What is South Dakota vs. Wayfair, and How Does it Impact My Business?
The 2018 Supreme Court ruling in South Dakota vs. Wayfair, Inc. (Wayfair), resulted in massive changes to sales tax compliance laws. States were granted the authority to enforce sales tax obligations on out-of-state businesses selling to residents of that state. Businesses suddenly became responsible for monitoring potentially taxable activity in every state and registering and reporting sales tax when they hit the state’s nexus threshold.
As a direct result of the Wayfair decision, the regulatory landscape is more complex than ever. Read on to learn what changed, how the Wayfair ruling impacts businesses today, and how your business can pursue a path of compliance.Jump To:
- Understanding Nexus and the History of eCommerce
- Economic Nexus in 2022 and Beyond
- What Impact Does Wayfair Have on a Business?
Understanding Nexus and the History of eCommerce
Before we get into South Dakota vs. Wayfair, Inc., it’s important to understand the general concept of nexus as it relates to sales tax. Nexus is the minimum connection a business must have with a state in order to have a legal obligation to collect and remit sales tax. Nexus can be either physical (resulting from a direct presence in a state) or economic (based on activity reaching customers of a state). Regardless of the specific type of nexus, businesses must understand how their activities potentially trigger the need to register for, collect, and remit sales tax in every state.
Although the Wayfair decision broadly overhauled the way states could collect sales tax on out-of-state businesses, it certainly did not establish the concept of nexus. Here is a brief history, as relates to eCommerce and interstate sales tax:
- 1992: SCOTUS Rules on 'Physical Presence' Nexus
- 1994-1996: The Dot Com Boom Takes Hold and eCommerce Is Born
- 2003-2004: eCommerce Solutions Pop Up Left and Right
- 2014: eCommerce Revenue Reaches New Highs Year-Over-Year
- 2016: South Dakota Introduces the Concept of “Economic Nexus”
- 2018: SCOTUS Re-evaluates Nexus Criteria
The landmark Supreme Court case, Quill vs. North Dakota, results in “physical presence” being named as the primary factor considered when establishing sales tax nexus.
Netscape launches and enables online marketplaces to strip away geographical barriers for consumers.
Payment processors and eCommerce platforms launch to support e-commerce growth.
Revenue tied to interstate eCommerce continues to climb, and states across the U.S. start seriously assessing how to enforce tax on out-of-state transactions.
South Dakota implements a state law requiring online retailers with more than $100,000 in annual sales to pay a 4.5% tax rate.
South Dakota files South Dakota vs. Wayfair, Inc., and SCOTUS agrees that it’s time to redefine how states collect tax on online and interstate commerce.
Economic Nexus in 2022 and Beyond
After the ruling in Wayfair, businesses had to start considering both physical presence and economic triggers when determining where they have sales tax nexus. The court put the onus on individual states to develop and implement economic nexus legislation, and the floodgates opened. States quickly began passing laws that allowed them to use economic nexus to collect previously unclaimed sales tax revenue.
Today, all but five states have passed economic nexus legislation. Alaska, Delaware, Montana, New Hampshire, and Oregon don't have state-wide sales tax at all, nor do they have state-wide nexus legislation. Missouri was the last holdout, with economic nexus legislation going into effect January 1, 2023.
What Impact Does Wayfair Have on a Business?
Impact #1: The Business May Have Unmet Tax Obligations
Physical presence nexus is still very much at play, and now economic nexus triggers also apply. Post-Wayfair economic nexus thresholds vary from state to state. Most commonly, economic nexus is based on the following common attributes:
- Revenue-based economic nexus threshold. For example, gross revenue from sales is greater than or equal to certain dollar amount, usually ranging from $100,000 to $500,000.
- Transaction-based economic nexus threshold. For example, a business does a certain number of transactions or more per year, usually ranging from 100 to 200 transactions.
All active state economic threshold policies include one or both of the common attributes listed above. If a business meets or exceeds the dollar amount or transaction count defined in a state, that business has economic nexus.
Threshold values are dynamic, with many states making changes since the Wayfair ruling in 2018. States have varying rules governing marketplace facilitator transactions (sales made through Amazon, Etsy, eBay, or Walmart marketplaces), and whether those sales should be included in or excluded from the calculations.
In addition to specific thresholds, states have varying tax timelines that impact when the business has reached sufficient nexus. This means a business is not only tracking the volume or dollar amount of sales in a state, but it also must track specifically when those sales meet or exceed the threshold.
- Effective dates:
- Measurement periods:
- Registration grace periods:
After the Wayfair decision, each state issued a start date for its nexus laws and requirements, ranging from June 21, 2018, to January 1, 2023.
Some states calculate their thresholds based on sales made during the prior or current calendar year. Other states may use the prior 12 months, the prior four sales tax quarters, or the 12-month period ending on the last day of the most recently completed calendar quarter.
When a business meets or exceeds the economic nexus threshold in a state, requirements vary regarding when it must register with the state for sales tax collection. While some tax jurisdictions use last year's sales data to determine nexus, others use current year data. In some states, like California, registration can be required as soon as the next transaction.
Combining these factors, any organization doing interstate business likely has nexus in multiple states.
Impact #2: Ongoing Compliance is Highly Complex
One of the biggest pain points for online and interstate retailers is that businesses must now open sales tax accounts, collect tax at the point of sale, and remit tax payments in significantly more jurisdictions.
Here are a few reasons economic nexus is difficult to manage:
- There are 11,000+ tax jurisdictions in the U.S.
- The business must identify and continuously monitor where it have nexus based on each state's economic threshold, and then register in those states.
- When a new state passes new economic nexus laws, businesses with nexus must remit taxes in that state if they meet the threshold.
- The business must stay up-to-date on sales tax law changes in every state where it operates or has sales activity.
- Each state has its own filing schedule and deadlines, which must be met to avoid additional fees.
Long story short, attempting to calculate and remit sales tax on all e-commerce sales correctly can be difficult and time-consuming for any business. While registration can be a heavy burden, consider outsourcing sales tax registration so that you don’t have to go it alone.
Impact #3: More Nexus Means More Audit Risk
The more jurisdictions a business is required to file taxes in, the more exposure it has. It also increase the chances the business will miss a filing deadline, make a simple calculation error, or get flagged for a random audit.
Audit risk factors include:
- Operating a business in a high-risk industry.
- Improper sales tax setup in point of sale (POS) and invoicing systems.
- Neglecting to change rates when laws change.
- Forgetting to run regular software updates.
- Poor inventory and sales tracking.
- Inconsistent, unorganized, or inaccurate recordkeeping.
Understanding ever-evolving sales tax requirements is a challenge for any business, but it’s never been more important to pursue a path of compliance. Ready to see where your business stands? Start with a no-cost compliance risk assessment.Continue reading “Beginner’s Guide to SaaS Tax for Business Owners”