Breaking down the Wayfair decision for Oregon businesses: Why you should now care about sales tax

The US Supreme Court’s decision in South Dakota v. Wayfair.

Earlier today, the United States Supreme Court issued its opinion in South Dakota v. Wayfair, et al.  In 2016, South Dakota passed a law that requires out of state vendors to collect its sales tax if those vendors had: (1) $100,000 of sales into the state or (2) more than 200 separate transactions for the delivery of goods or services into the state.  Wayfair (an online furniture retailer) sold goods from its website to customers in South Dakota and did not collect sales tax on those transactions.  South Dakota sued to compel Wayfair (among others) to collect its sales tax.  Justice Kennedy’s majority opinion, finding in favor of South Dakota overruled 26 years of judicial precedent in this area.  Prior to Wayfair, states could only make companies with a physical presence in the state collect and remit sales tax on transactions with in-state customers.

States have been trying to get around the physical presence requirement for years.  There was a whole stream of affiliate nexus, agency nexus, and flash nexus cases in the early 2000s.  These cases have only gotten weirder as business has evolved and our societal relationship with the internet has changed.  Most recently, we’ve seen Massachusetts assert that a company has physical presence in a state when that company’s website places a “cookie” on a customer’s web browser.  This is based, in part, on the theory that electronic information has a physical component, which is beyond the scope of this discussion.

One of the problems states have had in eliminating the physical presence rule is the legal concept of stare decisis – to stand by things decided.  This means that a court must give deference to the applicable prior legal opinions.  The majority in Wayfair glossed over the deference that it must give the prior opinion with the broad pronouncement, “If it becomes apparent that the Court’s Commerce Clause decisions prohibit the States from exercising their lawful sovereign powers in our federal system, the Court should be vigilant in correcting the error.” (no citation given).  The court also stated: “Though Quill [the earlier cases] was wrong on its own terms when it was decided in 1992, since then the Internet revolution has made its earlier error all the more egregious and harmful.”  So contrite was the court that Justice Thomas used his separate concurrence to express remorse that he hadn’t joined in Justice White’s dissent in the original Quill decision.  Chief Justice Roberts, joined by Justices Breyer, Sotomayor, and Kagan, state that State had not overcome the burden of proof necessary to overturn the earlier cases.

In Wayfair, the Supreme Court opinion focused on the evolution of online sales and the “significant revenue loss” to the states that has resulted from the requirement that vendors have a physical presence.  Justice Kennedy’s opinion specifically called out a statement on Wayfair’s webpage that stated, correctly, “[o]ne of the best things about buying through Wayfair is that we do not have to charge sales tax.”  The irony of this position is that each state that has a sales tax also has a use tax.  Use taxes are complementary taxes whereby an individual resident of that state is required to remit use tax, if they don’t pay sales taxes on the transaction, at the same rate that they would pay sales tax if the sale “occurred” in Oregon.  Use taxes are unpopular and many states are incompetent at compelling their residents to remit use tax.  If the states were better at collecting use tax, there wouldn’t be any revenue loss at all.  Prior to this decision, while Wayfair didn’t have to collect sales tax, its customers in South Dakota still did have to self-assess and remit use tax.

The court said that the South Dakota thresholds, noted above, created the presumption of a company having “minimum contacts” with a state sufficient to survive constitutional scrutiny.

The Court’s decision in Wayfair is going to open the floodgates for state sales tax audits on out of state companies that sell goods or perform enumerated services for customers in their states.  Many of these states have statutes that allow them to impose their tax systems “to the fullest extent allowed by law” (i.e., under the Constitution).

There has been a question for some years about whether Congress would act to address the question about when physical presence is required for states to tax transactions.  In part, the question has been gaining traction because many states have started to impose their non-sales taxes (income, franchise, etc.) on out of state vendors that have so-called “economic nexus” with the state.  Justice Gorsuch’s separate concurrence invited a discussion of whether there is a discussion that needs to take place about the role of Article III courts to invalidate state laws.  Specifically, Justice Gorsuch does not appear to agree entirely with the Court’s prior dormant commerce clause holdings, preferring to defer to Congressional action to regulate interstate commerce.  Chief Justice Roberts’ dissent correctly noted that “A good reason to leave these matters to Congress is that legislatures may more directly consider the competing interests at stake.  Unlike this Court, Congress has the flexibility to address these questions in a wide variety of ways.”

From a practical perspective, one of the biggest issues with this case is that the majority opinion basically ignores the issue of how horrifically complicated it will be for companies to report sales and use tax to all taxing jurisdictions where they are over the minimum thresholds.  It states “Eventually, software that is available at a reasonable cost may make it easier for small businesses to cope with these problems.”

In 2018, there are over 10,000 state and local jurisdictions that impose a sales tax on their customers.  Most of these overlap in one way or another, so (for example) a taxpayer could buy a widget for $10 and pay $1 of tax.  This may be broken up as: (1) a state level tax at 6%; (2) a municipal tax at 2.5%; (3) a school district tax at 1%; and, (3) a cultural district tax at 1%.  This taxpayer’s neighbor, across the street is located outside of the cultural district, but may be located in a football stadium district that imposes a rate of 2%.  If the widget vendor rises to the minimum economic level, its invoicing systems will have to distinguish between the different taxing districts and assess the correct rate of tax on both sales (10% and 11%, respectively).  Therefore, the widget vendor is going to have to buy complex and expensive software and then integrate it with its existing systems to know whether transactions are subject to tax.  Chief Justice Roberts’ dissent correctly called out the majority: “The Court, for example, breezily disregards the costs that its decision will impose on retailers.  Correctly calculating and remitting sales taxes on all e-commerce sales will likely prove baffling for many retailers.”

Why Should Oregon Business Care?

Oregon, emphatically, does not have a sales tax.  Except on heavy equipment, bikes and cars…. So, ya know….   But we don’t have a sales tax!

Oregon business owners, however, sell things to customers outside of the state to jurisdictions that do assess a sales tax on their residents.  Therefore, if the Oregon business crosses the state’s economic nexus thresholds it will now be required to collect and remit sales tax to that state.  Each state has different thresholds and we expect that we’ll see states asserting economic nexus that have previously abstained from doing so as a way to export their tax collection obligation to out of state folks.

One thing to keep in mind as well in this new world order is the fact that sales tax is imposed on the sale of tangible personal property at retail AND certain specific enumerated services.  Most service business owners in Oregon don’t think of what they are providing as taxable, so they should confirm that they are still not subject to tax in the states where they provide services to customers.  Areas that are often taxed by states may include: Services related to tangible personal property (decorating, repair, etc.); Services to real property (landscaping, maintenance, decorating, etc.); personal services; Business services; Professional services (lawyers, accountants, physicians, etc.); and amusement/recreation services.  We’ve seen a tremendous rise in the last few years of services provided remotely or over the internet and of “software as a service.”  These may also be subject to tax.

Stay tuned.

A large number of our clients are now going to be subject to sales tax collection and remittance requirements.  Therefore, we’re going to do a few blog posts in the next few weeks — sales tax 101 — for our Oregon business owners.

Oregon Shifts Heavy Equipment Personal Property Tax Burden to Contractors starting in 2019

Large and small heavy equipment rental providers throughout the state of Oregon recently scored a huge victory when Governor Brown signed HB 4139 into law earlier last month.  The new law replaces Oregon’s existing personal property tax system for heavy equipment with a 2 percent tax on every heavy equipment rental transaction starting in 2019. While many states have either eliminated personal property tax or have exempted certain manufacturing and construction businesses from ad valorem property tax, Oregon was one of the few remaining that offered no relief or reform of any kind for heavy equipment rental providers.

Critics often cited the compliance costs associated with the business personal property tax as complex and burdensome in a way that discouraged many companies from accurately reporting. The old system was a location-based tax. This means that a company would be taxed on heavy machinery it owned based on where it was sitting on January 1 of that year. Heavy equipment rental businesses often rent their equipment out all over the state and beyond. Tracking location of constantly moving equipment for tax purposes proved difficult and also created the potential of requiring companies to pay additional tax in multiple counties or states on the same equipment where assessment dates varied.

Under the new law, the location-based tax goes away and now a sales or value-added tax of 2 percent will be collected by the heavy equipment rental business at point-of-sale and remitted to the Department of Revenue. The Department is authorized to use up to 5{45ef85514356201a9665f05d22c09675e96dde607afc20c57d108fe109b047b6} of the revenue for administrative costs needed to enforce the tax. The remaining money will distribute out to the local counties based on where each rental transaction occurred. This ensures that the heavy equipment rental businesses have a much simpler system for determining the tax they owe and local counties receive revenue based on the number of heavy equipment rental transactions occur within its borders.

Many surrounding states such as California and Idaho have adopted state and local sales taxes on similar transactions. Supporters of this change say this makes Oregon more competitive in the construction market and will attract more business in general to the state.

According to Section 3 of the new law, every heavy equipment provider will need to register with the Department of Revenue by December 15 of this year to certify that they qualify for the rental tax program and exempt them from the old ad valorem property tax system. The providers will then be required to collect the rental tax on each transaction and file a return each calendar quarter to report the tax due. The change is meant to be revenue neutral, meaning that the amount of monies paid under the new system should equal to what the providers would have been paid under the old system. Section 5 states that any amount paid by a qualified heavy equipment provider that exceeds the old tax threshold will receive a refund in the amount of the excess.

While overall this new change will likely benefit both providers and local counties alike, heavy equipment rental businesses may receive more of a windfall from this change than initially planned. This is a quirk of the Oregon law that is different from other jurisdictions. Based on how the new law is worded, the providers are tasked with merely collecting and ensuring the proper amount of tax is transmitted to the Department of Revenue. The incidence of tax is on the party renting the equipment. So, the renter will remit the new tax to the equipment rental company along with the rental price, and if the amount of tax exceeds the amount “paid” under the old system, then the providers will receive a refund of any excess.

Based on the wording of the new law, it does not appear the Oregon Legislature has thought about this windfall possibility. It remains to be seen whether any modifications to the law will address this potential for abuse. We understand that the Oregon Department of Revenue is currently working on regulations to administer this new assessment.

Valerie Sasaki specializes in jurisdictional tax consulting, working closely with Fortune 50 companies involved in audits before the Oregon or Washington Departments of Revenue. She also works with business owners on tax, business, and estate planning issues in Oregon or Southwest Washington.

Special thanks to guest SYK co-author Nicholas Rogers. Nicholas is a 3L and 2019 J.D. candidate at Lewis & Clark Law School.

Grounded: Delinquent Tax U.S. & International Travel

Delinquent tax debt can now potentially ground U.S. taxpayers from international travel

Starting this year, The Internal Revenue Service (IRS) and U.S. State Department have teamed up in a manner that may affect the future travel plans of certain taxpayers that owe a large amount of money to the Treasury. In late 2015, President Obama signed the Fixing America’s Surface Transportation Act (FAST Act) to address long-term funding for surface transportation infrastructure planning and investment. Embedded deep in the law is Section 32101, which requires the IRS under § 7345 of the Internal Revenue Code (IRC), to notify the State Department of taxpayers certified to have “seriously delinquent tax debt”. Upon certification from the IRS, the State Department is then required to deny a passport application for such individuals and also potentially revoke or limit passports already issued to said taxpayers.

The IRS issued Notice 2018-01 on January 16, 2018 to explain the criteria for which taxpayers qualify and how they plan to enforce the new law.  Under § 7345(b)(1), a “seriously delinquent tax debt” is an unpaid legally enforceable, and assessed federal tax liability of an individual, greater than $51,000, subject to inflation and for which:

  • A notice of lien has been filed under IRC § 6323 and the Collection Due Process (CDP) hearing rights under IRC § 6320 have been exhausted or lapsed; or
  • A levy has been made under IRC § 6331.

The IRS calculates this $51,000 federal tax liability threshold based on an aggregate of the total amount of all current tax liabilities for all taxable years. Even if a taxpayer does not owe over $51,000 for one year, they could still end up targeted under IRC § 7345 if the total federal tax they owe across all years exceeds $51,000. This figure also includes any penalties and interest, which can accumulate rather quickly.

Taxpayers that qualify as having “seriously delinquent tax debt” but have entered into alternative arrangements with the IRS to pay should not be too concerned. IRC § 7345(b)(2) provides exceptions to taxpayers that have agreed to:

(1) An IRS-approved installment agreement,

(2) An offer in compromise accepted by the IRS,

(3) A settlement agreement with the Department of Justice, or has

(4) A pending due process hearing or,

(5) Requested innocent spouse relief

Taxpayers in Currently Not Collectible (CNC) status, in a bankruptcy proceeding or are currently in the process of obtaining one of the five exceptions also are excluded.

Before denying a passport, the State Department will first wait 90 days after receiving certification from the IRS about a taxpayer’s seriously delinquent tax debt. This time allows the taxpayer to try to resolve any erroneous certification issues, pay the full tax debt, or enter into one of the above alternative payment arrangements with the IRS. Meeting any of those requirements will require the IRS to reverse the certification within 30 days and provide notification to the State Department as soon as reasonably possible.

Most surprising to note, however, is that the IRS is not required to notify the taxpayer that they plan to certify their tax debt to the State Department. A taxpayer will likely only find out about the certification after it has already happened. The Taxpayer Advocate Service (TAS), an independent office within the Internal Revenue Service that represents the interests of taxpayers, has wholly criticized this process, citing the potential of infringing on Constitutional due process protections because the taxpayer does not have the option to contest the certification before taking place. They also question whether 90 days is enough time for taxpayers to resolve their tax liabilities, likely because taxpayers with seriously delinquent tax debt over $51,000 have more complicated issues that cannot always be resolved quickly.

Domestic travelers may also want to pay attention to whether their home state is in compliance with the REAL ID Act. This federal law passed during the Bush Administration established new federal standards for state driver’s licenses and ID cards that can be accepted by the federal government for “official purposes”, including boarding commercially operated airline flights. As of the last few years, the Department of Homeland Security has ramped up implementation of the new requirements and currently full enforcement will begin tentatively on October 1, 2020. Theoretically, if a taxpayer’s driver’s license or ID card did not meet the new federal standards, they may be required to show alternative identification that meets the new requirements. The only form of identification that currently meets the REAL ID standards for many taxpayers is a U.S. Passport. Currently, all 50 states are either in compliance or have been granted extensions but many states have passed resolutions against implementing identification cards in compliance with REAL ID.

Valerie Sasaki specializes in jurisdictional tax consulting, working closely with Fortune 50 companies involved in audits before the Oregon or Washington Departments of Revenue. She also works with business owners on tax, business, and estate planning issues in Oregon or Southwest Washington.

Dynasty Disasters – Intergenerational Wealth

The Pitfalls of Intergenerational Wealth & Business Management

Running an intergenerational family-owned company can be very challenging. How do you balance present family and lifestyle goals, with operating a successful and growing company? How do you choose what is best for the family and its individual members, while also considering the future and thinking ahead to the next generation of the business?

While some family business dynasties such as the Mars Candy company and the descendants of William Randolph Hearst continue to thrive, other dynasties have crumbled. Frances Stroh was born an heiress to one of the largest beer companies in America, Stroh Brewery Company. In her new book “Beer Money: A Memoir of Privilege and Loss” she writes about her wealthy family’s downward spiral leading to the loss of their approximately 130 year brewing legacy. Ms. Stroh documents the missteps an intergenerational family-run company can make which could result in its collapse.

In a New York Times article discussing Ms. Stroh’s book, they highlight some of the unique issues that arise in intergenerational wealth and business management. For instance, in the Stroh family they chose successors of business management positions along patriarchal family lines. Instead of including women family members and outside talent, they assumed male heirs would automatically be talented and qualified in running the business.

As the Stroh family multiplied, many of the heirs relied on large annual dividends to support lavish lifestyles. Even when business profits dwindled, the dividends to heirs continued, resulting in company principle being drained.

Struggles within the nuclear family also contributed to the collapse of Stroh Brewery Company. Ms. Stroh recalled her father’s alcoholism and her brother’s drug addiction, coupled with the stress of losing the family business, causing her immediate family to unravel.

To read more about the Stroh’s struggle with intergenerational wealth management see the New York Times article.

Learn more about Frances Stroh’s book here.