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On November 6, 2018, San Francisco voters overwhelmingly passed two ballot initiatives: 1) Proposition C, which was titled a Gross Receipts Tax for Homelessness Services; and 2) Proposition D, which was titled a Marijuana Business Tax Increase. Starting in 2019, Proposition C imposes another Gross Receipts Tax (GRT) on businesses (a person or combined group) with over $50 million of annual San Francisco gross receipts.

While captioned as imposing a tax on marijuana sales in San Francisco, Proposition D also establishes an economic nexus provision for all San Francisco business tax purposes, subjecting all businesses with more than $500,000 in total San Francisco-sourced gross receipts to the City's taxes, regardless of whether they have any kind of physical presence in the city. The business tax provisions of both Propositions C and D become operative on January 1, 2019 (although the cannabis tax provisions of Proposition D only become effective on January 1, 2021.)

Both Proposition C and Proposition D fell short of a two-thirds supermajority approval by the voters; accordingly, they may, as noted in Tax Alert 2018-2099, be subject to legal challenges in the very near future, because California's constitution requires tax legislation to be adopted with more than two-thirds approval,.

Detailed discussion

Proposition C

Starting in 2019, a new GRT tax applies to businesses with over $50 million in gross annual receipts in San Francisco. The rate on affected businesses will increase to a range of 0.175% to 0.690%, based on the business activity type, as described in the following table. Previously, the maximum GRT rates in San Francisco ranged from 0.16 percent to 0.65 percent.

Certain businesses classified as Administrative Offices in San Francisco (defined as a business with at least $1 billion in total gross receipts and at least 1,000 employees) will be required to pay an additional annual homeless administrative tax at a rate of 1.5 percent of payroll expenses.

Proposition D

In the response to this summer's historic U.S. Supreme Court (Court) decision in South Dakota v. Wayfair, Inc.,² which eliminated the physical presence standard under the Court's dormant Commerce Clause jurisprudence, state and local governments are rapidly responding to the new economic nexus paradigm unleashed by that ruling. San Francisco is no exception; within the provisions of the cannabis tax initiative in Proposition D, San Francisco voters voted to change the city's long-standing physical presence nexus requirements set forth in Article 6 of the SF tax code to an economic nexus standard that imposes the GRT on any business with more than $500,000 of annual San Francisco-sourced gross receipts. Consequently, businesses will need to reassess their nexus profile in the city.

Implications

Any business that directly or indirectly has sales to customers located in San Francisco should quickly address whether the new economic nexus standard imposed under the marijuana tax initiative causes them to now be subject to the City's GRT. Likewise, businesses that are already subject to the GRT should assess how the newly increased GRT rates (and the new homeless payroll tax) affect their San Francisco tax obligations. Lastly, both Proposition C and Proposition D are likely to face legal challenges and all affected taxpayers in San Francisco should monitor the progress of any such challenge.

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ENDNOTES

¹ All section references in this Alert are to the "San Francisco Business and Tax Regulations Code, Art. 12-A" (SF tax code), unless otherwise stated. As of November 15, 2018, the SF tax code has not yet been updated for the changes effected by either Proposition C or Proposition D. ("The Business and Tax Regulations Code was last amended by Ordinance 211-18, File No. 180736, approved August 10, 2018, effective September 10, 2018.") (last accessed November 15, 2018.))

² South Dakota V. Wayfair, Inc., Dkt. No. 17-494 (U.S. S. Ct. June 21, 2018).