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U.S. Supreme Court Overturn's Physical Presence Rule in Holding States Can Require Out-of-State Sellers to Collect Sales Tax

By David E. Colmenero and Alex J. Pilawski on June 21. 2018

On June 21, 2018, the United States Supreme Court issued its opinion in South Dakota v. Wayfair, Inc., et al. In a 5-4 decision, the Court held a state can require out-of-state sellers with no physical presence in the state to collect sales tax on sales of goods or services delivered into the state. This holding overrules the long-standing physical presence rule previously established in National Bellas Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 753 (1967) and upheld in Quill Corp v. North Dakota, 504 U.S. 298 (1992), which the Court stated is “unsound and incorrect.”

At issue was a South Dakota statute that required out-of-state sellers to collect and remit sales tax “as if the seller had a physical presence in the State” if the seller, on an annual basis, delivered more than $100,000 worth of goods or services into the state or engaged in 200 or more separate transactions for the delivery of goods or services into the State. This statute was drafted with the goal of having the Supreme Court revisit its previous decisions in National Bellas Hess and Quill. Additionally, forty-one States, including Texas, two Territories, and the District of Columbia filed an amicus brief asked the Court to overrule the physical presence test.

The Court held the South Dakota law was a valid exercise of the State’s sovereign power and satisfied the constitutional requirements of the Commerce Clause. The Court explicitly stated that “Quill was wrong on its own terms when it was decided in 1992” and that “the Internet revolution has only made the error all the more egregious and harmful.” The Court noted that the physical presence rule becomes further removed from economic reality each year and results in significant revenues losses for the States. Additionally, while the Court noted that Congress has the authority to change the physical presence rule, it could not change the constitutional default rule, and as such, “[i]t is inconsistent with the Court’s proper role to ask Congress to address a false constitutional premise of this Court’s own creation.”

The decision is a significant win for States who have argued that the physical presence test is an outdated standard that causes them to lose significant sales tax revenues. Multiple states currently have laws of varying degrees that tax internet sales. Of more immediate concern to out-of-state sellers is whether and to what extent States will seek to apply this decision retroactively. Out-of-state sellers will want to be vigilant in the coming days and weeks for announcements from States addressing how they intend to apply the Wayfair decision.

Below is a link to a more comprehensive discussion of the Wayfair decision.

The U.S. Supreme Court Invalidates the Physical Presence Standard It Previously Upheld in Quill v. North Dakota: Remote Sellers Beware!