The U.S. Supreme Court recently had the opportunity to consider whether to overturn its longstanding rule that States could only impose sales and use taxes on sellers that had a physical presence in the state. See South Dakota v. Wayfair, Inc., 585 U.S. ______ (2018).

The Court’s physical presence rule, set out in its Quill and Bella Hess cases, was based on its Commerce Clause jurisprudence. The Commerce Clause is found in Article I on the Constitution and provides that Congress has the authority to regulate interstate commerce.

The first Supreme Court, under Chief Justice John Marshall, ruled in Gibbons v. Ogden, 9 Wheat 1 (1824) that commerce included both the interchange of commodities and commercial interactions. A concurring opinion stated that Congress had exclusive authority to regulate interstate commerce.

However, five years after Gibbons, the Court decided Willson v. Black Bird Creek Marsh Co., 2 Pet. 245 (1829), in which it upheld a State’s action to dam and bank a stream that was part of an interstate water system, thus implying that Congress did not have exclusive authority over interstate commerce, but that Congress and the State’s held that power concurrently.

Over the following years the Court further refined its Commerce Clause jurisprudence by balancing the respective authority of Congress and the States. Where subjects by their nature demanded a single, uniform rule, operating equally on the commerce of the United States, Congressional authority was at its apex. Where activities demanded the diversity which alone could meet local necessities, States shared authority.

These precedents laid the groundwork for the Court’s Commerce Clause jurisprudence. Two basic principles that govern modern day Commerce Clause jurisprudence are: 1) States may not discriminate against interstate commerce; and 2) States may not place undue burdens upon interstate commerce. The rule prohibiting discrimination against interstate commerce has been described as virtually a per se rule of invalidity. But State laws that regulate even-handedly to bring about a legitimate local interest will be upheld unless the burden imposed on such commerce is “clearly excessive in relation to the putative local benefits.”

The area in which Congress has failed to exercise its power to regulate an activity is known as the “dormant Commerce Clause.” States may regulate in these areas but only if they do not discriminate against or unduly burden interstate commerce.

The rule in Complete Auto Transit Inc. v. Brady, 430 U.S. 274 (1977) provides that a state “may tax exclusively interstate commerce so long as the tax does not create any effect forbidden by the Commerce Clause.” Id. at 285.

Under Complete Auto, the Court will sustain a tax so long as it: 1) applies to an activity with a substantial nexus with the taxing State, 2) is fairly apportioned, 3) does not discriminate against interstate commerce, and 4) is fairly related to the services the State provides. See Id. at 279.

Prior to Complete Auto, the Court had decided whether Illinois could require out-of-State retailers to collect and remit taxes on sales made to consumers who purchase goods for use in Illinois. The Court held that a mail order company “whose only connection with the customers in the State is by common carrier or the United States mail” lacks sufficient minimum contacts required by both the Due Process Clause and the Commerce Clause. See Bella Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 386 U.S. 753, 758 (1967). Unless the retailer maintained a physical presence in the state, such as through retail outlets, sales representatives, or property in the state, the State could not impose a local use tax.

A quarter of a century later the Court was invited to overturn the physical presence rule in the case of Quill Corp. v. North Dakota, 504 U.S. 298 (1992). That case involved North Dakota’s attempt to collect a sales tax from an out-of-state mail order company that had no sales reps, retail outlets, or property in the state. The Court overruled the Due Process holding of Bella Hess, but retained the physical presence rule under the Commerce Clause.

In a prescient dissent in that case, Justice Byron White stated his opinion that the physical presence rule had become increasingly anachronistic as the nation and its markets have become more interconnected in the modern age.

Justice White, known as “Whizzer White” in his days as an All-American college football 🏈 player for the University of Colorado and later for the NFL, was definitely one of my favorite Supreme Court Justices.

At any rate, the majority concluded that the physical presence rule is anachronistic and unworkable in today’s society in which internet retailers are so all-pervasive, and accordingly, overruled Quill and Bella Hess. I probably reluctantly agree with this ruling, but lament that a formerly freewheeling area for start ups and entrepreneurship will be increasingly burdened.

Chief Justice Roberts wrote for the dissent in a valiant effort to restrain the Court from overruling precedent which has been so widely relied upon by a multitude of economic actors. He stressed that the doctrine of stare decisis, which militates against overruling precedents that have been widely relied upon except in compelling circumstances, should have held the day.

He noted that Congress has ample authority to correct any market distortions created by the physical presence rule and that Congress is far better equipped to make far-seeing policy decisions with respect to e-commerce. Some Senators had filed amicus briefs arguing that the Court should not overturn precedent because Congress was working on legislation in this arena.

One salient point made by Justice Roberts that struck me as especially poignant was the example of people starting a business selling embroidered pillowcases or carved decoys (what I would call e- cottage industries), who would effectively be put out of business if forced to comply with intricate sales tax rules in 10,000 different jurisdictions. Such small businesses will now need to rely on the good graces of a multitude of jurisdictions, hoping for reasonable rules exempting them from onerous compliance obligations.

This material should not be construed as legal advice for any particular fact situation, but is intended for general informational purposes only. For advice specific to any individual situation, an experienced attorney should be contacted.