The March 1992 issue of The CPA Journal addressed three cases that were to be reviewed by the U.S. Supreme Court during the term ending May 1992. Decisions have now been handed down on these and other cases relating to state and local tax issues. They have a significant impact on the landscape upon which both taxpayers and the states operate. These cases also offer some guidance that will enable taxpayers to develop appropriate tax planning strategies to minimize the ever increasing state and local tax burden. Some of the issues before the Court directly involved long-standing principles of state and local taxation. For example, in Quill Corp. v. North Dakota, the Court addressed the constitutional limitations on nexus for sales and use tax purposes. The Court also considered the propriety of the unitary business standard in Allied-Signal Inc. v. Director, Division of Taxation. In addition, the Court defined the scope of the income tax nexus standards set forth by Public Law 86-272 in Wisconsin Department of Revenue v. William Wrigley, Jr., Co.
SALES AND USE TAX NEXUS ISSUE
On May 26th, the U.S. Supreme Court, in Quill Corp. v. North Dakota, 1992 U.S. LEXIS 3123, upheld on commerce-clause grounds its landmark 1967 decision in National Bell Hess, Inc. v. Department of Revenue of Ill., 386 U.S. 753, and barred states from imposing a use tax collection obligation on sales to their residents by out-of-state mail order companies. However, the Court indicated that Congress is better qualified to resolve this issue, and left the door wide open for Congress to do so without conflicting with the Court on the issue of due process.
By way of background, Quill, a Delaware corporation, has no physical presence (i.e., offices, employees or tangible personal property) in North Dakota.(1) Quill makes deliveries of merchandise to its North Dakota customers by mail or common carrier from out-of-state locations. In 1987, North Dakota amended its statutory definition of "retailer" to include every person who engages in regular or systematic solicitation of a consumer market in the state. Regular or systematic solicitation is defined by North Dakota regulations as three or more advertisements within a twelve-month period. By virtue of these provisions, North Dakota sought to impose a use tax collection obligation on Quill for sales to North Dakota customers.
The Court initially determined that the due process clause of the Fourteenth Amendment did not bar enforcement of the North Dakota use tax against Quill. In doing so, the Court overruled its prior decisions to the extent that physical presence in a state was required for due process purposes. The relevant inquiry was whether a defendant's contacts (rather than a physical presence) with a state made it reasonable, in the context of the federal system of government, to require it to defend a suit in that state. The Court noted that Quill had purposefully directed its activities at North Dakota residents, that the magnitude of those contacts was more than sufficient for due process purposes, and the use tax was related to the benefits Quill received from access to the state.
The Court then determined that North Dakota's enforcement of its use tax against Quill placed a burden on interstate commerce in violation of the Commerce Clause of the United States Constitution. In doing so, the Court rejected the holding of the North Dakota Supreme Court that Quill's "economic presence" in the state provided a constitutionally sufficient nexus for the imposition of North Dakota's use tax collection obligation.
THREE PRONGED ANALYSIS
The Court's commerce clause analysis was threefold. First, the Court noted that its holding in Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977), did not render the Bellas Hess holding obsolete. The four part test set forth in Complete Auto governs the validity of state taxes under the Commerce Clause. Complete Auto provides that a tax is constitutional under the Commerce Clause so long as the tax 1) is applied 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 provided by the state. …