States are hungry for revenue — sometimes too hungry — and the federal government occasionally has to step in to prevent them from going too far. That’s clearly the case when states levy corporate income taxes on businesses that aren’t even located there.
Almost 20 years ago, the Supreme Court sensibly decided states can impose taxes on out-of-state companies only if those companies have a substantial connection to the state. Nonetheless, states and localities have continued to assess businesses for “unpaid” taxes even when they don’t have a single brick, item of inventory or employee in their borders.
Chaos has been the result. Small firms, in particular, have been forced to shoulder thousands of dollars of litigation fees to challenge surprise tax assessments. As a result, American jobs and economic growth have been put at risk because states think they have the right to send big bills to unsuspecting companies in distant states and shake them down for cash.
Smithfield Foods was assessed $150,000 by New Jersey when one of its refrigerator trucks was stopped as it was driving through the state and was ordered to wire the payment immediately in order to secure the release of its truck. That’s a substantial connection?
Software-makers in Virginia and South Carolina were forced to settle with New Jersey because they did nothing more than license their products to companies there. Louisiana has even tried taxing out-of-state companies for broadcasting into the state.
When will the madness end? We hope soon, thanks to a bipartisan solution: the Business Activity Tax Simplification Act.
The legislation would clarify that a state or locality can’t levy a direct tax on a business unless the business has employees, an office or property in a state for more than two weeks during the year. The standard, if enacted, would reduce litigation, improve certainty and create greater investment in new jobs.
BATSA would apply to business-activity taxes, including income taxes and franchise taxes, but would NOT apply to transaction taxes, such as sales taxes. The famous, years-long battle over when sellers should collect state sales taxes on purchases made online is a separate question not affected by BATSA in any way.
BATSA is a pleasant anomaly in Washington: a thoroughly bipartisan bill with nearly as many Democrats as Republicans onboard. BATSA has also overwhelmingly been approved twice by the House Judiciary Committee.
Lawmakers concur: Legislation is needed to remove doubt and unpredictability. A growing number of state and local governments have aggressively sought to increase their revenues by adopting ill-defined standards that, in the end, conflict with Supreme Court interpretations of the Constitution’s Commerce Clause.
State governments simply cannot interfere unreasonably with commerce across state lines. Doing so hurts us all.
The Supreme Court has never said exactly what “substantial connection” means in the context of corporate income and other business activity taxes. But it has also never upheld a state tax on an out-of-state company unless that company had a physical presence in the state.