United States: Supreme Court Overturns Physical Presence Standard For Establishing Sales Tax Nexus

The US Supreme Court overturned over a half century of precedent on Thursday, holding that a state may reasonably impose sales tax collection obligations on retailers with no physical presence in the state based on a certain threshold of in-state sales.

State tax authorities across the country are smiling today, and none more than those in South Dakota, the state that has succeeded in killing Quill1. In South Dakota v. Wayfair2 the US Supreme Court held that the physical presence requirement for imposing a sales tax collection obligation was "unsound and incorrect" from the beginning in that there is no logical connection between a physical presence and the substantial nexus required by the Commerce Clause. In so holding, the Court did not establish a new standard, but it did find the South Dakota rule to be reasonable in that it requires a substantial amount of sales in the state, and is not retroactive. Throughout the opinion, the Court comments that the physical presence standard was judicial overreaching, for example stating that "it is an extraordinary imposition by the Judiciary on State's authority to collect tax and perform critical public functions."

At several turns the Court points to the problem of consumer failure to pay use tax on remote sales, and opines that remote retailers may use that as a competitive advantage to the detriment of state and local governments. Thus, the Court was persuaded that the physical presence rule is economically distortive, stating that "[r]ejecting the physical presence rule is necessary to ensure that artificial competitive advantages are not created by this Court's precedents."

In rejecting the argument that the physical presence standard is clear and easy to apply, the Court enumerated several efforts by states to expand or circumvent the standard, including "cookie nexus" regulations, "click-through nexus" laws, and notice and reporting regimes. The Court's response to the complexities presented by the multitude of state and local taxing jurisdictions, the underpinning of the Quill decision, was twofold. First, the Court noted that reasonably-priced software may be made available by the private or public sectors, and indeed the elimination of the physical presence requirement might speed that process. Second, the Court noted that Congress has the power to regulate interstate commerce, and could enact legislation to address the complexities presented by the thousands of separate state and local sales taxes.

While the Court adhered to the four-part Commerce Clause test set forth in Complete Auto3, it implied that the nexus requirement is not that different from the minimum connection necessary for jurisdiction under the Due Process Clause. In this regard, the Court stated that "[w]hen considering whether a State may levy a tax, Due Process and Commerce Clause standards may not be identical or coterminous, but there are significant parallels." This could have broad implications for Commerce Clause jurisprudence going forward.

Notably, the Court was rather divided in this case. The majority opinion was authored by Justice Anthony Kennedy, and joined by Justices Clarence Thomas, Samuel Alito, Ruth Bader Ginsburg, and Neil Gorsuch.4 Chief Justice John Roberts and Justices Stephen Breyer, Sonia Sotomayor, and Elena Kagan dissented, concluding that while they did not agree with the Quill decision, Congress should ultimately decide this issue.


While the Court's decision removes the physical presence requirement, an open question remains as to what activity by a retailer is sufficient to result in a "substantial nexus" with a taxing state. While the Court found that the South Dakota law at issue met the "substantial nexus" requirement, it did not provide further guidance on this point. Thus, there will be uncertainty surrounding which state laws pass constitutional muster under the Dormant Commerce Clause, as laid out in Complete Auto and other Supreme Court doctrine.

Other issues that arise as a result of this decision include those relating to vendor miscalculations of the amount of sales tax that is required to be collected under state or local law. Such errors, or perceived errors, may be subject to both qui tam lawsuits (brought when taxes are under-collected) and class action lawsuits (brought when taxes are over-collected). These concerns were discussed briefly when the Court heard arguments in Wayfair this April, but were not addressed in today's opinion.

For more information, please join us for a two-part webinar discussing the state tax and practical implications of the US Supreme Court's decision in South Dakota v. Wayfair.

Part I: Overview of Decision and State Tax Implications
Tuesday, June 26, 2018
2:00–3:00 pm ET

Part II: Practical Implications for Retailers
Thursday, June 28, 2018
2:00–3:00 pm ET


1 Quill Corp. v. North Dakota, 504 US 298 (1992).

2 South Dakota v. Wayfair, 585 US __ (2018).

3 Complete Auto Transit, Inc. v. Brady, 430 US 274 (1977).

4 Justice Thomas concurred to state he should have joined the dissent in Quill in 1992. Justice Gorsuch concurred, providing that he questions the Dormant Commerce Clause doctrine.

This article is provided as a general informational service and it should not be construed as imparting legal advice on any specific matter.

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