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States Looking to a Potential Judicial Solution to the Quill Conundrum

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Mar 3rd 2016
Director of Tax Research Department Sovos Compliance
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Change is heading to the world of sales tax. The US Supreme Court’s ruling in Quill Corp. v. North Dakota continues to restrict the ability of states to assess sales tax, even though the rise of e-commerce in the years afterward has drastically changed the retail market. States find themselves unable to raise the revenue they see as their due, and so they are increasingly looking for workarounds.

Whether by some federal rule or through individual state legislation, change is coming to how sales tax is assessed, creating a sword of Damocles over e-commerce retailers. As accountants, it will be crucial to stay on top of any changes that do occur, as seemingly overnight, your client’s sales tax liability could suddenly explode.

On March 3, 2015, the US Supreme Court announced its decision in Direct Marketing Association v. Brohl. In this case, a retail trade association challenged legislation enacted by the state of Colorado in 2010. The legislation requires sellers that do not have a tax collection and remittance obligation (i.e., nexus) with the state of Colorado, but that have gross sales in Colorado exceeding $100,000, to provide notice of use tax liability to their customers (via information contained on the sales receipt and via an annual notice) and also to provide information on these transactions directly to the Colorado Department of Revenue.

In the end, the Supreme Court remanded the case to the 10th Circuit to render a decision on the merits, and in a recent development, the 10th Circuit held in favor of the state of Colorado, declaring the Colorado law to be constitutional.

The rationale for this and similar notice requirements lies in the inability of states to impose tax collection and remittance obligations on sellers not physically present in their jurisdiction. This requirement is a product of the decision in National Bellas Hess v. Department of Revenue of Illinois that was later affirmed in the well-known Quill case.

Over the past few years, as Congress continues to debate the Marketplace Fairness Act, the Remote Transactions Parity Act, and similar legislation, states have looked for avenues to increase tax collections while still abiding by requirements affirmed in Bellas Hess and Quill. At their heart, notice provisions and “click through” nexus rules represent attempts by states to test the margins of Quill. However, what we would like to take a minute to explore are measures being enacted by states that are designed to deal Quill a death blow.

Kennedy’s Call to Arms
In the Brohl decision, Justice Anthony Kennedy wrote a concurring opinion that has proved to be an effective call to arms for state governments. In his concurrence, Kennedy noted that the Bellas Hess case was decided more than 50 years ago and the later Quill decision was based more on the importance of precedent rather than an affirmation of the rule on its merits.

Justice Kennedy believes that the time may be right for a more comprehensive review, especially “in view of the dramatic technological and social changes that had taken place in our increasingly interconnected economy.” Kennedy goes on to note that the current physical presence standard creates “a startling revenue shortfall in many states, with concomitant unfairness to local retailers and their customers who do pay taxes at the register.” In this environment, Kennedy believes that it is “unwise to delay any longer a reconsideration of the Court’s holding in Quill” and “[t]he legal system should find an appropriate case for this Court to reexamine Quill and Bellas Hess.”

States Answer Kennedy’s Call
Alabama was the first jurisdiction to enact rules that appear to be in direct response to Kennedy’s concurrence. In normal circumstances, Alabama represents the epitome of sales tax complexity. Tax applies at any number of varying jurisdictional levels (state, county, city/police jurisdiction, and/or district), rates can differ depending on what you might be selling (agricultural products, manufacturing machinery, amusements, vending, motor vehicles, rentals, etc.), rates change all the time, and return filing represents a sea of complexity.

Effective Oct. 1, 2015, Alabama enacted its Simplified Sellers Use Tax Remittance Program. Under the program, approved sellers that do not have traditional nexus with Alabama are allowed to collect and remit tax on sales to Alabama customers at the special rate of 8 percent. This 8 percent rate is designed to replace the traditional standard state rate of 4 percent, as well as all the varying local rates. The 8 percent rate also applies in lieu of all the special rates described above. Approved sellers would remain obligated to not charge tax on any exempt items.

In the beginning, participation was entirely voluntary. However, the voluntary nature of the program quickly changed. Specifically, Administrative Rule, 810-6-2-.90.03 (effective Jan. 1, 2016) requires those sellers that have retail sales of tangible personal property into the state, totaling more than $250,000, to collect sales tax on transactions with Alabama customers. This requirement applies even if the only connection the seller has with Alabama is that it solicits orders via advertising or if it has a subsidiary business in Alabama acting as a distribution facility. Sellers required to collect tax pursuant to this new requirement are permitted to utilize the simplified program described above.

In other words, Alabama’s new rule creates nexus based exclusively on economic presence and provides a simplified method for these sellers to become compliant. Alabama is currently admitting businesses into this program, and while we think a legal challenge is likely, it appears to be just the case that Kennedy is looking for.

It does not appear that Alabama will be alone for long. Any number of states may be considering similar legislative or regulatory changes. In South Dakota, for example, the state Legislature is currently considering SB 106, which would require anyone selling tangible personal property, products transferred electronically, or services to collect South Dakota tax, regardless of physical presence, if their gross revenues from sales to South Dakota customers exceed $100,000 and take place through more than 200 separate transactions.

It’s likely we’ll see a snowball effect with other states, as they continue to look for ways to get their piece of pie. Keeping a pulse on these legislative updates, by following websites like AccountingWEB or blogs like Taxify’s, will help you protect your client from the potential risk of sales tax liabilities.

Related articles:

The Truth About Sales Tax Nexus
Equally Equal: Why the New Internet Sales Tax Bill Works

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