This June, the U.S. Supreme Court drastically altered the landscape of state taxation when it issued its decision in South Dakota v. Wayfair, Inc. The Court held that a business with no physical presence in a state can be required to collect and remit the sales tax of that state. Prior to Wayfair, the controlling case, Quill v. North Dakota, required that a company have physical presence in a state before the state could impose a tax or tax collection obligation on the company. Wayfair has created additional complexities that vary from state to state.
The impact of the Wayfair decision is that states are now able to impose tax or a tax collection obligation on an out-of-state company based only upon its "economic presence" in the state. Economic presence does not replace the physical presence standard; rather, the U.S. Supreme Court expanded states" jurisdiction to tax based on either physical presence or economic presence. Failing to address new filing obligations created by Wayfair (and not passing the burden of the tax to the end user, in the case of a sales or use tax), a business could place up to 10 percent of its revenue in a particular state at risk, based primarily on a state's sales tax rate, penalties and interest for noncompliance.
For sales/use tax purposes, states generally are determining economic presence based on a minimum threshold of total dollar amount of sales in the state and/or a minimum number of individual sales transactions with consumers in the state over a defined period of time, usually the current or prior calendar year. For example, the threshold used by the South Dakota statute at issue in Wayfair that is also being adopted by a number of additional states is a threshold of more than $100,000 in sales, or 200 or more separate sales transactions in the state in a prior or current calendar year. However, the thresholds being adopted vary among states. If a business exceeds one or both of the thresholds depending upon the state, then it is considered to have economic presence.
Case Study 1: A company in Texas makes remote sales into North Carolina starting in January 2019, averaging $10,000 in sales monthly and five transactions. The company would have $100,000 in sales into North Carolina at the end of October and an economic presence in North Carolina starting in November 2019, even though the company only had 50 total sales into North Carolina for all of 2019. The company would be required to register, collect and remit sales tax 60 days from when the economic presence was established on all sales into North Carolina.
Case Study 2: The same company makes remote sales into South Dakota starting in January 2019 and averages $5,000 in sales per month and 25 sales transactions per month. The company would only have $60,000 in sales for all of 2019 but would have 200 separate sales transactions with South Dakota customers at the end of August 2019. The company has created economic presence in South Dakota by meeting the sales transactions threshold, even though it had only $60,000 of total sales to South Dakota customers in 2019.
The threshold for the dollar amount and number of sales, the duty to collect and remit local sales tax, the time period considered for measuring the threshold, and the effective date vary from state to state. A company should consult with its tax advisor as to where it has economic presence nexus or could in the future.
The consequences of the Wayfair decision can reach beyond just the obligation to collect and remit sales/use tax in a particular state. Economic presence nexus for state income and franchise taxes is also implicated by Wayfair. Further, the limits of the Wayfair decision do not stop at the U.S. border. U.S. tax treaties with other countries generally do not apply to state and local taxes. If a business based in a foreign country has an economic presence in a state, then it would also be considered to have a substantial nexus, even if it is located outside of the U.S.
What Should You Do? Proactive companies in a post-Wayfair world will work with their tax advisor to determine how the changes will impact their business and the availability of software solutions to aid in the process of determining what should be taxed and maintaining compliance with the states.
Brett Osterkamp is a CPA and senior manager, BDO, Fort Worth. He's writing this column for the Fort Worth CPAs, a regular contributor to Fort Worth Inc.