Internet sales tax and the ‘dormant commerce clause’

Have you ever wondered why you usually don’t have to pay sales tax when you buy something on the internet, or when you go to Farmington and buy a sofa and have it delivered here? It’s because of the “dormant commerce clause” of the U.S. Constitution. This doctrine has always been a thorn in the side of local businesses, especially in the age of the internet, where online retailers get an effective price advantage over local retailers. Congress has proposed a bill which would level this playing field – if it survives a dormant commerce clause challenge.

The dormant commerce clause is the flip side of the actual Commerce Clause of the Constitution, which provides authority for Congress to enact many federal laws, such as the Civil Rights Act. The Commerce Clause has been much in the news lately, as it is at the heart of the recent challenge in the Supreme Court to the Affordable Care Act, with the challengers arguing that its “individual mandate” exceeds federal power because the non-buying of insurance is not an act of interstate commerce, and so Congress has no power to prohibit it. The “dormant”interpretation of the clause meanwhile holds that states cannot take action which interferes with interstate commerce.

In the 1930s, the dormant commerce clause was held by the Supreme Court to prevent a seller’s state from levying its sales tax on items delivered out of state, because a buyer might be dissuaded from buying a product in another state with a higher sales tax, and could be subject to a use tax on the same item in her own state and thus be subject to double taxation (never mind that the Court approved having to pay the out-of-state tax if you buy the product and take delivery in person – after all, you could use that sofa in the back of your truck on the ride back up La Plata Highway). The Court later held that further, the buyer’s state cannot impose a duty on sellers in other states to collect the buyer’s state tax and remit it to the buyer’s state unless the seller had “significant contacts” with the buyer’s state, such as a store branch in the state. This is why you sometimes pay tax on online purchases and sometimes not- Best Buy has stores in Colorado, while Amazon (needless to say) does not.

So we lucky consumers buying out-of-state goods are in a happy limbo of often not having to pay either Colorado’s sales tax or the seller’s state’s tax. Not at the time of sale anyway – Colorado and most other states have laws requiring individuals to self-report and pay a use tax when the out-of-state retailer is prohibited from collecting it, but other than businesses and car purchases where registration is required, compliance is dismal. The recent Colorado effort to increase compliance by requiring out of state retailers to merely report sales rather than collect a tax was recently found by a federal court to violate – you guessed it – the dormant commerce clause.

But are we really so lucky to be able to skip out of paying these taxes? Are we better off in the long run giving a competitive advantage to Amazon over Maria’s Bookshop based on a fluke in constitutional law, and do we actually want to be a society of use-tax scofflaws? A bi-partisan (really!) group of sponsors of a new bill in Congress think not, and have proposed a solution, the Marketplace Fairness Act. It would create an interstate compact which any state could join, and any seller in such a state would have to collect the applicable tax in the buyer’s state and remit it to the state, with an exception for small businesses and with uniform procedures to ensure that this does not become an accounting nightmare. It probably avoids a dormant commerce clause problem because that clause only affects state legislation, and it is certainly authorized by the actual Commerce Clause which permits Congress to regulate interstate commerce.

A challenger might still argue that by opting into the compact, a state violates the dormant clause, although past instances where courts found such a violation involved pure state action in the absence of a federal scheme that regulates commerce, and did not involve an “opt in” by the seller’s state. My guess is that if passed, the Marketplace Fairness Act will survive dormant commerce clause scrutiny, and help level the playing field for local retailers.

Matt Kenna is a Durango attorney practicing public interest conservation law. Reach him at matt@kenna.net