The Wayfair Decision - Three Years Later

HOST: Welcome to the Cherry Bekaert Tax Beat, a conversation about tax that matters.

BROOKS NELSON: Welcome to this edition of the Cherry Bekaert Tax Beat. Today is May 25, 2021, and our main topic of discussion will be the three-year aftermath of the U.S. Supreme Court decision in Wayfair and its implications on sales and use tax. First, let's introduce my colleagues joining us on today's podcast.

SARAH MCGREGOR: Hi, this is Sarah McGregor calling in from Greenville, South Carolina.

KATHY STANTON: Hi, this is Kathy Stanton. I lead the state and local tax practice for the firm and I sit in the Washington, D.C., area.

LAUREN STINSON: Hi, I'm Lauren Stinson out of the Atlanta, Georgia office. I am a SALT partner and I specialize in sales tax.

BROOKS NELSON: I'm Brooks Nelson, a partner, and I'm sitting today in Richmond, Virginia. Sarah McGregor, how's life treating you?

SARAH MCGREGOR: Life is good, Brooks. It is hot here in Greenville; I finally had to turn the air conditioner on. Summer has arrived, and it got me thinking about Wayfair and where we were just a few short years ago.

BROOKS NELSON: Sarah, you truly are a tax geek. We have unusually beautiful weather today in Richmond. Kathy, you two up in D.C. must be enjoying it. For this session, we are focusing on the impact of the U.S. Supreme Court's ruling in South Dakota v. Wayfair, commonly referred to as the Wayfair decision. Prior to this decision, the general rule had been that if a company sold goods in a state where it had no physical presence, the company did not have to collect sales tax for that state.

BROOKS NELSON: No physical presence traditionally meant no employees, no inventory, no bricks-and-mortar stores, no trucks, no warehouses in that state. That holding was confirmed by the 1992 U.S. Supreme Court decision called Quill, which was a state-of-the-art term in this area for 20-plus years.

BROOKS NELSON: Fast forward: states faced continuing budget pressures, and e-commerce began to flourish. Those forces converged, creating pressure from states to find ways to generate tax revenue beyond the physical presence test.

BROOKS NELSON: In March 2016, South Dakota enacted a law providing that economic activity alone, without physical presence, can be sufficient to require a company to collect sales tax. In response, a group of online retailers, including Wayfair, challenged the South Dakota law that required retailers to collect and remit sales tax under an economic presence standard.

BROOKS NELSON: On June 21, 2018, the U.S. Supreme Court ruled in a 5–4 decision delivered by Justice Kennedy that South Dakota's law was not unconstitutional. The Court held that a threshold for economic activity in the state, such as $100,000 in sales or 200 transactions, could be sufficient to require a business to collect and remit sales tax.

BROOKS NELSON: Kathy, you were literally in the courtroom on the day of the oral arguments for Wayfair. What were your impressions from that experience?

KATHY STANTON: I was in the courtroom and then livestreamed outside to give my thoughts. It was an exciting day from a state tax perspective because the Supreme Court had not taken a state tax case in decades. There was a lot of interest and a long line well before the doors opened.

KATHY STANTON: My overall impressions: the Court seemed frustrated. They received amicus briefs that painted very different pictures of compliance costs—one brief said it costs $19 to file a sales tax return, another said it costs $250,000 to comply. The justices were trying to determine the truth: what is the cost of compliance and what is the burden on businesses?

KATHY STANTON: Ultimately, Quill was overturned. I think the Court regretted establishing a physical presence test and chose to leave the issue to Congress to decide whether the states had gone too far in taxing businesses outside their borders.

BROOKS NELSON: Lauren, can you give a quick description of what the term nexus means?

LAUREN STINSON: Nexus is a connection that a company has with a state. Historically, physical nexus—physical activities in a state—were the only nexus-creating activities. Because of Wayfair, simply selling enough or having enough sales to customers in the state can create a new kind of nexus called economic nexus. The two main types are physical nexus and economic nexus.

BROOKS NELSON: Is it nexus-ist or nex-i?

LAUREN STINSON: I don't know. That's a good question.

BROOKS NELSON: Lauren, you practice heavily in sales and use tax. What changes have you seen over the last three years in the big picture?

LAUREN STINSON: It has been incredible. States adopted economic nexus very quickly. In the span of three years, every state has now adopted economic nexus to some extent. Companies panicked and had anxiety about where they must collect, what they need to collect on, and how to implement processes and technology to comply. It's been a mad rush by the states and companies to comply with the new nexus environment.

SARAH MCGREGOR: Kathy, with this new nexus environment, we've been talking about sales and use tax, but are states pushing boundaries in other taxes as well?

KATHY STANTON: Yes. Wayfair was a Commerce Clause case about what states can do to reach taxpayers. States have been looking for ways to increase revenue in any way possible.

BROOKS NELSON: Let's move to unexpected impacts to sales tax for industries outside of e-commerce. Lauren, what have you seen from Wayfair for e-commerce versus non-e-commerce industries?

LAUREN STINSON: E-commerce was expected to be most impacted by Wayfair because it involves selling products over the Internet, where states were losing revenue and use tax compliance was low. Pre-Wayfair, an e-commerce company might have only had to collect tax in one state. With internet growth, companies now often sell into many states, increasing their sales tax obligations from collecting in one state to collecting in numerous states.

LAUREN STINSON: The big challenge is implementing technology to comply—having a tax engine that bolts onto an e-commerce shopping cart to collect the appropriate tax. Marketplaces have also changed, and sellers must understand their obligations when selling on a marketplace. Sellers have had to adapt and comply quickly.

SARAH MCGREGOR: This was a case about tangible goods, but it's impacted technology companies and software-as-a-service companies as well.

LAUREN STINSON: Right. Technology companies are, in my opinion, unintended victims of Wayfair. The industry wasn't part of the Supreme Court decision, but software companies selling across many states now have a tax compliance burden because of economic nexus. They also face sourcing and taxability issues that vary greatly by state, so the burden on technology companies has been substantial.

SARAH MCGREGOR: Kathy, you mentioned that a transaction-number threshold could be burdensome for technology companies.

KATHY STANTON: Yes. What is a transaction? Is a contract a transaction or is a monthly invoice a transaction? How do you meet transaction thresholds? Transaction thresholds can be problematic. Selling 200 pencils for 99 cents has no real bearing on revenue or substantial connection with a state. Some states have dropped their transaction thresholds, but the threshold concept is problematic.

SARAH MCGREGOR: Lauren, manufacturing has been impacted as well.

LAUREN STINSON: Yes. If a manufacturer makes multi-state sales, they're subject to economic nexus considerations. Many sell to wholesalers or other manufacturers and have tax-exempt sales, so they have an increased obligation to collect sales tax exemption or resale certificates from customers in states where they have nexus. Exemption certificate compliance has become much more burdensome.

SARAH MCGREGOR: Compliance has gone up considerably for everyone.

LAUREN STINSON: If a company is making multi-state sales, the burden is tremendous.

SARAH MCGREGOR: Did I hear that the last state has now adopted economic nexus?

LAUREN STINSON: Yes. Missouri was the last holdout, and they finally adopted economic nexus. They face wording challenges in their tax laws, so they are not going to impose it until 2023, but it is coming.

BROOKS NELSON: Kathy, part of the pressure to create these laws was to raise revenue at the state level under budgetary pressure. Has that been the reality, or is it zero-sum where states simply shifted taxation?

KATHY STANTON: Overall, it's a net pickup. Many sales were escaping state taxation, and the corresponding use tax was not being remitted by consumers. Wayfair has been a pickup for states, and during the pandemic it was especially valuable as online e-commerce activity increased dramatically.

BROOKS NELSON: Let's circle back to compliance. Lauren, you mentioned the burden of compliance—collecting, reporting, remitting. Is technology a good solution?

LAUREN STINSON: Yes. If your company has a large number of transactions, you need a tax engine to collect the correct rate at the correct time on the correct products. Having a tax engine that bolts onto a billing system or shopping cart to automate the process is essential for collecting the right rates.

SARAH MCGREGOR: What are the keys to making that technology solution work well?

LAUREN STINSON: The key is understanding the interface between the shopping cart or accounting system and the tax engine, and proper configuration of the tax software. Without correct configuration, you won't get correct results.

SARAH MCGREGOR: You and your teams spend a lot of time helping clients set up these solutions, right?

LAUREN STINSON: Exactly. We spend a lot of time understanding the client's business and products so we can set up tax codes so the software knows whether an item is a widget, software, clothing, or something else to get the right rate from the engine.

BROOKS NELSON: Kathy, what are marketplace facilitators and how do they help with compliance?

KATHY STANTON: A marketplace facilitator is a platform used to sell third-party sales, such as Amazon or eBay, where the platform allows others to sell products. Marketplace facilitator laws require the platforms to collect and remit tax, instead of thousands of small sellers on those platforms being individually responsible.

SARAH MCGREGOR: Those marketplaces can take a hefty commission. As a company grows and moves away from marketplace sales to selling on its own website, what happens?

LAUREN STINSON: When companies sell on their own websites instead of marketplaces, they take on the sales tax burden themselves. They must understand their nexus obligations, implement a technology solution, collect the tax, and handle filing and reporting. It shifts from an easier burden on a marketplace to a complex burden handled by the seller.

SARAH MCGREGOR: With so many new state rules, is there guidance states could provide, and should Congress act?

KATHY STANTON: There is a lot of complexity. States have tried to bring uniformity through the Streamlined Sales Tax Project but couldn't get enough uniformity. Some in Congress think the current system is still too burdensome. One extreme solution proposed would be a single form to list sales to each state, cut one check, and let a central entity remit tax to the states, but coordinating that would be complicated.

LAUREN STINSON: A single federal entity might simplify things, but creating a new government entity introduces complexity. Getting all states to agree on one approach would be nearly impossible.

KATHY STANTON: Also, the United States is a federation with states having sovereignty; getting uniformity is challenging.

SARAH MCGREGOR: With increased compliance, states are enforcing more. What approaches are states using to find noncompliant taxpayers?

KATHY STANTON: States want everyone registered and collecting. Discovery units use different approaches: reviewing vendors during audits, obtaining lists from marketplaces like Amazon to identify sellers, and checking registrations. Marketplace facilitator laws have helped on the sales tax side, but states remain aggressive in enforcement.

SARAH MCGREGOR: Lauren, what is the primary enforcement tool you see?

LAUREN STINSON: Nexus notices are common, and states scrutinize registration effective dates to determine whether companies should have registered earlier. States send nexus notices, audit notices, and other communications to identify noncompliant taxpayers.

KATHY STANTON: If a company registers and shows $500,000 of sales a month out of the gate, states will question that and likely send a nexus notice to anyone with significant sales.

SARAH MCGREGOR: What look-back period should a company worry about prior to registration or receiving a nexus notice?

LAUREN STINSON: States can go back to the point where nexus was created. If a company never registered, a state can go back to when nexus began. For Wayfair nexus, states cannot go back before Wayfair was implemented, but they will look to see whether a company registered when it first had physical or economic nexus.

SARAH MCGREGOR: How do you help clients deal with that exposure?

LAUREN STINSON: We perform nexus reviews to identify the nexus start date by sales or transactions as the state requires. We use that to determine when nexus began and help companies with the registration process from that date forward. If there are historical liabilities, we assist with filing back tax returns to get the company compliant.

SARAH MCGREGOR: Kathy, you've seen situations where cleaning up helps companies beyond sales tax compliance.

KATHY STANTON: Voluntary disclosure agreements are valuable; most states offer them or managed audit agreements, and some offer limited amnesty. These programs limit look-back periods and often forgive penalties, providing substantial savings. Vendors collect tax on behalf of customers and may not want to bill customers for sales tax because it jeopardizes relationships, so voluntary disclosure to limit liabilities is often the best route.

SARAH MCGREGOR: What are consequences if you don't address this besides penalties and interest?

KATHY STANTON: Sales tax is a trust tax—you collect tax on behalf of customers and remit it to the state—so there's greater responsibility. There are greater penalties, potential individual liability without protection from the corporation or LLC, and sales taxes are not dischargeable in bankruptcy. Personal liability can persist indefinitely. For those reasons, we often address sales tax issues first.

BROOKS NELSON: Have sales tax issues ever affected deals or due diligence?

KATHY STANTON: Absolutely. If you are not collecting and remitting, that can derail deals. Many transactions have been impacted or blown up because of sales tax issues.

BROOKS NELSON: We discussed sales tax primarily, but Wayfair affects other taxes. Kathy, what have you seen for income and franchise tax impacts from Wayfair?

KATHY STANTON: States had been imposing economic nexus for income tax long before Wayfair. If a benefit of a service is received in a state, that state might impose income tax nexus even without physical presence. There is a federal law, Public Law 86-272, that protects sellers of tangible personal property who solicit orders into a state if their activities are limited. That provides some protection for pure e-commerce sellers from income tax, but service providers and technology companies have faced economic nexus challenges prior to Wayfair.

BROOKS NELSON: From your perspective, what additional guidance would you like to see for groups subject to economic nexus beyond sales tax?

KATHY STANTON: Bright-line thresholds are needed. Wayfair included bright-line thresholds—$100,000 or 200 transactions—and many states adopted thresholds. On the income tax side, most jurisdictions do not have clear thresholds, so it's unclear how much activity creates nexus. There are also sourcing issues: how do you source revenue across states when service providers have personnel located in multiple states working on a single project? Without clarity on thresholds and sourcing rules, companies cannot determine whether they exceeded nexus thresholds or how to allocate sales by state.

BROOKS NELSON: We'll turn to final thoughts. Kathy, three years from the Wayfair decision, what should a business owner or CFO be thinking about?

KATHY STANTON: State taxes can creep up and surprise companies, often discovered in due diligence or audit notices. It's important to get ahead of state tax issues in all facets. If a company has benefits received of services in other states or ships products to other states, they should evaluate state tax exposure sooner rather than later. It's generally much cheaper to address issues on the front end through voluntary cleanup than on the back end via enforcement.

BROOKS NELSON: Lauren, what are your takeaways in the sales tax and e-commerce space?

LAUREN STINSON: Economic nexus is here, and companies must understand their sales tax obligations. Identify where they have nexus, both physical and economic, and register to collect tax. Ensure tax engines are set up properly, file returns timely, and keep up with rapid tax law changes. This is not a set-it-and-forget-it area; companies must monitor developments continuously.

SARAH MCGREGOR: Where do you see growth in your practices coming as a result of Wayfair?

KATHY STANTON: We see growth everywhere. States have been emboldened by Wayfair and see it as a green light to tax businesses outside their borders. Even protections like Public Law 86-272 for e-commerce providers are being challenged; the Multistate Tax Commission is considering ways to be more aggressive. States will likely continue to expand their reach.

LAUREN STINSON: For sales tax, technology companies need to understand nexus, taxability, and sourcing. Manufacturing must secure exemption certificates for sales into additional states. E-commerce companies must keep up with technology changes—new platforms, marketplaces, and selling methods—and the associated obligations.

BROOKS NELSON: Quick disclaimer: we are not providing personal tax advice on this podcast. Please consult with your personal tax advisor, hopefully at Cherry Bekaert, for your specific tax issues. Check out our firm's website, cbh.com, for the latest guidance and materials on this and other tax and business topics. We have substantial sales and use tax thought leadership, webinars, seminars, and articles available on our website.

BROOKS NELSON: That concludes today's podcast. Thank you, Sarah. Thank you, Kathy. Thank you, Lauren. Thank you to our listeners for spending your time with us. Let's call it a day and go forth in peace.