Potential Impact on Alabama if U.S. Supreme Court Approves South Dakota Economic Nexus Statute

State & Local Tax Alert: Alabama Edition

Client Alert

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To the surprise of many, the U.S. Supreme Court granted the State of South Dakota’s petition for writ of certiorari in South Dakota v. Wayfair, Inc. et al., No. 17-494, on January 12. The case involves the constitutionality of South Dakota’s “economic nexus” statute, which requires online retailers lacking a physical presence in the state nevertheless to collect and remit sales tax on sales to South Dakota customers – an “in-your-face” challenge to the Supreme Court’s landmark ruling in Quill Corp. v. North Dakota, 504 U.S. 298 (1992). This alert focuses on the potential impact on Alabama and its local governments if the Court in essence approves the South Dakota statute.

The consolidated case includes Wayfair, Inc., Overstock.com Inc., and Newegg Inc. (the latter being lead plaintiff in similar Alabama litigation described below) and involves South Dakota’s recently enacted statute that imposes a sales tax collection obligation on an out-of-state retailer if it has at least $100,000 in gross revenue or 200 separate transactions involving deliveries into the state on an annual basis. By agreeing to hear the case, the Supreme Court has the opportunity to finally address whether it should abrogate its current physical presence requirement and end the years-long debate over how states should apply sales and use taxes to online retail activity. Oral arguments are likely to be held in April, with a final decision possibly released as early as June.

At least under current Supreme Court precedent, states are prohibited by the Commerce Clause from requiring online-only retailers to collect sales or use taxes on sales made to in-state residents unless the retailer has a “physical presence” in the destination state of some sort. However, Quill’s physical presence requirement dates back to 1992, if not to 1967 (National Bellas Hess), and the retail landscape has obviously changed dramatically since then. According to a December 18, 2017, GAO study, lost state sales tax revenue in 2017 alone (because online retailers are not subject to the same collection responsibilities as brick-and-mortar retailers) amounted to approximately $8 – $13 billion. The latest projection of lost revenue to Alabama was in the $200 million range, which seems conservative.

Some Predictions on the Outcome

Considering the current makeup of the High Court, most observers believe the justices probably granted cert. out of frustration with Congress and its inability to pass uniform legislation such as the Marketplace Fairness Act (S. 976) or the Remote Transactions Parity Act (H.R. 2193). And since the Supreme Court has already deferred to Congress once before – 26 years ago in Quill – it seems unlikely that the Court will simply defer again. 

Our friend, Professor Rick Pomp, makes that point and offers another related perspective. One of the subtle concerns of the Court in deciding Quill involved whether the states would apply a pro-state ruling retroactively, wreaking havoc among both large and small retailers who had relied on settled law in not collecting state or local sales tax in non-nexus states. That concern doesn’t exist here since the South Dakota legislation is quite intentionally prospective only, and sets a dollar and number-of-transactions threshold – albeit a low one – before an out-of-state retailer must begin to collect and remit that state’s sales tax.

Potential Impact on Alabama?

So thinking aloud, what might happen in Alabama if the Supreme Court indeed blesses the South Dakota economic nexus statute? First and foremost, those approximately 185 online vendors who have voluntarily joined Alabama’s Simplified Sellers Use Tax Remittance Program over the past two years or so may look incredibly prophetic. Under that 2015 law, as amended, those vendors may continue to remit monthly a flat 8 percent sellers’ use tax to the Alabama Department of Revenue (ADOR) and are protected from a change in the physical presence rule if it’s caused by a U.S. Supreme Court ruling. Only if the change in law is caused by “the enactment of federal legislation” is their grandfather protection voided (see Ala. Code § 40-23-191 et seq.). 

In the meantime, the ADOR advocated its own economic nexus approach, embodied, however, in a regulation, Rule 810-6-2-.90.03 (effective January 1, 2016), and based on a pre-Quill nexus statute, Ala. Code § 40-23-68. The lead plaintiff challenging the validity of that regulation before the Alabama Tax Tribunal is, not coincidentally, Newegg, Inc. We understand that the parties have filed pre-hearing briefs and are preparing for a hearing on the merits. However, that case might be stayed, either at the request of one of the parties or perhaps on the Tax Tribunal’s own volition, at least until the Supreme Court issues its ruling in Wayfair.

Potential Impact on the Hundreds of Self-Administered Cities/Counties?

If the Supreme Court rules in favor of South Dakota, one can expect other states that levy a sales/use tax (including Alabama) to promptly enact their own, hopefully parallel collection statutes. But what about Alabama’s unique, feudal system of self-administered local government sales/use taxes? Thankfully, at least much of the framework is already in place via the ADOR’s online filing portal, ONE SPOT, and the Simplified Sellers Use Tax Remittance Program mentioned above. Pursuant to the 2012 ONE SPOT legislation, Alabama allows in-state and out-of-state retailers to file both their state and (all) local sales, use, rental and lodging taxes monthly through an ADOR website portal.

The other major concerns would focus on (a) whether the ADOR would be empowered not only to operate the ONE SPOT portal, but to begin collecting and distributing the local governments’ share of these taxes, ala' the current SSUT Remittance Program, and (b) whether the ADOR, or the local governments, or a combination thereof, would become the sole auditor/enforcer. Again, thankfully, those discussions have been taking place, on and off, since at least 2003 with the introduction of House Bill 649. That bill would have largely conformed the state and local tax system to that of the November 2002 version of the Streamlined Sales and Use Tax Agreement (SSUTA) including one-stop filing, one-stop payment, and one-stop auditing rules. 

Unfortunately, despite strong business support, the bill didn’t pass, but it at least forced the state and local revenue authorities to begin a constructive dialog in case either Congress eventually stepped in and mandated that all states levying a sales/use tax conform to the SSUTA or similar guidelines, or the Supreme Court “kills Quill.” The dialog was resurrected in June 2011 with the passage of Act 2011-563, which established the Alabama Streamlined Sales and Use Tax Commission:

to identify and develop the programs necessary to come into compliance with the [SSUTA] in the event that Alabama becomes a participating member…. and to require the commission to research Alabama’s existing tax laws to identify what changes … will be necessary in the event that federal legislation adopting the agreement becomes law.

The senior author of this alert was a participant and observer in those proceedings and was impressed with the spirit of cooperation between the normally turf-conscious self-administered cities and counties and their private auditing firms and the ADOR. The commission issued a comprehensive, forward-looking report the following summer, but as the report stated, its recommendations were contingent on the passage of federal legislation or the state becoming a participating member of the SSUTA. Alas, neither has happened yet. Hopefully, that report can be dusted off and serve as a roadmap to all stakeholders should the Court overturn or severely limit Quill.

More recently, it was refreshing to see that almost all self-administered cities and counties wisely chose not to opt-out of the jurisdiction of the Alabama Tax Tribunal when it was established in 2014. Thus, taxpayers already have an independent, pre-payment forum for appealing almost all local sales, use, rental and lodgings tax disputes that cannot be resolved administratively. 

Many observers wonder if the Supreme Court is discretely inviting Congress to finally step in, to prevent what many fear will be short-term chaos caused by a ruling that approves the South Dakota statute and opens the door for the other states to enact similar (but perhaps not uniform) legislation. Few disagree that preemptive federal legislation would be preferable. Our firm will continue to monitor these developments and report to our readers periodically.

Thanks to our law clerk, Matthew Hambrick, a third-year student and law review editor at the Cumberland School of Law at Samford University, for his assistance in preparing this alert.  All opinions and predictions are entirely those of the authors and not necessarily that of their law firm, any client or any organization with which they are affiliated.