March 1, 2016

The Tax Man Cometh

SB 106 – Making E-Commerce Collect and Remit Taxes to South Dakota

The only people who still claim they have never ordered anything online are most likely sitting around a meeting of a local Chamber of Commerce . . . and are probably lying.

Have you ever wondered why the vast majority of internet purchases do not collect sales tax?  Are you afraid to ask because you don’t want that to change?  Has the “good citizen” part of your nature ever wondered how much tax revenue would come to the state and city if these online sellers were required to collect sales taxes?  Do you wish that particular angel of your better nature would stop coming to work?

Why no tax on internet sales?  The reason goes back to the days when catalogs were a plague upon the house of retail and a famous office supply catalog named Quill said that collecting sales tax from 46 states and several thousand communities, all with different definitions about what was and was not taxable, was an undue burden.  They also said that a company couldn’t hope to get it right unless they were actually located in that state/city.  Quill claimed, and a unanimous court agreed, that trying to figure out rules in places where a company didn’t have a physical presence (known as nexus) was unreasonable or, as the court termed it, an “undue burden”.

One of the Chamber’s favorite examples that helps make the undue burden understandable is the lowly Twix Bar which has a cookie wafer encased in chocolate.  In some states, the cookie makes it a “food” which is not taxed; in other states the chocolate makes it a “candy” and therefore taxable, even if food isn’t taxed.  Face that dilemma about 10,000 times in 10,000 cities and you’ll think of it as a real burden . . . and one that is undue enough to leave you simply undone.

The court made it clear that Congress has the power to mandate remote sellers (or in the original case, catalog sellers) to collect and remit taxes to states and cities.  That would require Congress to take action . . . not their strong suit, which is borne out by the fact that such a bill hasn’t become law. 

SB 106 will put a requirement in state law that remote sellers must collect sales/use (technically gross receipts) tax on all sales within South Dakota.  It is dead certain that one of those large remote sales organizations (Amazon ring a bell?) will file a lawsuit claiming that the law is unconstitutional, citing the Quill decision.  And that’s the point.  South Dakota will be ready as a test case to see if the court is ready to reverse Quill.

Why would the court reverse the Quill decision?  Because nobody uses quills to write anymore?  Not really.  The core of the case will be an examination of the “undue burden”.  Several things have happened since the Quill vs. North Dakota decision was issued in 1992.  First, computers have become powerful enough to keep track of 10,000 definitions and will do that in about 10 nanoseconds.  On top of that, now that oil prices have collapsed, even North Dakota is looking for money again. 

Second, 24 states have adopted a standard set of definitions known as “streamlined” sales tax laws.  The streamlined law does not require all states to tax the same items, but it does provide standardized definitions so that states and cities can decide simply “yes or no” on whether an item is taxed.  It is hoped that the courts will see this as a “doable” burden.

SB 106 has been drafted to be a strong test case.  It has been led by the South Dakota Retailers Association with support from the Governor’s office.  The State Chamber has provided support at  hearings on the bill.

How big is E-Commerce?  The U.S. Census Bureau does a quarterly report on the amount of sales that are done via the internet.  The fourth quarter report for last year has been released and reports that e-commerce sales were 7.2% of total retail sales in 2015.  Looking at just the fourth quarter shows that e-commerce sales grew by 14% and overall sales grew by about 1%.  Remember, that’s 14% of a total of 7%, which works out to be about 1% of the total as well. 

How much new revenue?  If you apply the numbers above to the taxable sales reported in the last issue of Capitol-ism, having remote sellers collecting the sales taxes would result in approximately $31 million more revenue for the state.  Here are the numbers.

• $11,068,183,401 – taxable sales in the retail sector = 51% of taxable sales

• $774,772,838 – is 7% of the total above, which is what the census bureau suggests is the amount of e-commerce in the retail sector (a national number)

• $30,990,913 – State sales tax (4%) on the money estimated to be spent on e-commerce

Note on manufacturing:  The U.S. Census Bureau E-Commerce Report for 2013 also reported that 57.1% of all manufacturing shipments were e-commerce shipments.  Unlike sales in the retail sector, a much smaller portion of these sales would be subject to sales/use or gross receipts tax.  These shipments are mostly made throughout the supply line for manufacturers.  Gross receipts taxes are collected at the point of final sale to the customer.  For example, the printer cartridge that is part of your printer is not taxed when it is delivered to the printer factory to be installed.  The entire unit is taxed when sold to the customer.  This shows how important e-commerce is to the production of items and how intricate these systems have become to the economic way of life.

To track activity on SB106 and other legislative bills, click here for the State Chamber's Bill Tracking List.  (A PDF file.)