South Dakota v Wayfair was decided almost one year ago (June 2018) by the United States Supreme Court. The case centered on whether a state could levy a sales tax on internet retailers with no employees, property or other physical presence in the state.
For those who don’t remember, South Dakota won. South Dakota was able to persuade the justices their law was not a problem to interstate commerce. This decision essentially reversed the previous decision in Quill v North Dakota in 1992.
Interstate commerce and due process were topics of the Justice’s discussion. Now with the Wayfair decision the Supreme Court has made it clear Congress and the States will have to author legislation to address this issue.
Economic presence is required, whatever that is. In the decision and in articles surrounding it, you will see the term “Dormant Commerce Clause”. Here is what they are referring to: In the United States Constitution, Article 1, Section 8 Congress was given the power “To regulate Commerce with foreign Nations, and among the several States, and with the Indian Tribes;”
Since our early days as a country the Courts have struck down state laws that “burden” interstate commerce even when Congress chooses not to regulate that commerce (Congress’ power lies dormant).
In Part 2, Section A of the opinion, the Justices outline the early court decisions that created the framework of Congress and the States holding concurrent power to regulate commerce and the contemporary principles marking the boundaries of State authority: 1)” State regulations may not discriminate against interstate commerce”, and 2) “States may not impose undue burdens on interstate commerce.”
There were several items considered by the Court:
- The physical presence test in inappropriate when online retailers are dominate
- There has been large revenue loss to the States because of the physical presence rule
- Digital transactions present unique problems in applying the physical presence test. The example used was a retailer placing “cookies” on customer’s hard drive. Does that constitute “physical presence”?
- The physical presence test disadvantaged in state brick and mortar sellers, while encouraging other businesses to remain on the internet in order to avoid taxes
- The physical presence rule was found to be an imposition on state sovereignty by limiting a state’s ability to tax.
What Now? The very real question arises: “what kind and how much economic activity is necessary to create the nexus under the Interstate Commerce Clause?” What level and kind of business constitutes “carrying on business”? The North Dakota law defined “carrying on business” as sellers who made sales of more than $100,000 or engaged in 200 or more separate transactions with in state customers.
Part of what states and Congress will be dealing with in the future is defining “carrying on business”, “extensive virtual presence”, size and types of taxable business activities, etc.
It is interesting to note the break down of Justices in the 5-4 Wayfair decision. The Majority Opinion was held by Justices Kennedy, Thomas, Ginsburg, Alito and Gorsuch. They concluded the decisions in Quill and National Bellas Hess were wrong.
The Dissenting Opinion was put forward by Chief Justice Roberts, and Justices Breyer, Sotomayor, and Kagan. The dissenting Justices agreed with the Majority the two decisions were incorrectly decided, but thought the court should be bound by stare decisis.
Which brings us to Arizona. In the current Legislative Session, bills have been introduced attempting to create taxation rules for online retailers and platforms selling goods in Arizona, whether they do or don’t have a physical presence.
HB 2702 is a bill one should read and think about. It is a bill authored by Ben Toma with amendments from the House Ways and Means Committee. It attempts to address the questions and concerns posed by the Supreme Court. Although this bill does not appear to be going forward, it is obvious we will see this or some other bill next session as Arizona grapples with taxing internet commerce by in state and out of state sellers.
For real estate this directly affects TPT on out of state property owners who may not submit TPT now, either out of ignorance or design, and some of the real estate platforms. One item to watch for, will a responsibility to pay TPT transfer from a property owner to a platform vendor?
And now another Supreme Court case to watch: North Carolina Dept. of Revenue v Kimberly Rice Kaestner 1992 Family Trust. Because the Wayfair decision did not limit or define a state’s taxation authority. Here is the question now before the Court, Can North Carolina tax the beneficiaries millions of dollars based on the income to the Kaestner Family Trust from 2005 to 2008? The beneficiaries lived in North Carolina, but none of them received any funds from the Trust which was created, is housed and has its Trustee in New York. Technically, under the terms of the Trust, the Trustee has discretion over trust funds distribution and investments and legally owns the trust income.
The North Carolina Department of Revenue argues the trust exists for the sole benefit of the beneficiaries. The beneficiaries may not hold legal title to trust property, but they do have an equitable interest.
While this case will affect tax law in regards to trusts, it may also eventually affect common real estate tools. Equitable Title is used to ensure the right to enter and use the property and eventually gain legal title to the property. It does not allow the title holder to sell or transfer ownership. An example would be a land contract. The Equitable title holder, the buyer, gains access and use of the property while making payments to the seller.
If you practice probate real estate, you may find your business is affected sooner rather than later.
While neither Wayfair nor Kaestner Family Trust are getting much notice, real estate, ownership and state’s rights are all being articulated and defined.
It is a good idea for REALTORS® with Trust clients, business owners, rental property owners, investor clients or anyone who might be affected by this issue, to suggest their clients consult an attorney and tax expert for guidance going forward.