It took nearly four years, but the Senate finally held a hearing on the state sales tax landscape in the aftermath of the landmark Supreme Court decision in South Dakota v. Wayfair. That’s a positive sign that Congress is finally waking from its blissful slumber as an economic catastrophe brews under its nose for small businesses, but far more concrete action is needed.
Prior to Wayfair, businesses could only be required to collect and remit sales taxes on behalf of a state if they had some form of physical presence in that state — be it property, employees, or inventory. Wayfair changed that, allowing states to assess collection and remittance obligations on the basis of “economic nexus,” or a substantial economic presence in the state, even if the business in question had no physical presence. Since the decision, each state with a sales tax has instituted some form of economic nexus rules.
That change exposed smaller remote businesses to a whole world of state and local sales tax compliance that they were extremely ill-equipped to handle. After all, the Walmarts and Amazons of the e-retail world were already collecting and remitting sales tax nationwide either due to physical presence or voluntary collection agreements even before the Wayfair decision happened, and had the accounting staff on hand to do so.
On the other hand, smaller businesses that previously had collection and remittance obligations in just one or two states were suddenly expected to be aware of the change and adjust their operations to be in compliance with the sales tax regimes of states all around the country — and in some cases, local jurisdictions as well.
That’s led to three types of remote businesses: those that are completely unaware of the change, those that are aware of the decision but lack the considerable compliance resources necessary to comply and are hoping Congress saves them, and those that are in compliance but spending far more money to do so than they are actually collecting on behalf of states. One business that National Taxpayers Union Foundation is representing in a case in Louisiana spends $2.28 in compliance costs for every dollar in sales tax revenue it collects.
While states are enjoying the new revenue they have brought in (particularly in the wake of a once-in-a-century pandemic pushing more commerce online), underlying this is a potential catastrophe for small businesses around the country.
In the eyes of state departments of revenue, there is no difference between a business that collects sales tax from consumers and keeps it for itself (a crime) and a business that never collects the sales tax from consumers in the first place as it is unaware it needed to. This means that owners of businesses out of compliance with state economic nexus rules are at risk of losing not only their businesses, but also their personal assets as well as rapacious state revenue officials seek the sales tax revenues they believe they are owed.
Unfortunately, the Senate Finance hearing illustrated the mistaken assumption that many legislators have about the scope of the issue — the majority of senators attending the hearing were from states without a sales tax. But this problem is so much greater than just a sales tax state versus non-sales tax state issue.
Should Congress realize the problem brewing under its nose, there are solutions. Congress can and should require any states assessing economic nexus tax obligations to abide by a set of simplification measures that reduce the burden of complying with sales tax regimes around the country, including state-level collection and audit points of contact, the option of a single sales tax rate per state, relief for out-of-compliance sellers, exempting non-taxable sales from thresholds, and bans against retroactive enforcement, just to name a few.
While it was encouraging to see Congress finally taking notice, it badly needs to recognize the true scale of the problem. Though small businesses inherently lack the political clout, access, and spare time necessary to lobby Congress effectively, legislators must do their own due diligence. Without reform, small businesses around the country could be forced out of business by states that are simply unwilling to simplify and modernize their tax codes.
