INSIGHT: The World After ‘Wayfair': The Global Impact of U.S. State Sales Tax Nexus Changes

In its June 2018 opinion in South Dakota v. Wayfair, the U.S. Supreme Court effectively eliminated the standard established in its prior case law that sellers need to have a physical presence in a state before they can be required to collect state sales and use taxes. A number of states have since begun reviewing and revising their rules to eliminate the physical presence requirement, and the list of states making this change continues to grow.

The Wayfair case has significant implications for U.S.-based remote sellers, but nothing limits the extension of its application to foreign multinational companies (MNCs) that sell into the U.S.

Below are several questions to help non-U.S. sellers think through the relevant issues they must address in order to determine the potential impact the Court’s ruling will have on their business and how they might choose to respond.

Q. Although my company delivers otherwise taxable sales to U.S.-based customers, it operates completely outside US boundaries, so I don’t think we have any U.S. sales tax exposure. Am I right?

A. No; it’s a bit more complicated. As a practical matter, it might be difficult for a U.S. state to enforce an assessment of tax due if the foreign company operates completely outside the U.S., but states might explore other ways to collect what is owed. State tax administrators would have little authority to pursue that company in foreign jurisdictions, but they could examine bank accounts or block credit card transactions, for example. And if that same company later decides to directly enter the US market and establish some kind of presence, any latent state tax liability could present obstacles, including the possibility of retroactive enforcement by the states through enforcement in any state. Unlike the federal income tax, every state has successor liability laws, which transfer the liability for unremitted sales tax to buyers, even in an asset acquisition. Thus, this latent liability could create a problem for the company if it later exited through an IPO, merger, sale or acquisition by an acquirer that has—or in the future will have—a U.S. presence.

This is because, just like for federal income tax purposes, the applicable statute of limitations for state tax doesn’t begin to run until a tax return is filed. Consequently, if the foreign company never files a tax return, the state tax liability could build up indefinitely. Moreover, because most states impose successor liability on the acquirer of a business for sales tax exposures, it wouldn’t matter if the acquirer purchased the business in a stock purchase or by purchasing all of its assets. Any acquirer would be responsible for the company’s historic state tax liabilities. State tax liability could therefore create controversy risks and affect reputation if a company later decides it wants more of a U.S. footprint, considers a sale to another business that has its own contacts with the U.S., or even contemplates having such contacts in the future.

Q. My MNC is organized under the law of a country that has a comprehensive tax treaty with the U.S., and under that treaty, does not have a permanent establishment (PE). Isn’t that protection enough from state sales tax nexus?

A. No. The U.S. model tax treaty upon which all U.S. international tax treaties are modeled only provides protections from U.S. federal income tax and explicitly does not cover state taxes (other than prohibiting state tax laws that discriminate against the citizens of the foreign country). While it is true that some states explicitly adopt U.S. treaty provisions or indirectly incorporate them through conformity with federal taxable income, this is simply not the case for state sales tax purposes.

The concept of PE is frequently used in international bilateral tax treaties, and while similar to nexus, is more narrowly focused. So it is possible for a non-U.S. taxpayer to have nexus with a state, yet not have a PE with the U.S.

PE generally requires a fixed business location such as an office. State nexus rules vary by state, and, in contrast to PE, nexus can exist without a fixed place of business in the state. In fact, in some states with economic nexus provisions, nexus can exist when the foreign company has no form of physical presence in the state—or, for that matter, in the U.S. For example, nexus can be triggered by income generated in a state from intangibles or finance activities.

Q. What can I do to make sure my business is managing these state sales and use tax changes?

A. While every situation is unique, here are five leading practices to consider:

• Analyze and assess your legal standing in various states and determine whether you may now have a state sales tax filing obligation following the Wayfair decision.
• Monitor developments in all relevant states, as well as the potential for federal sales and use tax legislation that may place limits on the states’ ability to impose nexus on out-of-state businesses, including foreign businesses.
• Review your state tax compliance policies, processes, and systems to assess potential gaps. Analyzing sales data, improving documentation, and adopting cross-functional approaches can help reduce the potential for error and help track where, how, and when purchases are used, all of which can affect taxability.
• Weigh possible retroactive remedies such as entering into voluntary disclosure agreements with state taxing authorities or filing under state tax amnesty programs.
• For MNCs with U.S. operations or those considering a greater U.S. presence in the future, consider alternative structures or approaches to sales tax collection. Direct pay permits, which are authorized by certain states, allow consumers (as opposed to vendors) to determine the taxability of a transaction. Centralized purchasing allows for greater control over the sales and use tax function, including centralizing data collection and administration to make more accurate and informed sales tax decisions and provide for greater coordination with the procurement function.

Editor’s Note: The Wayfair case involved a challenge to a 2016 South Dakota law that requires remote sellers to register, collect and remit sales tax in the state if, in the previous year, the seller either had over $100,000 of gross revenue from delivering goods into South Dakota or sold these goods for delivery into South Dakota in 200 or more separate transactions. The Court did not opine directly on the constitutionality of the South Dakota law, but the majority opinion overruled the two cases that had established the physical presence standard for nexus (the legal term for the requirement that companies doing business in a state collect and pay tax on sales in that state). For more detailed analysis and information on the ruling, see EY Tax Alert 2018-1269.

Author Information

Michael Wasser is an EY National Tax Senior Manager and U.S. Sales and Use Tax Controversy leader. Michael R. Woznyk is a principal and National Sales and Use Tax Practice Leader. Steven Wlodychak is a Principal and State and Local Tax Leader at the EY Center for Tax Policy.

The views expressed are those of the authors and do not necessarily reflect the views of Ernst & Young LLP or any other member firm of the global Ernst & Young organization.