Richard D. Pomp is the Alva P. Loiselle Professor of Law, and the Board of Trustees Distinguished Professor, at the University of Connecticut School of Law and a member of the Tax Notes State advisory board.
In this article, Pomp examines Quad Graphics Inc., in which the North Carolina Supreme Court determined that McLeod v. J.E. Dilworth Co. has been implicitly overruled by later U.S. Supreme Court decisions.
Copyright 2023 Richard D. Pomp.
All rights reserved.
Readers of this journal are well familiar with the Quad case in North Carolina.1 In that case, the Department of Revenue assessed a sales tax, with penalties, for more than $3 million against Quad Graphics Inc., a marketing company headquartered in Wisconsin. The assessment covered printed materials ordered and shipped by common carrier from outside North Carolina to customers in North Carolina.
To uphold the assessment, the North Carolina Supreme Court overruled a 1944 U.S. Supreme Court case, McLeod v. J.E. Dilworth Co.2 By doing so, the North Carolina Supreme Court held that the sales tax was constitutional notwithstanding that Quad had no sales in the state under the teaching of Dilworth.
In 1944, Dilworth had struck down an attempt by Arkansas to levy its sales tax on a remote vendor based in Tennessee on facts remarkably similar to Quad. J.E. Dilworth Co., a Tennessee corporation, solicited sales from Arkansas customers. Those orders were sent back to Dilworth’s office in Memphis, Tennessee, where they were accepted or rejected. If accepted, the goods were sent by common carrier to Arkansas customers. Title passed upon delivery to the carrier in Memphis, and collection of the sales tax was not made in Arkansas. Justice Frankfurter held that “[i]n short, we are here concerned with sales made by Tennessee vendors that are consummated in Tennessee for the delivery of goods in Arkansas.”3
The North Carolina Supreme Court thought that Dilworth had been implicitly overruled by Complete Auto Transit v. Brady4 and South Dakota v. Wayfair Inc.5 The Quad court thought that the decision in Complete Auto implicitly overruled the underpinnings of Dilworth, rejecting both its formalism of treating use taxes differently from sales taxes and its outmoded free-trade philosophy. Moreover, Quad read Wayfair for additional support.
Complete Auto rejected one form of formalism: a line of cases that had struck down a tax levied on the privilege of conducting an interstate business but upheld the same statute once it eliminated the “privilege” language. “But not all formalism is alike,” warned Quill Corp. v. North Dakota.6
The difficulty with thinking that Complete Auto should be read as implicitly overruling Dilworth is that less than a month after that case, the Court decided National Geographic Society v. California Board of Equalization,7 which compared Dilworth with the use tax case of Scripto Inc. v. Carson.8 This is hardly evidence that Complete Auto overruled Dilworth and obliterated the line between sales taxes and use taxes.
The Quad court never mentioned National Geographic, and the court’s blissfulness isn’t limited to this one oversight. Its citing of Oklahoma Tax Commission v. Jefferson Lines9 at least seven times conveniently overlooks that case’s acceptance of Dilworth.
Finally, Quad heavily relies on the test case of Wayfair, which ironically doesn’t cite Dilworth. The South Dakota statute at issue levied a sales tax on remote vendors but did not impose an obligation to collect its use tax.10 In that sense, Wayfair was similar to Quad where the sales tax was assessed, despite North Carolina having a use tax that could have been imposed, which South Dakota did not provide for.
The Quad court makes much over the fact that the South Dakota statute imposed only a sales tax and was vulnerable to a Dilworth attack, but none was forthcoming, and that case was never cited. Apparently, this was seen by Quad as tacit acceptance by all concerned that Dilworth had been implicitly overruled.
The question that the North Carolina Supreme Court never asks, however, is why the taxpayers in Wayfair would have wanted to strike down the sales tax under a Dilworth argument and postpone resolution of the physical presence requirement to the next round of litigation. Winning on a Dilworth argument would have been a Pyrrhic victory, as South Dakota would merely have amended its statute to incorporate a use tax and issue a new assessment for failure to collect it. The test case would have then proceeded. Prevailing under Dilworth would have been a useless distraction that would have simply delayed the main event. Wayfair, which never mentions Dilworth for good reasons, cannot be viewed as implicitly overturning it. Consistent with this view, both South Dakota and the taxpayers simply agreed that “South Dakota has the authority to tax these transactions.”11 Thus, the issue of sales tax versus use tax was never before this Court.
Quad has petitioned the U.S. Supreme Court to review the North Carolina opinion. If the Court does not grant this review, and especially if other states follow suit in ignoring the teachings of Dilworth, the law of unintended consequences will rear its head and affect Native American tribes and their members.
Unbundling that odd statement starts with one of the few bedrock principles dealing with state taxation of Native American tribes, an opaque area not for those who are most comfortable in the detritus of the Internal Revenue Code.12
One touchstone is clear, however. Without unambiguous congressional authorization, a state cannot impose a sales tax whose legal incidence falls on a tribe or its members for sales made on a reservation (or in Indian Country, a broader concept).13
In terms of legal incidence, two ways of drafting a sales tax are common. In some states, the tax is considered a vendor levy, and the legal incidence is imposed on the retailer for the “privilege” of engaging in business as a retailer. In other states, the legal incidence is on the buyer.14 In most cases, this difference has no practical significance, but it does in sales to the tribes or their members.
The legal incidence of the North Carolina sales tax is on the retailer. N.C. Gen. Stat. section 105-164.4 is captioned: “Tax imposed on retailers and certain facilitators.” The body of that section provides: (a) A privilege tax is imposed on a retailer engaged in business in the state at the percentage rates of the retailer’s net taxable sales or gross receipts, listed in this subsection.
Quad has increased the base of the North Carolina sales by overturning Dilworth. Remote vendors will experience a sales tax increase, which they can try to pass on to their purchasers. Those selling to the two federally recognized tribes in North Carolina (six others are only state recognized) or their members on the reservation are free of constitutional constraints on passing on their “new” sales taxes to the purchasers, if market conditions so permit.
North Carolina had the option to require Quad to collect a use tax, whose legal incidence falls on the purchaser. A use tax, however, cannot be imposed on a tribe or its members for use on the reservation because the legal incidence is on the purchaser and not the retailer. By assessing the sales tax and not the use tax, the DOR created an unintentional problem for its tribes.
The situation is worse in South Dakota, home to eight federally recognized tribes. South Dakota also places the legal incidence of its sales tax on the retailer.15 It requires remote vendors to pay its sales tax, as occurred in Quad. But unlike North Carolina, South Dakota does not impose an obligation on remote vendors to collect a use tax. If South Dakota follows North Carolina’s lead in not following Dilworth, its tribes might also face an increase in the cost of their purchases.
Some states, including North Carolina, have limited exemptions that might blunt some of the impact on the tribes and their members.16 The tribes in states with vendor-based sales taxes should be alert to this impending problem should the Court deny a review of the case. To be forewarned is to be forearmed.
FOOTNOTES
1 Quad Graphics Inc. v. N.C. Department of Revenue, 881 S.E.2d 810 (N.C. 2022).
2 322 U.S. 327 (1944).
3 Dilworth, 322 U.S. 327, 328.
4 430 U.S. 274 (1977).
5 138 S. Ct. 2080 (2018).
6 504 U.S. 298, 314 (1992).
7 430 U.S. 551 (1977).
8 362 U.S. 207 (1960).
9 514 U.S. 175 (1995).
10 See Richard D. Pomp, “Did South Dakota Make a Strategic Error in Drafting Its Wayfair Statute?” 37 J. State Tax’n 39 (2019).
11 Wayfair, 138 S. Ct. 2080, 2087.
12 For an exhaustive, if not exhausting, demonstration of that proposition, see Pomp, “The Unfulfilled Promise of the Indian Commerce Clause and State Taxation,” 63 Tax Law. 897 (2010).
13 Oklahoma Tax Commission v. Chickasaw Nation, 515 U.S. 450, 452 (1995); and Moe v. Confederated Salish and Kootenai Tribes of the Flathead Reservation, 425 U.S. 463, 475-481 (1976). For a more detailed discussion, see Pomp, supra note 12, at 1057-1079 (Moe); 1192-1195 (Chickasaw Nation).
14 Examples of each can be found in Pomp, State and Local Taxation, pp. 7.1-7.2 (2019).
15 S.D. Codified Laws section 10-45-2.
16 See N.C. Admin. Code 7B.4210.
END FOOTNOTES