Does the Sales Tax Nexus “Physical Presence” Standard Exist?

U.S. Supreme Court Declines to Review Florida Sales Tax Imposed on Out of State Inventory Delivered to Out of State Customers

In yet another blow for taxpayers, the U.S. Supreme Court has denied a taxpayer's request to review the Florida Supreme Court's decision upholding Florida sales and use tax on Internet sales of flowers, gift baskets and other tangible personal property, even though the sales were fulfilled by out of state florists, using out of state inventory delivered to out of state customers. [American Business USA Corp. v. Florida Department of Revenue, U.S. Supreme Court, Dkt. 16-567, petition for certiorari denied February 21, 2017]  While the petition provided the opportunity to “reexamine Quill”, which Justice Kennedy requested in his concurring opinion in Direct Marketing Association v. Brohl, 135 S.Ct. 1124, 1135 (2105), its denial sends yet another message to state taxing authorities that “all’s fair in sales tax nexus”, and that they may proceed to continue imposing sales and use tax obligations on out of state businesses and, now, even out of state sales.

The Quill Court stated that the taxing state had transactional nexus to impose tax on the sale of the tangible personal property, but lacked physical presence nexus over the out-of-state taxpayer.

Specifically, the Florida Supreme Court agreed with the Florida Department of Revenue that the sales tax assessment did not violate the U.S. Constitution because American Business had a physical presence in Florida and its activities had substantial nexus in Florida.  [Florida Dept. of Revenue v. Am. Bus. USA Corp., 191 So. 3d 906 (Fla. 2016)].   In doing so, the Florida Supreme Court reversed the Fourth District Court of Appeals, which recognized that "[b]ecause the flowers sold by the Florida-registered internet business were never stored in or brought into Florida, the imposition of taxes did not meet the 'substantial nexus' test and thus violated the dormant commerce clause." [Am. Bus. USA Corp. v. Dept. of Revenue, 151 So. 3d 67, 68 (Fla. 4th Dist. App. 2014)].  Readers can review the history of the Florida sales tax matter involving American Business USA Corporation, and the merit of the taxpayer’s U.S. Supreme Court petition in my previous blog posting HERE. 

Recall that in 1992, the U.S. Supreme Court held that a business must have a physical presence in a state for that state to require it to collect sales taxes. [Quill Corp. v. North Dakota, 504 U.S. 298 (1992)]  However, save a de minimis threshold (exemplified in Quill’s case by a few floppy disks owned in the state), the Court did not indicate what activities, or what levels of activities, would create physical presence.  In Quill, the Supreme Court ruled unconstitutional as violative of the dormant Commerce Clause a use tax requirement on an out-of-state business that lacked physical presence in the taxing state.  The Quill Court stated that the taxing state had transactional nexus to impose tax on the sale of the tangible personal property, but lacked physical presence nexus over the out-of-state taxpayer, Quill Office Supply.  The Court explicitly stated that Congress, through its Commerce Clause powers, can enact legislation that changes this “physical presence” nexus standard. Since this time, Congress has not enacted any legislation changing this nexus standard, however states have continually adopted novel theories to impose sales tax collection requirements on out-of-state taxpayers who lack traditional notions of a physical presence.  

While this case presents the inverse set of facts to those presented in Quill, the Florida Supreme Court relied on the U.S. Supreme Court's decision in Quill to support its holding that a Florida company can be required to collect sales tax for sales made anywhere in the world.  By denying the taxpayer’s petition for review in American Business USA Corp. v. Florida Department of Revenue, the U.S. Supreme Court provides tacit consent for Florida and all states, to impose sales tax collection obligations on all sales by in-state taxpayers, regardless of the customer location.

[T]raditional modes of electronic commerce are resulting in sales tax nexus compliance obligations for companies ... However, proactively identifying these areas of exposure and negotiating favorable disclosure agreements with states in exchange for prospective tax compliance can save a company $Millions in unrecorded historical liabilities.

Reasonable minds may argue that this decision is currently limited in its application to similar statutes imposing sales tax collection obligations on florist sales.  However, as the taxpayer points out in its petition, “If Florida can impose a sales tax on a transaction based solely on the identity of the corporation that receives the order, ... The State of Washington could require Amazon.com to collect a Washington sales tax on every item sold over its website anywhere in the world.” [American Business USA Corp. v. Florida Department of Revenue, U.S. Supreme Court, Dkt. 16-567, petition for certiorari filed October 24, 2016]  As such, by enacting or administratively changing its sourcing rules, there is nothing to stop any state legislature, or even its taxing authority, from imposing a sales tax collection obligation on all Internet sales, regardless of the location of the customer, simply on the basis that the Internet seller is located in the state.  Not only does the decision in this case throw the Quill physical presence standard and the Supreme Court's substantial nexus jurisprudence out the window, but it throws long-standing notions regarding state revenue and tax policy out with it.  For example, even limiting ourselves to the taxpayer’s facts, should the customer’s state defer to the Florida in its efforts to collect sales tax from a Florida seller that it believes has nexus in the customer state?  Does the customer not have a use tax obligation to its taxing authority in the state of use and consumption?  What if the customer resides in a state that does not tax such sales, or has no sales tax (e.g., Delaware)?  

As I’ve stated previously, it is becoming increasingly difficult for businesses – especially Internet and cloud-based sellers - to keep track of where their business activities may give rise to sales tax collection and filing responsibilities.  States continue to adopt novel standards under which remote sellers are deemed to have sales tax nexus, and continue to enhance enforcement efforts against remote sellers.  Due to state imposition of novel, long-arm nexus theories and the increased presence of companies like Amazon, traditional modes of electronic commerce are resulting in sales tax nexus compliance obligations for companies that utilize these marketplaces to reach a wider audience. However, proactively identifying these areas of exposure and negotiating favorable disclosure agreements with states in exchange for prospective tax compliance can save a company $Millions in unrecorded historical liabilities.