Did something happen on the way to the Wayfair?

OCTOBER 2017 TERM

South Dakota v. Wayfair, which by most accounts is the single most important state and local tax case to reach the high court in a generation. At issue is a South Dakota statute which expands the state's tax reach to remote sellers based on nothing more than the number of sales to South Dakota residents or the total value of transactions with South Dakotans. In other words, no physical presence required. Not even by attribution or affiliation.

The statute is a direct challenge to the Supreme Court's landmark, 1992 opinion in Quill Corp. v. North Dakota, 504 U.S. 298 [opinion attached below], which sustained on stare decisis the bright-line physical-presence standard for establishing "substantial nexus" triggering state tax authority over remote sellers. See National Bellas Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 753 (1967).

The South Dakota Legislature took the unusual approach of expressly challenging Supreme Court precedent in response to an invitation from Justice Anthony Kennedy in Direct Marketing Assoc. v. Brohl, 135 S. Ct. 1124 (2015), a case ostensibly about the scope of the Tax Injunction Act. In his concurring opinion, Justice Kennedy thought the case before them an opportunity "to note the importance of reconsidering doubtful authority. The legal system should find an appropriate case for this Court to reexamine Quill and Bellas Hess."

Justice Kennedy's invitation was predicated on his view that technology and the market for interstate sales has changed dramatically since Quill was decided in 1992, and most certainly since Bellas Hess in 1967. "Given these changes in technology and consumer sophistication, it is unwise to delay any longer a reconsideration of the Court's holding in Quill. A case questionable even when decided, Quill now harms States to a degree far greater than could have been anticipated earlier." Bold assertions in a case admittedly an inappropriate venue for the discussion, but moreover lacking in substantiated facts upon which to make such conclusions.

With the opportunity to expand their tax reach, South Dakota took up Justice Kennedy's invitation, not only adopting the expanded nexus standard, but fast tracking the litigation. From passage of the statute to the Supreme Court's decision will be just over two years.

But, a funny thing appeared to happen at oral argument. The justices seem to realize that they perhaps lacked sufficient facts to balance the benefits and burdens of overturning Quill's physical-presence standard and expanding state tax authority. As Justice Stephen Breyer noted in reply to arguments by South Dakota Attorney General Marty Jackley: "When I read your briefs, I thought absolutely right. And then I read through the other briefs, and I thought absolutely right. And you cannot both be absolutely right."

Justice Sonia Sotomayor seemed to echo the point. "I'm concerned about the many unanswered questions that overturning precedents will create a massive amount of lawsuits."

Whatever one might think of Quill's bright-line physical-presence standard and its ongoing relevance in a clearly changed market place and technological landscape, replacing it with a new legal standard requires the Supreme Court to articulate some rationale to support that new standard. Then applying such a new standard to the South Dakota statute requires drawing conclusions based on facts that are either not before the court, disputed among the parties, or not squarely argued by the litigants; notwithstanding that there were more than 40 amici briefs submitted on the merits.

Which raises yet another complexity for the court in resolving the matter before them; the legislative function and Congress. Both former Justice Antonin Scalia and Justice Clarence Thomas have long criticized the court's dormant commerce clause analysis as essentially legislative. As Justice Scalia noted in his dissent in Comptroller of the Treasury of Maryland v. Wynne, 135 S. Ct. 1787 (2015), "The fundamental problem with our negative commerce clause cases is that the Constitution does not contain a negative Commerce Clause. It contains only a Commerce Clause."

The court's own opinion in Quill furthers this common kernel; that the legislative function best addresses complex balancing issues among a wide variety of interests. "This aspect of our decision [the bright-line physical-presence standard] is made easier by the fact that the underlying issue is not only one that Congress may be better qualified to resolve [retroactivity and allocation of burdens the issues cited by the Court] but also one that Congress has the ultimate power to resolve. No matter how we evaluate the burdens that use taxes impose on interstate commerce, Congress remains free to disagree with our conclusions."

In the wake of the court's admonition in Quill, and to everyone's great dissatisfaction, Congress has done nothing except hold hearings. The states, though, have little to brag about. Their answer to complexity, the burden of compliance, and the need for greater uniformity, has been at best marginally successful. The Streamlined Sales and Use Tax Agreement can best be described as aspirational in regard to uniformity and simplicity. In practice, it achieves neither. With only 23 full member states and lacking participation by the Big 5 (New York, California, Illinois, Texas and Florida), its penultimate impact is limited at best.

What the court will actually do is anyone's guess. While many professionals in the state tax arena opined that Quill was a dead letter coming into oral argument, many are now less certain. If not Quill's physical-presence rule, then what? Maligned and deformed as it is, the physical-presence standard has a historical precedent and developed standards. And no one can say that the physical-presence standard is as limiting now as the court understood it to be in 1992. Whatever rule the court might replace the physical-presence standard with is unlikely to have such a foundation. What's more, in absence of well-developed facts, it's hard to understand how the court might measure the statute at issue against the new standard. Subsequent litigation is not only likely, it might be necessary.

Unless the court chooses the path which Justices Thomas and Scalia have long argued for -- no standard at all. The South Dakota statute would stand, as would a statute requiring a remote seller to collect tax for a single sale, of any amount, if the retailer deliberately sold that good or service into the taxing jurisdiction. Deputy Solicitor General Malcom Stewart, on behalf of the United States, argued to the court that this was the correct rule. Essentially, that in absences of congressional action, only due process limits state tax jurisdiction.

While the states might cheer at such an outcome, it might be a Pyrrhic victory, by spurring Congress to do what the Supreme Court had admonished them to do in Quill -- act, which is perhaps what Justice Ruth Bader Ginsburg was intimating might be the appropriate answer. "But [a single sale triggering nexus] would be really something that would appeal to Congress to fix."

Because the physical-presence standard limited the states, congressional action to lower that standard politically always looked like a tax increase. Whereas, solving the "single sale constitutes nexus," tax everything that moves catastrophe would place Congress in the protecting taxpayers business.

Not unlike Congress' reaction to Northwestern States Portland Cement Co. v. Minnesota, 358 U.S. 450 (1959), where the Supreme Court for the first time recognized state authority to impose fairly apportioned, nondiscriminatory corporate income taxes on interstate businesses. Congress flipped out and within six months of the opinion, passed P.L. 86-272, placing limits on state tax authority under its commerce clause powers. Such congressional action in regard to remote sellers could then focus on a standard which facilitated interstate commerce, while limiting unfair competition and the parochial tendencies of States, as well as demanding greater uniformity and simplicity in state and local taxing systems.

It's a commonly held belief that Congress acts when they must, and not a minute before. Stripping interstate commerce from any protection against the unbridled taxing aspirations of the states might be the Supreme Court's push for Congress to finally act or face the maelstrom, after having squandered 25 years of opportunity to do it in relative peace. A decision is expected by the end of June.