The United States Supreme Court's decision in South Dakota v. Wayfair has created a tax compliance nightmare for some businesses. Before June 21, 2018, merchants only had to collect and remit sales and use taxes in states where they had a physical presence (a physical office, store, warehouse, or employees, for example.) That is still necessary, but now it is also necessary to comply with the sales and use tax laws of any state with which your business has an economic nexus, as well.
What is an "economic nexus"? Unfortunately, there is no single answer. Each state makes its own rules, and they vary widely. Each state also has different tax rates, specifies different taxable and exempt goods and services, and has different rules, procedures and deadlines for compliance.
Economic Nexus by State
Tax laws vary widely with respect to definitions, nexus, rates, additional local taxes, what kinds of products and services are taxable, exemptions, and many other details. They are also in a state of flux. This information is not legal advice or a substitute for the advice of a professional.
Sales tax obligations can be triggered by having a physical presence in a state, regardless of whether economic nexus exists
A state cannot require a person to collect and remit taxes unless the person or the person's activity has a "substantial nexus" with the state. The requirement derives from the Commerce and Due Process Clauses of the U.S. Constitution. The U.S. Supreme Court has held that imposing taxes on sales to residents of other states imposes a constitutionally impermissible burden on interstate commerce unless the vendor has a substantial connection to the other state.
So far, it appears that merely using a third-party instrumentality of interstate commerce to conclude a transaction with a resident of another state is not enough to establish a nexus to the state in which that person resides, at least if it is not part of a continuous or systematic series of transactions with such residents, or for a large amount of money. Using the U.S. Mail to deliver a product probably is not enough. although using your company-owed vehicle for this purpose might be. The Court has eschewed any bright-line tests, though.
The presence of an of the following things might suffice to establish nexus:
Merely publishing advertising in a state probably is not enough. Business transactions resulting from it might be, though.
Servers and Cookies
Some states assert "nexus" on the basis of an out-of-state vendor's use of a server that is physically located in the state to conduct business with residents of the state. Other states do not.
A small handful of states have even gone so far as to provide that the placement of a cookie on a resident's computer establishes a "physical presence" in the state..
Some vendors agree to pay a website owner a small fee when a user clicks on a link the website owner agrees to place on his or her site (or when a sale results from a visitor's click on the link.). This is a kind of affiliate marketing. An affiliate is much like an independent sales representative. As such, the market maintenance theory suggests that the affiliate’s physical presence in a state, coupled with its “pitching” of the product to potential buyers in the state, will suffice to establish a substantial nexus between the vendor and each state in which the vendor has an affiliate. Unlike most sales representatives, however, an online affiliate rarely has any contact with the people who decide to make a purchase from the vendor, and an affiliate is not often an agent or employee of the vendor. In most cases, an affiliate doesn’t even know the identity of the people who click on the links on his website. These aspects of the transaction make an affiliate marketer look more like an advertiser than a sales representative.
The legislatures of a number of states have chosen to resolve this ambiguity in favor of treating affiliates as sales representatives rather than as mere advertisers. New York has such a law. Today, a significant number of states have such laws. In many cases, they exempt pay-per-click, banner, and other advertising arrangements if payment is based solely on the number of clicks. If the arrangement is one that provides for payments to an affiliate only if a sale actually results from a click on a link on the affiliate’s website, though, then the vendor is liable to the state for taxes on sales that result. Different revenue thresholds apply in different states.
A growing number of states have enacted laws that premise nexus on high sales volume and/or dollar amounts, without need for any physical presence at all. Several states have only gone so far as to require vendors to notify buyers that they must report and pay state use taxes on their purchases. Another approach, pioneered by the Arizona legislature, is to treat a provider of an online marketplace for third-party products as if the provider of the marketplace is the seller of the products, for tax purposes, if the provider has a substantial nexus with the state of Arizona. For example, if an Arizona man owns a website on which other merchants sell their products, then the Arizona man would be treated as the seller and would be responsible for collecting and remitting tax on all taxable sales.
South Dakota enacted a law imposing use taxes on sales to residents by out-of-state vendors with no physical presence in the state when the vendor makes more than 200 sales or earns more than $100,000 in revenues from goods and services delivered to residents of the state. In June 2018, the U.S. Supreme Court upheld the constitutionality of this statute, In South Dakota v. Wayfair, Inc. Since then, many states have enacted “economic nexus” laws similar to South Dakota’s. Although some use the same volume thresholds (200 sales or $100,000 revenues), others specify different amounts.
What Is a "Use" Tax?
A use tax is a tax imposed on the use, consumption or storage of personal property in a state. It is essentially a “backstop” for uncollected sales tax The two taxes are mutually exclusive. A business that collects and pays sales tax on a sale does not need to collect and remit use tax, and vice versa. Typically, sales taxes are imposed on sales to residents of the state in which the seller is physically present (and collected and remitted by the seller); use taxes are imposed in connection with purchases from out-of-state merchants as to which sales tax has not been paid.
Many states require purchasers to pay use tax on items they use, consume or store in a state but for which the seller did not collect or pay sales tax, if the sale would have been taxable had the purchaser bought it in the state where the purchaser uses, consumes or stores it. In the absence of a nexus between the seller and the state, however, payment of use taxes is solely the purchaser’s responsibility, not the seller’s. If there is a nexus between a state and the seller, then a state may require a seller to collect the use tax from the buyer and remit it to the state.
States historically have been lax in their enforcement of use tax laws. With increasingly more sales being conducted online, however, that trend is changing, at least with respect to e-commerce companies with significant sales volumes.
After Wayfair, economic nexus may be asserted as another possible basis for imposing an obligation to collect and remit use taxes on out-of-state merchants, provided the relevant volume and/or amount thresholds are met.