The Tennessee Department of Revenue (Department) has approved a new regulation, Rule 1320-05-01-.129, which adopts an economic nexus standard for sales and use tax purposes. The new regulation will become effective January 1, 2017, but will expire on July 1, 2017 if not approved by the legislature.

Under the regulation, an out-of-state dealer is deemed to have substantial nexus with Tennessee if the dealer engages in the regular or systematic solicitation of Tennessee consumers through any means, and makes sales exceeding $500,000 to Tennessee consumers during the previous 12-month period. The regulation requires out-of-state dealers meeting the threshold to register with the Department for sales and use tax purposes by March 1, 2017, and begin collecting and remitting tax to the Department by July 1, 2017.

In a notice filed with the Secretary of State on October 3, 2016, the Department summarized and responded to the public comments it received to the proposed regulation released in June. Due to concerns over whether out-of-state dealers would be required to retroactively collect sales tax if they did not anticipate meeting the $500,000 threshold, but then met the threshold by calendar year's end, the Department changed the rule to require dealers to register and prospectively collect and remit tax starting three months after the end of any 12-month period during which the dealer meets the threshold. The Department also acknowledged that the regulation may not be approved by the legislature and clarified that the collection requirement does not begin until July 1, 2017, but only if the legislature approves the regulation by that time. The Department noted that if the Legislature does not take action, and the regulation is allowed to expire, no collection activity will be required.

Implications

With this action, Tennessee joins Alabama,¹ South Dakota² and Vermont in a direct challenge to the physical presence requirement for imposing sales and use tax, as formally annunciated by the U.S. Supreme Court in Quill v. North Dakota nearly 25 years ago.³ With the dramatic rise of the Internet and remote sales, an increasing number of states want to remove restrictions on their ability to generate revenue by taxing sales of products and services made into their states from remote sellers, and they are taking aggressive actions to accomplish that goal despite the Court's clear ruling in Quill. Taxpayers in Alabama and South Dakota already have filed lawsuits challenging the constitutionality of these new laws. A similar challenge is expected in Tennessee.

The Department anticipates that once full compliance is reached, this new regulation will generate an additional $200 million in annual state and local tax revenue, equal to an 2.4% overall increase in annual Tennessee sales and use tax revenues.

Remote sellers making any retail sales to customers located in Tennessee should consider whether their sales to Tennessee customers would be sufficient enough to obligate them to register for, and collect and remit the Tennessee sales tax.

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ENDNOTES

¹ Ala. Sales and Use Tax Rule 810-6-2-.90.03 (effective Jan. 1, 2016).

² 2016 S.D. SB 106 (effective May 1, 2016).

³ Quill v. North Dakota, 504 U.S. 298 (1992).