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Oral arguments in South Dakota v. Wayfair, arguably one of the biggest state tax cases ever before the U.S. Supreme Court, were held April 17. In this article, Rimon P.C.'s David Fruchtman discusses how the arguments exposed two obstacles to South Dakota’s position.
By David Fruchtman
Mr. Fruchtman chairs Rimon P.C. State and Local (Subnational) Taxation practice. On March 5, he submitted an amicus curiae brief in Wayfair in support of neither party pointing to issues uniquely related to sales taxation of services. While Mr. Fruchtman’s amicus brief supports neither party, Respondents, in their March 28 brief, attempt to extend their brief to address sales taxation of services, citing the amicus brief as supporting authority. Respondents’ Brief at 56.
“Instead they defend Quill only by alleging that other, pint-sized retailers might face outsized costs under some hypothetically burdensome economic presence regime in another State.” South Dakota Reply Brief, p. 2.
Careful review of the transcript of the April 17 oral argument in South Dakota v. Wayfair, et al., reveals that this case was South Dakota’s to lose. Depending on which side you support, the bad news, or the good news, is that South Dakota (with help) might have done just that. Going into the argument, it was widely predicted that Justices Kennedy and Gorsuch would vote to abrogate or limit the reach of Quill’s physical presence rule. And it quickly became clear that Justice Ginsburg wants to send this issue to Congress, meaning that South Dakota had three of the five votes needed for abrogation. But when oral arguments concluded, at least two unnecessary but significant obstacles to the state’s position were exposed: South Dakota’s attitude towards out-of-state small businesses, and other states’ possible retroactive application of abrogation of the physical presence test.
First, regarding South Dakota’s attitude toward small businesses, one wonders: How did their Reply Brief get filed with the demeaning characterization (quoted above) of small businesses? “ Pint-sized”? Certainly, that is not a respectful way to refer to a business an adult operates to support his or her family.
Moreover, the language clearly was intended to signal to the Supreme Court not to concern itself with small e-commerce businesses. Yet South Dakota is chasing these very same small businesses, with a filing threshold that realistically is in the range of $400-$1600 of sales taxes annually. And, during oral argument, South Dakota told the Court that under Complete Auto Transit v. Brady, 430 U.S. 274 (1977) the minimum number of in-state transactions necessary for a remote vendor to establish tax presence in South Dakota is “one sale”. Official Transcript (Tr.) at 6. Justice Sotomayor immediately asked, “So what are we going to do with the costs that you are going to put on small businesses?” The state attempted to redirect the discussion. But Justice Sotomayor was undeterred and pursued this inquiry—beyond the cost of the software needed to collect taxes—into other categories of costs, including integrating the new software program with the business’s existing sales program, maintenance of the data in the software program, and multistate audits. Tr. at 7.
The Solicitor General agreed with South Dakota that one sale is sufficient to create tax presence. Tr. at 22. However, aware of the Justices’ discomfort with such a low threshold, the state and Solicitor General opined that either (i) individual businesses could contest a state’s assertion of such presence by relying upon the balancing test of Pike v. Bruce Church, Inc. , 397 U.S. 137 (1970) which requires engaging counsel or (ii) Congress could step-in to establish a more reasonable minimum threshold (Tr. at 8, 23, and 56).
The inquiries into what South Dakota’s approach will mean to small businesses continued when Justice Breyer raised a concern that these tax collection requirements will create an entry barrier inhibiting the development of new businesses (Tr. at 25). South Dakota’s troubling posture regarding small businesses was not helped when, in response to Justice Breyer’s inquiry, the Solicitor General stated that:
a front-line answer is the dormant Commerce Clause doesn’t entitle a fledgling business to the ability to make a profit if the obligation to collect sales taxes in various states pushes it from making a profit to—to sustaining a loss. Tr. at 26.
In short, running throughout the argumentation of the state and Solicitor General, there was a conspicuous thread of indifference to the economic pain caused to e-commerce vendors.
Near the conclusion of South Dakota’s argument, it realized the gravity of the issue its responses highlighted. It therefore closed its rebuttal with the following statement regarding in-state small businesses:
I truly believe that if you go to look at what is at issue here, it goes back to what I originally said. Small businesses are not being treated fairly. We’re not asking remote sellers to do anything that we’re not already asking our small businesses to do in our state. And that is simply to collect and remit a tax. Tr. at 61.
Observation: While the closing might have softened the unpleasant countenance South Dakota displayed toward remote small businesses, the unfortunate exchanges above should not have occurred. This is not a zero-sum issue between in-state small businesses and remote small businesses. Rather, South Dakota’s economic nexus threshold of 200 transactions is far too low, and at oral argument the state—caught unawares—was called to account.
Second, retroactive consequences of any change to Quill have long been a known and obvious issue. To its credit, South Dakota eliminated this issue from its economic presence statute by limiting its statute to prospective application. See South Dakota S.B. 106, Section 5 (available at Petitioner’s Brief, Appendix A). However, other states have not done likewise, and during oral argument South Dakota had to bear the burden of their inaction.
The Justices raised the issue of retroactivity repeatedly during oral arguments, and when South Dakota was forced out of the safe environment of its statute, there seemed to be no good answers. In the closing minutes of its argument, South Dakota referenced its brief’s Appendix B, which in two pages purports to separate into four discrete categories 40 states’ laws, rules, cases, and administrative pronouncements involving retroactivity. Tr. at 59 (referencing 38 states rather than the 40 addressed in the appendix; the reason for the different number of states is unclear). But that Appendix has not been vetted and, in a case with stakes as high as those here, it seems doubtful that the Court will attach much if any credence to this summary listing.
Moreover, the Respondents also included two appendices in their brief providing their categorization of state retroactivity treatments. Respondents’ Brief, Appendices A and B. Unsurprisingly, the Parties’ appendices are inconsistent with each other.
More reliable than either Parties’ listings is the amicus curiae brief filed by Tax Executives Institute, Inc., (TEI) in support of the Respondents, providing TEI’s independent analysis of the states’ positions regarding retroactivity. TEI’s brief, in addition to states’ constant desire for increased tax collections, undercuts South Dakota’s attempt to reassure the Court that other states will not apply an abrogation of Quill retroactively.
Despite all of this, it was clear that neither the state nor any of the Justices who spoke wanted an abrogation of Quill’s physical presence test to be applied retroactively. Therefore, Justice Ginsburg offered two conceivable corrections to the problem of retroactivity. In the first, she suggested that if the Court abrogates Quill’s physical presence test, Congress can pass a law prohibiting retroactive application. Tr. at 16-17. Thereafter, the Solicitor General attempted to leverage the “let Congress do it” line of thought (Tr. at 19), but was promptly rebuked by Justice Sotomayor: “That doesn’t do any—that doesn’t do anything for the interim period and for the dislocation and lawsuits that will—it will engender until there is a congressional settlement.” Tr. at 19-20.
Later, Justice Ginsburg raised the possibility of the Supreme Court overruling Quill prospectively and, thereby, eliminating retroactivity concerns. Tr. at 29. In an exchange that highlighted how vexing the retroactivity problem is, Justice Ginsburg asked the Solicitor General for the United States’ view on such prospective Court action. The Solicitor General responded that (i) the Court could not do that but, in the same response, also said that (ii) perhaps the Court could do that:
I—I think the Court has eschewed prospective announcement of constitutional rules in the following sense: That is, the Court has determined sort of correctly, I—I believe, that the Court’s role is to interpret the Constitution, not to amend it.
If the Court says in June of this year that the dormant Commerce Clause means X, it can’t say that up until now the dormant Commerce Clause meant something else. And in that sense, prospective decision-making is inconsistent with the judicial role.
However, there are circumstances—and qualified immunity is one of them—where even though the newly announced constitutional rule as a rule applies retroactively, the ability of—the availability of particular types of relief may depend on whether people were justifiably uncertain at the time. Tr. at 29-30.
Certainly, the Solicitor General’s mention of “qualified immunity” and “relief” seem totally out of place in this colloquy. This much, however, is clear: The retroactive application of a change to Quill’s physical presence test is a major obstacle to the Court approving such a change. Unfortunately for South Dakota, neither it nor the Solicitor General have been able to chart a course around that obstacle.
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