It has been 18 months since 2018’s landmark United States Supreme Court sales tax decision in Wayfair v South Dakota (Wayfair). That case created an economic nexus standard, paving the way for states to require remote sellers to collect sales tax, even if they had no physical presence in the state, if certain metrics were met, either in the form of annual number of minimum transactions (typically 200) or dollar volume of sales (usually $100,000).
Prior to Wayfair, only a handful of states had attempted to impose an economic sales tax nexus standard. Since that time, virtually every state that imposes a sales tax, plus the District of Columbia, have passed legislation utilizing the metrics outlined in the case, or slightly relaxed versions thereof. It is anticipated that all states will have Wayfair-type statutes by early 2020. Many of the states with Wayfair-type statutes enacted them on a prospective basis, as long as the remote seller registered within a certain period of time in their state following enactment.
Remote sellers will find it hard to avoid meeting nexus standards, thus creating a potentially significant burden around registering, record-keeping, and collecting and remitting sales tax.
While Wayfair is the most notable development, economic nexus has been influencing sales tax for a number of years. States have enacted other means of asserting nexus, such as 1) click-through nexus (most commonly seen when a remote seller contracts to have a link to their website on a server in another state); and 2) affiliate nexus (most commonly seen when a company related to the remote seller has nexus with a state, thus pulling the remote seller into the state as if they were the company). States are also expanding their ability to impose taxes on marketplace facilitators – entities that contact with third parties to sell their goods and services via their own platform, such as Amazon.
The collateral impact of Wayfair is also being seen in other areas. First, many states have wrestled with taxation of software as a service (SaaS), some treating it as taxable, and others as exempt, while still others have not committed. As we move more and more towards a digital, service-based economy, expect states to review and expand the taxability of services.
Second, it was inevitable that states would take the concepts Wayfair and attempt to apply them to other areas of taxation, most notably income tax. There has been a trend towards application of economic nexus standard to income tax nexus. With the USSC historically reluctant to address income tax cases, an increasing number of states have been emboldened to pursue broad economic nexus standards. Already, Massachusetts and Texas have enacted new income tax nexus standards that will go into effect next year.
Sales tax and, potentially, income tax compliance will be an increasing burden. Noncompliance can be costly, not only from a dollar standpoint, it can affect financial statement reporting under ASC 450 (regarding loss contingencies) and ASC 740 (account for income taxes).
Nexus issues and quantification of past tax liabilities have long been a hot topic for due diligence in mergers and acquisitions. While most states maintain voluntary disclosure agreements (VDAs) to help mitigate past noncompliance, they should be viewed as a last resort.
To manage the risks, it is important for remote sellers to review their nexus footprint. Steps to effectively deal with Wayfair include:
- Review your activities in each state, including existing salespersons’ activities, and volume and frequency of sales to states.
- Get to know your products’ footprints. Are products sold to the end user? Are they taxable in the state to which they are delivered? Are you maintaining exemption certificates in support of any sales made for resale? State statutes are not always aligned on which products and services they subject to tax.
- Review state statutes. Don’t rush into registering with a state that hasn’t set forth specific requirements. To do so would run the risk that a state would decide to impose tax from the day you initially established nexus.
- Review your tax compliance function to determine its ability to recognize the taxability of products on a state-by-state level and potentially collect sales tax in more jurisdictions. If the function’s capabilities are lacking, be prepared to upgrade.
- Consider alternatives to in-house preparation including proprietary software, full outsourcing of the sales tax compliance function or participation in the Streamlined Sales and Use Tax Agreement.
- In the event it turns out there was pre-Wayfair nexus, then consider taking advantage of the Voluntary Disclosure programs administered by many states.
Wayfair and its impact are here to stay. The complexities will grow, as well as the burden of compliance and the importance of understanding the myriad statutes that need to be navigated in order to avoid pitfalls.
Please do not hesitate to reach out to us if you have any questions.