Online Businesses and Sales Tax

Hundreds of thousands of people in the United States purchase goods and services online every day.  Amazon alone had over $100 billion in revenue from sales last year.  What some consumers do not realize, however, is that online purchases have been cheaper than “in-store” purchases because sales tax is often avoided when purchasing online.  That changed last week.

For months, both internet-based and brick-and-mortar based businesses have been anxiously awaiting the United States Supreme Court’s ruling in South Dakota v. Wayfair, Inc. That case pitted online businesses versus in-person storefront businesses.  The issue was the legality of charging and collection of sales tax.

Historically, states have not been allowed to collect sales tax from out-of-state retailers, including online businesses.  Before last week, the Supreme Court had ruled on several occasions that the United States Constitution bars states from requiring businesses to collect sales tax from customers if those businesses lack a substantial connection to the state.  More specifically, the Court had held that States could not require out-of-state e-commerce business to pay sales tax unless the businesses had a physical presence in the State.  These decisions effectively paved the way for online businesses to sell products and services nationwide at cheaper rates than physical store-front businesses, allowing them to offer a “discount” relative to traditional stores that were required to collect and remit sales tax to the state of the purchaser.  Savvy purchasers have elected to ship items to other states to avoid paying sales tax.

For a time, these prior decisions seemed appropriate and in line with a policy of assisting budding internet businesses.  But the dynamics have drastically shifted over the past 20 years.  Online businesses are now the driving force in United States commerce.  Overall, the disparity between online sales and brick and mortar sales is astonishing.  The result: businesses that have a physical location in a state have been disadvantaged because they have had to pay sales taxes, while their competing online businesses have not.

This all changed last week.  In the Wayfair opinion, the Court examined a South Dakota statue that required all merchants to collect a 4.5 percent sales tax if they have more than $100,000 in annual sales or more than 200 transactions in the state.  The State sued three large online retailers – Wayfair, Overstock.com and Newegg –  for violating the law.  Lower courts ruled for the online retailers, citing the Supreme Court’s previous opinions.

In a 5-4 ruling, the Court upheld the South Dakota statute, holding that, contrary to the Court’s previous opinions, the statute did not violate the United States Constitution.  The Court’s opinion focused mainly on the loss of revenue the states would suffer from not being able to collect sales tax from out-of-state online retailers.  Writing for the majority, Justice Kennedy noted that “[t]he Internet’s prevalence and power have changed the dynamics of the national economy.”  He went on to note that the prohibition of a State’s ability to collect sales tax from businesses located outside its borders was problematic: “This expansion has also increased the revenue shortfall faced by states seeking to collect their sales and use taxes.”

What does it mean?  The Court’s decision in Wayfair could have enormous consequences.  Placing brick-and-mortar businesses on an equal footing with online businesses could result in an increase to the cost of goods sold online—to the detriment of consumers.  On the other hand, an equalization of taxation could result in a boost for brick-and-mortar businesses, potentially allowing them to lower prices and become more competitive.

To be sure, the Court’s opinion will have a significant impact on consumer sales in the United States that can only be quantified at a future date.  If nothing else, the Wayfair decision magnifies the effect opinions of the United States Supreme Court can have on everyday life.

**The information contained on this website is informational only and not intended to be, and does not constitute, legal advice.  While we attempt to update our site regularly, the information does not necessarily reflect the most current legal developments.  You should not act or refrain from acting based upon information provided on this site without first consulting legal counsel.**


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