How Does Sales Tax Nexus Impact Business Activity?
For decades, businesses weren’t required to charge tax on sales in states where they lacked a physical presence. A landmark ruling in recent years turned that accepted rule upside down, requiring that sales tax be collected regardless of the location of the business and the address of the consumer. How will the new standard impact business activity? A study by Don Bruce, associate director of the Boyd Center for Business and Economic Research and Horne Professor of Business, and Richard Beem, economics PhD candidate at Haslam, is among the first to estimate the long-term impact of such changes.
In 2018, South Dakota won a US Supreme Court case against Wayfair, a Massachusetts-based online home goods retailer that does not own real estate in South Dakota or employ workers there. South Dakota argued that Wayfair and other huge remote sellers had significantly eroded the tax base and crimped funding for state and local services. The court’s decision expanded the definition of nexus—the obligation to collect and remit sales tax—to include remote sellers whose economic presence in a state meets certain thresholds of sales value or transaction volume.
Remote selling, once dominated by mail-order catalogs and tourism, rose sharply in the past few decades, in part because savvy consumers took advantage of tax-free internet shopping. Prior to the Wayfair ruling, sales tax captured a smaller and smaller share of the economy over time, and in-state brick-and-mortar retailers faced a disadvantage nearing 10 percent in some areas because they had to collect and remit state and local sales taxes while many online competitors did not. In their study, published in the Journal of Public Economics in fall 2021, Bruce and Beem focused on the period between 1979 and 2014, estimating that if the tax base had declined by half as much during those years, the national economy would have seen an additional 90,350 firms, 113,600 establishments, and roughly 2.9 million jobs.
Preferential tax treatment for remote sellers also may have prevented businesses from forming and expanding efficiently. Nexus can be costly for firms because of higher tax-inclusive prices for consumers. When considering expanding into new territories, firms must weigh those costs against potential benefits such as access to qualified workers and transportation infrastructure.
The study suggests that in the post-Wayfair era, industries such as construction and telecommunications are reaping collateral benefits from the increased number of online companies with nexus. As firms expand into locations where they can take advantage of more neutral nexus standards, they often require new facilities and increased connectivity.
For small firms, a more level playing field lowers barriers to entry and facilitates expansion. Large firms, meanwhile, can strategically choose to expand into territories where demand for their products and services is greatest. Overall, the team says the new economic nexus standards are clearly more neutral between remote and traditional sellers, and the research results indicate that greater nexus neutrality leads to greater business activity.
“The Wayfair ruling reduces the sales tax disadvantage faced by local retailers,” Beem says. “Our results suggest that this will lead to increases in employment and the number of local retailers.” – Stacy Estep
“Failure to launch: Measuring the impact of sales tax nexus standards on business activity” by Richard Beem and Donald Bruce appeared in the Journal of Public Economics, Volume 201, September 2021.