Tax Reform Friday: How Will Wayfair Impact Corporate Income Tax Nexus?

On June 21, 2018, the U.S. Supreme Court issued its ruling in South Dakota v. Wayfair, Inc., holding that physical presence in a state is not required for out-of-state retailers to be obligated to collect and remit sales tax on sales to customers in that state. The Court remanded the case to the South Dakota Supreme Court to determine whether South Dakota’s economic nexus provision otherwise violates Commerce Clause protections.

While physical presence has been the constitutional standard for sales tax nexus purposes under the now overturned Quill decision, almost all states have traditionally distinguished that ruling for corporate income tax purposes. However, practitioners have long suggested that Quill’s physical presence rule should apply to corporate income tax nexus and that factor-presence based nexus standards potentially violate this rule.

With Quill gone, Wayfair may encourage more states to enact factor-presence based nexus standards for corporate income tax purposes. Alabama, California, Colorado, Connecticut, Michigan, New York, and Tennessee are all states that currently have such a test under which out-of-state corporations are deemed to have nexus for corporate income tax purposes where they have property, payroll, or sales in those states that exceed statutory thresholds.

In contrast, certain states like Delaware and Pennsylvania currently require by statute entities to have physical presence in the state to be subject to the state’s corporate income tax. Though not necessarily a direct result of the Wayfair decision, these states may consider the policy implications of removing their physical presence requirement, which would certainly help broaden their tax bases.

It remains to be seen whether a subsequent decision by the U.S. Supreme Court will provide more concrete guidance on what “substantial nexus” under Complete Auto effectively means. “Substantial nexus” should be just that, substantial, and Justice Kennedy indicated in dicta that there is a corresponding “de minimis” threshold under the standard. In a limited sense, the Wayfair decision solidifies the Constitutional footing of factor-presence based nexus and more states may choose to leverage the standard for corporate income tax purposes.

Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: Following Wayfair, how might states change their corporate income tax nexus standards?

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