Main Street retailers have long sought a level playing field for sales tax collection. Though sales or use tax is due on most purchases -- regardless of whether the purchase is made online or in a store -- online-only retailers have avoided collecting the tax because they have been able to rely on a loophole created by the U.S. Supreme Court's 1992 decision in Quill v. North Dakota. Thanks to developing news out of South Dakota, that may soon change.
- On April 28, South Dakota began legal process for SCOTUS to reevaluate its holding in Quill.
- New law underlying litigation sets stage for clean, quick, and fair resolution of the Quill question.
- Lawsuit inspired by Justice Kennedy's invitation.
- State likely to lose first rounds of litigation because relief can only come from U.S. Supreme Court.
- Litigation is a direct result of Congressional inaction.
- On April 29, opponents of South Dakota law filed suit against the state.
Late last week, the state of South Dakota filed a lawsuit against four on-line retailers seeking a determination that the state may validly require out-of-state retailers to remit the state’s sales tax on purchases made in the state. The lawsuit is framed by a new state law that clearly presents the question of whether economic nexus (without physical presence) is sufficient to require online-only retailers to collect the tax and thus sets into motion what RILA believes is a sound pathway for the U.S. Supreme to reconsider Quill. Ultimately, this suit may be the vehicle that will level the sales tax playing field once and for all.
Justice Kennedy's Invitation to Reexamine Quill
South Dakota’s action comes one year after U.S. Supreme Court Justice Anthony Kennedy recognized in his concurring opinion in DMA v. Brohl that, “[t]he Internet has caused far-reaching systemic and structural changes in the economy” so that “a business may be present in a State in a meaningful way without that presence being physical in the traditional sense of the word.” Noting the significant economic harms that were befalling state treasuries and local retailers, Justice Kennedy said that “it is unwise [for the US Supreme Court] to delay any longer a reconsideration of the Court’s holding in Quill” and asked the “legal system [to] find an appropriate case for this Court to reexamine Quill.”
Last week, South Dakota did just that.
A Smart Approach
The purpose of the lawsuit is clearly to give the US Supreme Court the opportunity to reconsider Quill– and to do so cleanly, quickly, and fairly, as set forth in the legislation that authorizes the suit.
The legislation isolates the core legal question in Quill and presents it cleanly. That is, those out of state sellers that do not have a physical presence in the state are required by the law to comply with the state's tax laws as if they did have a local storefront, provided that their sales meet a significant threshold. Contrast this approach with the Colorado notification law at the heart of DMA v. Brohl,which raised uncomfortable issues regarding consumer privacy and the accompanying lawsuit that ended up in a detour on Tax Injunction Act issues at the U.S. Supreme Court. As the 10th Circuit Court of Appeals recognized in its recent decision (and likely the final chapter in that litigation saga), Quill"applies narrowly to sales and use tax collection" and, thus, the court could decide the Colorado notification law case without reference to Quill. The flipside, of course, is that the Colorado law does not present a viable vehicle to reconsider Quill because it does not present the legal issue cleanly.
Given the harms recognized by Justice Kennedy, timeliness is also important to a Quill challenge and that is built into the South Dakota legislation, too. The Colorado lawsuit took more than five years to develop. The South Dakota law expressly authorizes the State to seek judicial resolution of the core legal issue through a declaratory judgment action (rather than an audit or other tax collection procedure) and directs the circuit court to act "as expeditiously as possible." The legislation further asks the circuit court to assume that its consideration can be completed through procedural motions, rather than requiring a full trial. Appeals from the State circuit court's decision may only be made to the state Supreme Court, which is also directed to act "as expeditiously as possible."
Finally, the South Dakota legislation recognizes the “complicated position” in which it places taxpayers and creates a litigation construct that is as fair as possible to the regulated community. For example, the declaratory judgment motion filed by the state triggers (by statute) an injunction for the pendency of the litigation that prevents the State from enforcing the law’s obligation against any tax payer that does not agree to remit the tax until the core legal issue is finally adjudicated. Moreover, even as to the defendants in the law suit, the state is only permitted to assess and apply the tax obligation from the date on which the case is finally resolved and cannot assess any back penalties against them.
Perhaps most importantly, however, the legislation prohibits the State from applying the tax obligation retroactively, which should assuage any concerns that the courts may have that a judicial decision invalidating Quill might require sellers to remit taxes that were owed by consumers on sales transactions but that the seller had not collected. This issue was clearly on the minds of the U.S. Supreme Court justices when they considered the Quill case in 1992.
Likely Result of Litigation
Justice Kennedy's concurrence and South Dakota's law clearly document the harms that the anachronistic situation created by Quill and its precedent inflict on states and retailers alike, including the erosion of state sales tax bases and the marketplace distortion that disadvantages local businesses. And Justice Kennedy's concurrence reminds us of the "tenuous nature of [the Quill] holding," which was "based on stare decisis alone" and that he further describes as "questionable even when decided."
Nonetheless, the lower courts will need to recognize the supremacy of federal constitutional law and, therefore, the state of South Dakota is likely to lose in the first stages of the litigation. As Judge Gorsuch of the 10th Circuit Court of Appeals observed in his concurrence in DMA v. Brohl, courts "may of course never usurp the power to overrule a decision of the [U.S.] Supreme Court." Judge Gorsuch likened the Quill decision to an island and noted that "while some precedential islands manage to survive indefinitely…a good many others disappear when reliance interests …erode over time. And Quill's very reasoning – its ratio decidendi – seems deliberately designed to ensure that [the case upon which Quill relies] would never expand but would, if anything wash away with the tides of time."
Just as the 10th Circuit acknowledged that it could not have overruled Quill even if the question had been properly before it, we expect the lower courts in South Dakota to feel bound by the U.S. Supreme Court's decision in Quill and to leave to the highest Court the role of shaping the law governing remote sales tax moving forward.
An Alternative to Congressional Inaction
The South Dakota legislation and resulting litigation are symptoms of federal congressional inaction. Retailers have pressed Congress to solve this problem for more than a decade. After an overwhelming bipartisan vote in favor of the Marketplace Fairness Act in the Senate more than three years ago, retailers have worked tirelessly to support legislative efforts in the House of Representatives in hopes of a vote on similar legislation. To date, despite multiple bill introductions by supportive members of both parties, these efforts have not led to a markup of legislation in the House Judiciary Committee, let alone a vote by the full House.
Retailers would prefer a legislative solution that guarantees small business protections and other simplifications over a legal challenge to Quill. However, given continued inaction by Congress, it's clear that many states have given up hope for a timely legislative solution and are seeking a legal remedy. Absent real progress on a legislative solution, we fully support this effort.
More States Likely To Act
And, given the absence of congressional action as well as South Dakota's example, other states may very well follow suit. Alabama passed a regulation last fall that would require remote sellers to collect and remit sales tax if the seller had sales of more than $250,000 into the state. The Alabama rule, however, was not accompanied by the litigation design that was built into the South Dakota legislation, so it is not entirely clear how Alabama might actualize such a lawsuit.
Many other state legislatures have been or are actively considering legislation that could precipitate another lawsuit. And, there very well may be other states that will consider (or are considering) developing litigation based on their existing laws.
Remote Sellers File Suit Also
On Friday April 29, two trade associations representing remote sellers (Netchoice and the American Catalog Mailers Association) filed suit against South Dakota, seeking to have the same court declare the state's law unconstitutional. Given the requirement in the statute that the court give priority to the state's suit and the fact that such a decision would address the core question raised in the second suit, it is likely that the court will address the state's lawsuit first.
Defendants in both lawsuits will respond within the next 30 days, so stay tuned!