Ever since landmark 2018 Supreme Court case South Dakota v. Wayfair was decided, states have had the green light to enforce sales tax collection obligations on out-of-state businesses with no physical presence in-state. That’s created a whole host of problems for small online retailers who lack the in-house capacity to keep up and comply with all the nuances of state sales tax regimes around the country. But while the problem is a broad one, some states cause more problems than others.
One such state is Massachusetts. The state known as “Taxachusetts” is earning its moniker of late by attempting to retroactively apply a goofy workaround to the pre-2018 state of play.
Prior to Wayfair, a business must have had some form of physical presence in a state (storefronts, warehouses, or employees living or working in the state) for that state to require the business to collect and remit sales taxes from customers in that state. If a business did not have such physical presence, customers were expected to remit the sales tax themselves on their state tax return (though in practice this was very difficult to enforce).
Concerned about the loss of revenue, states came up with all sorts of workarounds to avoid this “physical presence” standard. Massachusetts’s law did not rely on any form of economic presence argument, such as South Dakota’s rationale in Wayfair, to claim the power to impose tax obligations on out-of-state businesses. Instead, the state claimed that the digital “cookies” that online retailers’ websites placed on in-state customers’ computers constituted physical presence on the part of the retailers.
Cookies are tiny files stored on a user’s computer that “remember” certain aspects of a user’s history on a website, such as login information or the contents of a customer’s shopping cart. Upon returning to the website, the server communicates with a user’s computer to collect that previously-stored information and streamline the browsing process.
But while this is an integral, if rarely thought-about, part of modern internet browsing, Massachusetts decided that the files’ presence on a customers’ computer constituted physical presence, and thus enforcing tax collection obligations on this basis was allowed under the “physical presence” standard of the time.
Consequently, Massachusetts is claiming that businesses are responsible for remitting sales taxes under the law going back not just to the 2018 decision in Wayfair, but even before that. The problem is that online businesses never collected the sales taxes from customers in the first place, viewing Massachusetts’s law as just another workaround law that was unconstitutional under the legal standard of the time. As such, any “back taxes” they owe would have to come out of businesses’ own pockets, with no opportunity to collect from the customers who pay the tax.
One business expected to pay this retroactive tax, U.S. Auto Parts, challenged its $60,000 retroactive assessment in Massachusetts court. The case has now risen to the Massachusetts Supreme Judicial Court after U.S. Auto Parts prevailed in a lower court.
The National Taxpayers Union Foundation recently filed an amicus brief in the case, urging Massachusetts courts to send a clear message against retroactive tax enforcement, which violates every principle of good tax policy as well as fairness. Failure to do so would encourage other states with workaround laws on the books prior to 2018 to see if they can use them to squeeze more money out of taxpayers.
Taxpayers have it hard enough without being expected to act as constitutional experts as well. When states want to challenge Supreme Court precedent, they should suspend enforcement of their workaround laws until courts can weigh in, as indeed South Dakota did in the lead up to the Wayfair case. And when they don’t, courts can and must slap down attempts to retroactively apply the law.