the customers in the State is by common carrier or the United States mail.” The Court reaffirmed this “physical nexus” standard in Quill.

***

Fast forward 25 years. States complain that online commerce is eroding their tax base. Brick-and-mortar stores grouse that remote retailers are dodging taxes, putting them at a competitive disadvantage. Justice Anthony Kennedy teed up a challenge to the “physical nexus” standard in Direct Marketing (2015) by suggesting that online retailers may “be present in a State in a meaningful way without that presence being physical in the traditional sense of the term.”

Two dozen or so states have taken that invitation and extended sales tax to retailers with no physical presence. The “Kill Quill” laws vary in scope. New York taxes retailers that use in-state advertisers. South Dakota duns all retailers that sell more than 200 items or $100,000 worth of merchandise in the state.

Quill opponents are exaggerating their tax losses. Online commerce makes up less than 10% of retail sales, and a 2017 report by the Government Accountability Office said 87% to 96% of sales by the top 100 online retailers are taxed. Amazon collects sales tax on all customer purchases, as do

Target
,

Walmart
,

Costco

and Sears. The major exceptions are small businesses that sell on

eBay

and

Etsy
.

GAO estimates that untaxed online sales make up between 2% and 4% of state and local sales tax revenues. Sales tax growth has been robust in states with healthy economies. South Dakota’s sales tax revenues have grown more than 5% annually over the last five years. Between 2012 and 2017, state and local sales tax revenues grew by a quarter.

Politicians would prefer to soak out-of-state retailers rather than their own taxpayers. But America’s founders devised the Commerce Clause to prevent states from burdening interstate commerce and making long-arm tax grabs.

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Some 12,000 jurisdictions in the U.S. impose sales tax, twice as many as in 1992, often with disparate rules and rates. Illinois taxes Twix and Snickers at different rates. Twix is taxed at a lower rate because it includes flour and thus qualifies as “food.” Snickers is considered candy. In New Jersey, yarn is tax-exempt only if used for knitting. How are retailers supposed to divine a buyer’s purpose?

Installing and maintaining software to comply with 12,000 tax regimes could break small businesses. One business told GAO “they had just dealt with an expensive audit that lasted 3 years” and “do not have the resources to comply with similar audits from other jurisdictions.” Businesses that collect too little tax can face stiff penalties including jail time. If they collect too much, they get slapped with class-action lawsuits.

The Justice Department has filed a brief supporting South Dakota, taking the odd position that Quill should be overturned because online retailers benefit from government-built broadband. Seriously? According to Justice, businesses that operate a website have a “virtual” presence everywhere. The European Commission has invoked the same argument to impose a digital tax on Silicon Valley tech giants, which the Trump Administration has denounced as an extraterritorial tax grab.

If the Court were to adopt Justice’s virtual standard, there would be nothing to stop California from requiring remote retailers to post cancer warnings on coffee or potato chips advertised on their websites. This would vitiate the Commerce Clause.

The Court rightly held in Quill that “the underlying issue is not only one that Congress may be better qualified to resolve, but also one that Congress has the ultimate power to resolve.” Members of Congress have been working for several years on legislation that would let states enter a compact to collect a simplified sales tax from remote retailers.

But many Members have been reluctant to compromise because they hope the Court will kill Quill, which could lead to a tax free-for-all. Congress might then be even less likely to legislate a solution. Even a narrow decision that upholds South Dakota’s law would embolden states to regulate businesses outside their borders. This would be a tragedy of the commons and for the Constitution.



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