On March 3rd, the U.S. Supreme Court dealt a potentially crippling blow to Colorado’s efforts to force out-of-state retailers to assist the state’s efforts to collect use taxes on Internet and mail order purchases. While the court unanimously sided with retailers opposing Colorado on a key jurisdictional question, at least one justice expressed concern that states have been unfairly restrained in taxing Internet purchases.
Direct Marketing Association v. Brohl
Colorado legislators adopted a law in 2010 imposing a number of reporting requirements on out-of-state retailers who do not otherwise maintain a physical presence in the state. First, these retailers had to inform all of their Colorado customers they were liable for use tax on their purchases. Second, retailers had to send a specific notice to each Colorado customer who purchased more than $500 worth of goods during the previous year about their use tax liability. Finally, retailers had to provide the state’s Department of Revenue with the names, addresses and total purchase amounts for each of their Colorado customers.
Justice Kennedy’s assertion that it may be time to do something about the outdated Quill decision is highlighted if you look at the number of states that have attempted to enact their own version of Internet sales tax legislation.
The Direct Marketing Association (DMA), a trade group representing Internet and mail-order businesses, asked a federal judge for an injunction to prevent Colorado from enforcing this law. The judge granted that injunction in March 2012, holding Colorado’s Internet tax law requirements violated the Commerce Clause of the U.S. Constitution. Under the landmark 1992 U.S. Supreme Court decision in >Quill v. North Dakota, the Commerce Clause forbids a state from requiring retailers who do not maintain a “physical presence” within the state to collect its taxes. Here, the judge agreed with the DMA that the three reporting requirements “impermissibly imposed undue burdens on interstate commerce” and were therefore unconstitutional.
But in 2013, the U.S. 10th Circuit Court of Appeals reversed the trial judge’s decision. The appeals court did not address the merits of the DMA’s constitutional arguments. Rather, the three-judge panel said the federal courts lacked the jurisdiction to hear the case at all. In 1937, Congress passed a law prohibiting federal courts from issuing any injunction which interfered with a state government’s “assessment, levy or collection” of its own taxes. The 10th Circuit said that anti-injunction rule applied to Colorado’s Internet tax law reporting requirements.
The Supreme Court disagreed. In an opinion authored by Justice Clarence Thomas, the high court said the “notice and reporting requirements” in Colorado’s Internet tax law are not part of the tax “assessment” or “collection” process. In fact, Thomas said the reporting requirements precede both. For instance, the word “assessment” in the 1937 law refers to the act of recording a taxpayer’s liability; but Colorado’s law addresses efforts to gather information about the taxpayer’s liability. Thomas said the anti-injunction rule does not extend to such information gathering efforts.
Time to reconsider Quill?
In a separate opinion, Justice Anthony Kennedy wrote to express his personal belief the court should reconsider and overturn Quill v. North Dakota. Kennedy said requiring states to establish a physical presence (or “substantial nexus”) before imposing tax collection responsibilities on out-of-state retailers caused “extreme harm and unfairness to the States.” Kennedy said many states were struggling to collect use taxes on Internet and mail-order sales – Colorado alone loses about $170 million a year, he said – and given the “far-reaching and structural changes in the economy” caused by the online shopping revolution, he argued the time had come for the court to reconsider its position.
Kennedy acknowledged the DMA case was not the right time and place to address this issue, but he added, “The legal system should find an appropriate case for this court to reexamine” the Quill decision.
This may not be the last word
Although the Supreme Court said the anti-injunction law did not stand in the way of the trial court’s original decision in favor of the DMA, this case is not yet over. In a footnote to its 2013 opinion, the 10th Circuit suggested the legal principle of “comity” cautioned federal courts against interfering with Colorado’s internet tax law collection policies. Comity basically means that even if a federal court has the legal right to hear a case, it should decline to do so out of courtesy to the state’s authority. Colorado officials did not actually present a comity as a defense – and Justice Thomas said he and his colleagues took no position on the issue at this time – but the 10th Circuit may revisit the question following the Supreme Court’s decision.
S.M. Oliva is a writer living in Charlottesville, Virginia. He edits the international legal blog Bonham’s Cases.