With a 5-4 vote on Thursday, the Supreme Court ruled that states can force online retailers to collect sales tax, even if the company in question doesn’t have a physical presence in the state. The South Dakota v. Wayfair ruling overturns a 1992 court decision that had historically freed the lion’s share of online retailers from sales taxes.
Traditional brick-and-mortar retailers had long complained that they operate at a disadvantage by being required to charge sales taxes while many online counterparts do not. But the 1992 ruling also made the lion’s share of the internet a tax-free zone, directly contributing to the massive growth in giant online retailers and smaller entrepreneurs alike.
The 1992 ruling in question, Quill Corporation v. North Dakota, insisted that the Constitution prohibited states from requiring businesses collect sales taxes unless they have a substantial connection to the state they operate in. The debate over what that technically means has been a contentious one for decades.
In his opinion representing the 5-4 majority, Justice Anthony Kennedy argued the physical presence distinction no longer made sense in the modern era, and the lower court ruling gave large online retailers an unfair advantage over their digital counterparts.
“Between targeted advertising and instant access to most consumers via any internet-enabled device, a business may be present in a state in a meaningful way without that presence being physical in the traditional sense of the term,” Kennedy wrote. “A virtual showroom can show far more inventory, in far more detail, and with greater opportunities for consumer and seller interaction than might be possible for local stores.”
Numerous states and big box retailers had been challenging the Quill ruling for years, either via lawsuit or new legislation.
South Dakota for example, one of nine states that doesn’t have state income tax, directly challenged Quill by imposing a 4.5 percent sales tax on online retailers, provided they had more than $100,000 in annual sales or more than 200 individual transactions in the state.
State officials then sued Wayfair, Overstock, and Newegg for violating the state’s law. And while lower courts had originally ruled for the online retailers citing the Quill decision, the Supreme Court ruling turns the entire debate squarely on its head, opening the door to significantly broader online state sales tax and a notably more expensive online shopping experience for all.
The ruling will hit some online retailers harder than others.
Amazon, for example, already collects and remits sales tax in many states thanks to the company’s vast storage and shipment facilities all over the country. As Amazon challenges UPS and Fedex for shipping superiority, that physical presence is only expected to grow. Amazon backed online says taxes in large part because it was already impacted (and wanted others to be too.)
While Amazon collects sales taxes for products the company itself sells, third party vendors on the website traditionally don’t (with the exception of those selling to customers in Washington and Pennsylvania.) These vendors and other, smaller online retailers will be losing a notable advantage over their larger, physical retail counterparts in the wake of the ruling.
The ruling also had a sharp, obvious impact on most larger online retailer stocks, including Overstock, Etsy and Wayfair.
According to a report late last year by the General Accounting Office (GAO), states could have collected $13.4 billion in additional online sales taxes last year. State leaders were understandably thrilled by the fact they’ll now be able to pursue online says tax more aggressively, provided their own states pass laws that mirror South Dakota’s.
“This is a great day for South Dakota,” South Dakota Governor Dennis Daugaard said in a statement. “We have long fought the battle to defend Main Street businesses and now with today’s ruling, all businesses will compete on a level playing field.”
And while the ruling is great news for cash-strapped states and brick and mortar retailers that wanted a “level playing field,” consumers and many smaller online retailers are likely to be notably less enthusiastic about the ruling.