Multistate Taxation – Gandhi – Winter 2015
Pay attention to what kind of tax you are looking at
II. Commerce Clause Restrictions on State and Local Taxation
Chapter 1: Introduction: Commerce Clause
§ Commerce Clause provides that “Congress shall have Power…to regulate Commerce with foreign Nations, and among the several States and with the Indian Tribes.”
o Federal government should be given the power to regulate commerce
§ Large source of tax litigation
§ It gives Congress the power to regulate commerce among the states, it does not say what the states may or may not do in the absence of congressional action, nor how to draw the line between what is and is not commerce among the states.
§ Three interpretations by Supreme Court re: tax
o All state regulation or tax of interstate commerce is prohibited
o States have power to regulate and tax interstate commerce unless prohibited or preempted by Congress
o Even if not prohibited or preempted by Congress, states have power to regulate or tax some, but not all, interstate commerce
o 1st and 3rd interpretations = negative/dormant clause.
§ Meaning: some constraint on state taxation or regulation is required, notwithstanding that Congress has neither prohibited nor preempted the legislation at issue
§ Aka: be cautious, dormant until we don’t like something.
§ Congress sometimes have prohibited state taxation, more often than not dormant Commerce Clause is the major restraint on states
o S.C. : Dormant Commerce Clause serves the purpose of preventing a State from retreating into economic isolation or jeopardizing the welfare of the Nation as a whole, as it would do if it were free to place burdens on the flow of commerce across its borders that commerce wholly within those borders would not bear.
o Scalia: Hates the dormant clause – will strike down state legislation only if it facially discriminates against interstate commerce or is indistinguishable from a type of law previously held unconstitutional.
§ Dormant/Negative Commerce Clause: Used to negate states’ approaches to regulating tax
§ Complete Auto 4-part test: a tax meets Commerce Clause so long as the tax:
o (1) is applied to an activity with a substantial nexus with the taxing State
o (2) is fairly apportioned
o (3) does not discriminate against interstate commerce
o (4) is fairly related to the services provided by the State
§ Prongs (1), (4) limit the reach of State taxing authority so as to ensure that state taxation does not unduly burden interstate commerce; Prongs (2), (3) prohibit taxes that pass an unfair share of tax burden onto interstate commerce
§ Nexus for Commerce Clause is about effects of state regulation on the national economy (where as nexus for Due Process Clause is about fairness)
§ Congress can authorize violations of Commerce Clause, but NOT the Due process clause
What is nexus?
1) Nexus, also known as sufficient physical presence, is the determining factor of whether an out-of-state business selling products into a state is liable for collecting sales or use tax on sales into the state.
2) Nexus is required before a taxing jurisdiction can impose its taxes on an entity.
3) Nexus is created if your company maintains a temporary or permanent presence of people (employees, service people or independent sales/service agents) or property (inventory, offices, warehouses).
4) The temporary presence is created through traveling people visiting states to call on customers or prospects, trade show attendance, or consigned inventory in warehouses.
5) Nexus is created once a substantial physical presence is established. Unfortunately, this is not clearly defined by each state and can vary from 1 day to a number of days in other states. The number of days that can create nexus can also vary based on the activity performed in the state.
6) Nexus means a business entity has established a direct or representational presence within a particular state or jurisdiction. This presence gives the state the right to require a company to pay or collect and remit certain taxes.
7) Nexus determination is controlled by the U.S. Constitution under the Due Process Clause and the Commerce Clause.
8) The Due Process Clause requires a definite link or minimum connection between the state and the person, property or transaction it seeks to tax.
9) However, the Commerce Clause requires a higher level of connection. The Commerce Clause requires a substantial presence in a taxing state by the entity the state desires to tax.
Ø Complete Auto Transit v. Brady  – States can tax interstate commerce
o Facts: Cars shipped to Jackson, MS and transported by taxpayer (MI corporation) to MS dealers (taxpayer argued the transportation was part of interstate movement)
o Issue: whether MS violates Commerce Clause when it applies its tax on the privilege of doing business within the State to Complete Auto [no] o Analysis:
§ Court overrules Spector; says that a state tax on the privilege of doing business is not per se unconstitutional when it is applied to interstate commerce (Spector had said it was)
§ 4-Prong test that comes out of Complete Auto was found in dicta (Justices did not think they were establishing a test)
· (1) Activity of individual has substantial nexus with the taxing State
· (2) Tax has to be fairly apportioned
o Internal consistency
o External consistency
· (3) Cannot discriminate against interstate commerce
· (4) Fairly related to services provided in the taxing state
o Note: Court does not saying anything about substantial nexus as Quill suggests it does
Ø Boston Stock Exchange v. State Tax Commission  o Type of tax: Transfer Tax on securities transactions, if part of it occurs within the state
§ Amendment: out of state sale is taxed more heavily
o Arg: Unconstitutional discriminationg against interstate commerce
o Court: Unconstitutional because it discriminates and violates the Commerce Clause
§ Does not neutralize the previous advantage that stock exchanges had with the original tax law. Only discriminates.
o Rule: A transfer tax is unconstitutional if it discriminates between residents and nonresidents, or if it discriminates between nonresidents engaging in one form of interstate commerce and nonresidents engaging in another form of interstate commerce.
o Note 2: Pike v. Bruce Church, Inc. cited by Ct. created a balancing test
§ “Where the statute regulates evenhandedly to effectuate a legitimate local public interest, and its effects on interstate commerce are only incidental, it will be upheld unless the burden imposed on such commerce is clearly excessive in relation to the putative local benefit…if a legitimate local purpose is found, then the question becomes one of degree. And the extent of the burden that will be tolerated will of course depend on the nature of the local interest involved, and on whether it could be promoted as well with a lesser impact on interstate activities.”
· Used infrequently to strike down a facially neutral statute. Usually involves safety restrictions on transportation
o Note 3: Baldwin v. G.A.F. Seelig, Inc. cited by Ct.
§ Unconstitutional because dealers buying from non-New York dairy farms could only buy if the price was at the NY minimum dairy price.
Ø Japan Lines v. County of LA  o Property tax in CA on containers; containers were sitting on docks on the day property was assessed so they were assessed; evidence that containers were also taxed by Japan.
o Issue: International double taxation
o Court struck down CA’s property tax
§ One reason: deals with foreign commerce which is governed by the Commerce Clause
§ Without the foreign commerce piece would meet the Complete Auto test
§ “While, under Complete Auto Transit, Inc. v. Brady,430 U. S. 274, no impermissible burden on interstate commerce will be found if a state tax “is applied to an activity with a substantial nexus with the taxing State, is fairly apportioned, does not discriminate against interstate commerce, and is fairly related to the services provided by the State,” id. at 430 U. S. 279,
· a more elaborate inquiry is necessary when a State seeks to tax the instrumentalities of foreign, rather than of interstate, commerce.
· In addition to answering the nexus, apportionment, and nondiscrimination questions posed in Complete Auto, a court must also inquire, first, whether the tax, notwithstanding apportionment, creates a substantial risk of international multiple taxation, and, second, whether the tax prevents the Federal Government from “speak[ing] with one voice when regulating commercial relations with foreign governments.” Michelin Tire Corp. v. Wages,423 U. S. 276, 423 U. S. 285.
· If a state tax contravenes either of these precepts, it is unconstitutional under the Commerce Clause. Pp. 441 U. S. 444-451.”
o Professor: Since this case, Court has put distance between itself and the case
§ Court realizes Japan Line was an overreaction and that it went too far
o Rule: A tax involving foreign commerce must meet not only the four tests developed in Complete Auto Transit v. Brady but must also meet two additional tests. The tax must not pose any risk of subjecting foreign commerce to multiple taxation, which is forbidden by the Commerce Clause, and the tax must not impair the federal government's ability to “speak with one voice” when regulating commerce with foreign governments.
Ø Maryland v. Louisiana  o (c) Nondiscrimination. This third prong of the Complete Auto Transit test may be the most significant. The Supreme Court has a long—and continuing—history of invalidating state and local taxes that facially discriminate against interstate commerce, especially if the tax provides a commercial advantage for businesses within the state imposing it.
o In Maryland v. Louisiana, 451 U.S. 725 (1981) the Court invalidated Louisiana’s First Use Tax, which was imposed on natural gas imported into Louisiana from the federal Outer Continental Shelf (OCS). The gas subject to the tax had not previously been taxed by Louisiana, by any other state, or by the United States, and it was processed in Louisiana for ultimate distribution to consumers in over thirty states. The Court found that the local nexus prong of the Complete Auto Transit test was met, but it concluded that the tax discriminated against interstate commerce because of the numerous tax credits and exclusions Louisiana granted to local users of offshore gas.
o Even though the First Use Tax was imposed at the same rate as the severance tax, it did not qualify as a compensatory tax. The Court reasoned that the gas was being extracted from federally owned lands and, therefore, did not constitute a loss of Louisiana natural resources.
o Because severance and first use (processing) were not ‘‘substantially equivalent events,’’ the first-use tax did not complement the Louisiana severance tax the way a use tax complements a sales tax (by attempting to ensure uniform treatment of goods and materials consumed in the state). The Court found no such equality of treatment between local and interstate commerce in the Louisiana tax scheme.
Ø Commonwealth Edison Co. v. Montana  o Rule: A severance tax on the extraction of coal from Montana did not discriminate against interstate commerce or violate the Commerce or the Supremacy Clause of the U.S. Constitution even though the tax fell primarily on out-of-state public utility consumers, for whom 90% of Montana's coal was destined, because it is imposed at the same rate regardless of the coal's destination and is borne according to the amount of coal consumed, not according to any distinction between in-state and out-of-state consumers.
o Validity was tested by applying Complete Auto.
§ Under the test, a tax does not unduly burden interstate commerce if it applies to an activity with a substantial nexus with the taxing state, is fairly apportioned, does not discriminate against interstate commerce, and is fairly related to services provided by the state.
o Purpose of Commerce Clause is to create an area of free trade among states, making borders irrelevant.
Ø Bacchus Imports, Ltd. v. Dias  o The excise tax encroached on the sales price
o IF there is an exemption from a tax, the exemption is interpreted narrowly
o Once a tax is created, a state has taxing power and can narrowly construe the exemption. The bur
tion clause of the Fourteenth Amendment.
o A reciprocity formula which provides that accounts receivable shall be considered to arise out of business transacted in a state other than that in which the owner thereof resides has the effect of bringing the intangibles of non-residents within the power of the taxing state, while excluding those of its residents, and fails to remedy the inequality of treatment.
Ø Allied Stores of Ohio, Inc. v. Bowers  o Type of tax: ad valorem (property tax)
o Consitutional: the tax did not discriminate against non-residents. In fact, it did not benefit Ohio residents. Ohio residents had to pay MORE tax for keeping these warehouses.
o It was worth it for the corporation to keep the warehouse full of supplies in the same state their stores were located, otherwise would have lots more overhead cost to ship supplies to their Ohio stores.
o Rule: The Equal Protection Clause of the Federal Constitution does not preclude a state from granting a property tax exemption for “merchandise or agricultural products belonging to a nonresident if held in a storage warehouse for storage only”, even though no such exemption is granted to residents.
Ø Williams v. Vermont  o Vermont collects a tax when cars are registered, but you do not have to pay the tax if the car was purchased in Vermont and sales tax has been paid.
o The Court held that this denies equal protection
o Does not make sense, residents won’t use the car
o Solution: Case remanded for further proceedings.
o Rule: Imposition of the Vermont motor vehicle use tax upon a nonresident who bought his car in Illinois, while residents purchasing autos in states having a reciprocal agreement with Vermont are exempt from the tax, violates the Equal Protection Clause of the Fourteenth Amendment to the United States Constitution.
Ø Nordinger v. Hahn  o California proposal: 1% ceiling on property tax rate and 2% cap on annual increase in assessed valuations.
o Limitation: new construction or change of ownership triggers a reassessment up to current appraised value. Disadvantage to those that buy homes, advantage to those who live in the same home for a long time, because they have caps on their tax increases
o This law was a public referendum to pass this Act. The court does not want to upset the will of the people.
o Older people who enjoy lower taxes are more “reliant” on the consistent taxes. “Newbies” can handle the higher tax because they are going into it knowing about the higher tax burden.
o Rule: The acquisition value property assessment scheme mandated by Article XIII A, Sec. 2, of the California Constitution (Proposition 13) does not violate the Equal Protection Clause of the Fourteenth Amendment.
IV. Due Process Clause
Chapter 3: Introduction
“Nor shall any State deprive any person of life, liberty, or property, without due process of law.”
Requires some definite link, some minimum connection between a state and the person, property or transaction it seeks to tax and that the income attributed to the State for tax purposes must be rationally related to the values connected with the taxing State. (nexus)
Was physical presence requiremenet, but Quill moved to…”If foreign corporation purposefully avails itself of the benefits of an economic market in the forum State, it may subject itself to the State’s in personam jurisdiction even if it has no physical presence in the State.”
Due Process clause has procedural, substantive and jurisdictional aspects.
Due process does not require physical presence in State for the imposition of duty to collect a use tax. (Quill)
Ø Wisconsin v. J.C. Penny Co  o Rule: Whether the tax imposed by Wisconsin may apply to a foreign corporation licensed to do business in Wisconsin without offending the Fourteenth Amendment of the Constitution. YES.
o Wisconsin taxed J.C. Penney .0025% of the amount of dividend declared and paid by the corporation
o Measurement of how much a state can ask in return is not a balancing act or an equal measurement.
o The fact that J.C. Penney has stores in Wisconsin is enough for the majority of the Court to justify the tax.
o There is nexus between the tax and the transactions in the state; the transactions in the state were stores. Minimum connection is established.
Ø Norfolk & Western Railway, Co.  o State taxation of an interstate commercial enterprise
o Rule: Where an interstate railroad operating partly in Missouri is leased by another interstate railroad, which previously had not operated in the state, the mileage apportionment formula provided by R.S.Mo Sec. 151.060(3), may not be applied in determining the rolling stock assessment if it results in approximately double the pre-lease figure. Although some leeway is tolerated in the results yielded by apportionment formulas, federal constitutional limits of due process are exceeded when the results of the application of such a formula diverge excessively from the factual situation.