2. The United States Supreme Court's determination in Quill Corp. v.
North Dakota, 504 U.S. 298, 112 S.Ct. 1904, 119 L.Ed.2d 91 (1992), that an entity's
physical presence in a state is required to meet the “substantial nexus” prong of Complete
Auto Transit, Inc. v. Brady, 430 U.S. 274, 97 S.Ct. 1076, 51 L.Ed.2d 326 (1977), applies
only to state sales and use taxes and not to state business franchise and corporation net
income taxes.
Maynard, Justice:
Appellant MBNA America Bank appeals the June 27, 2005, order of the
Circuit Court of Kanawha County that ruled that imposition of West Virginia's business
franchise tax and corporation net income tax on MBNA, a Delaware Corporation, for tax
years 1998 and 1999, does not violate the Commerce Clause. For the reasons that follow,
we affirm the circuit court.
MBNA subsequently filed an appeal from the Tax Commissioner's decision with the Office of Tax Appeals (hereafter “OTA”). By decision dated October 22, 2004, the Chief Administrative Law Judge (hereafter “ALJ”) of the OTA ruled in favor of MBNA and authorized refunds to MBNA of its 1998 and 1999 franchise and corporation net income taxes. The ALJ reasoned that under the Commerce Clause, a state may not subject an activity to a tax unless that activity has a “substantial nexus” with the taxing state. The ALJ further reasoned that a substantial nexus requires a finding that the putative taxpayer has a physical presence in the taxing state, and mere economic exploitation of the market is not sufficient. Because it was agreed that MBNA does not have a physical presence in West Virginia, the ALJ concluded that the State's business franchise and corporation net income taxes could not be imposed on MBNA's activity within the State.
The Tax Commissioner appealed the ALJ's decision to the Circuit Court of
Kanawha County. The circuit court reversed the decision of the ALJ. According to the
circuit court, physical presence is not necessary in order to show a substantial nexus for
purposes of state taxation of foreign corporations. Rather, the circuit court found that
MBNA's significant business in the state is sufficient to meet the substantial nexus standard.
Therefore, concluded the circuit court, MBNA had a substantial nexus with West Virginia
during the tax years in question so that imposition of the State's business franchise and
corporate net income taxes on MBNA did not violate the Commerce Clause. MBNA now
appeals the circuit court's order.
The Supreme Court's interpretation of the dormant Commerce Clause “has evolved substantially over the years, particularly as that Clause concerns limitations on state taxation powers.” Quill Corp. v. North Dakota, 504 U.S. 298, 309, 112 S.Ct. 1904, 1911, 119 L.Ed.2d 91 (1992) (citation omitted). In tracing this evolution, the Court has explained:
Our early cases, beginning with Brown v. Maryland, 12 Wheat. 419, 6 L.Ed.
678 (1827), swept broadly, and in Leloup v. Port of Mobile, 127 U.S. 640,
648, 8 S.Ct. 1380, 1384, 32 L.Ed. 311 (1888), we declared that “no State has
the right to lay a tax on interstate commerce in any form.” We later narrowed
that rule and distinguished between direct burdens on interstate commerce,
which were prohibited, and indirect burdens, which generally were not. See,
e.g., Sanford v. Poe, 69 F. 546 (CA 6 1895), aff'd sub. nom., Adams Express
Co. v. Ohio State Auditor, 165 U.S. 194, 220 (1897). Western Live Stock v.
Bureau of Revenue, 303 U.S. 250, 256-258, 58 S.Ct. 546, 549-550, 82 L.Ed.
823 (1938), and subsequent decisions rejected this formal, categorical analysis
and adopted a “multiple-taxation doctrine” that focused not on whether a tax
was “direct” or “indirect” but rather on whether a tax subjected interstate
commerce to a risk of multiple taxation. However, in Freeman v. Hewit, 329
U.S. 249, 256, 67 S.Ct. 274, 278, 91 L.Ed. 265 (1946), we embraced again the
formal distinction between direct and indirect taxation, invalidating Indiana's
imposition of a gross receipts tax on a particular transaction because that
application would “impos[e] a direct tax on interstate sales.”
Quill, 504 U.S. at 309-310, 112 S.Ct. at 1911. The Court subsequently abandoned formal
distinctions in favor of looking at the practical effects of state taxing statutes. In Complete
Auto Transit, Inc. v. Brady, 430 U.S. 274, 97 S.Ct. 1076, 51 L.Ed.2d 326 (1977), the Court
set forth the current test for determining whether a state tax violated the Commerce Clause.
This Court recognized the Complete Auto test in Syllabus Point 1 of Western Maryland Ry.
Co. v. Goodwin, 167 W.Va. 804, 282 S.E.2d 240 (1981), where we held that,
A state tax on interstate commerce will not be sustained unless it: “(1)
has a substantial nexus with the State; (2) is fairly apportioned; (3) does not
discriminate; and (4) is fairly related to the services provided by the State.” Maryland v. Louisiana, [451] U.S. [725], [754], 101 S.Ct. 2114, 2133, 68
L.Ed.2d 576 (1981). (See footnote 7) (Footnote added).
The current issue deals solely with the “substantial nexus” prong of the Complete Auto test. Specifically, we are asked to decide whether the substantial nexus
standard can only be met by showing that the putative taxpayer has an actual physical
presence in the taxing state. In answering this question, we must consider the Supreme
Court's decisions in National Bellas Hess, Inc. v. Department of Revenue, 386 U.S. 753, 87
S.Ct. 1389, 18 L.Ed.2d 505 (1967), overruled, in part, Quill supra, (See footnote 8) and Quill, the Court's
most recent pronouncement on state tax jurisdiction.
Bellas Hess involved an attempt by Illinois to require a mail-order business to
collect and pay use taxes on goods purchased within the state. National Bellas Hess
(hereinafter “National”) was incorporated in Delaware and had its principal place of
business in Missouri. It had neither outlets nor employees in Illinois. Twice a year, National
mailed catalogues to the company's customers in Illinois. Orders for merchandise were
mailed by customers to National's Missouri plant, and the ordered items were mailed to the
customers either by mail or common carrier. National challenged the Illinois use tax levied
against it on the basis, inter alia, that it created an unconstitutional burden on interstate
commerce. The Supreme Court held that Illinois had no power to impose the use tax on
National. The Court based its decision in part on the undue burden placed on interstate
commerce by compliance with a host of administrative regulations governing the collection
of sales and use taxes.
In 1992, the Supreme Court reaffirmed in Quill its Bellas Hess holding to the
extent that Bellas Hess held that a showing of the taxpayer's physical presence in the taxing state was necessary to sustain a sales and use tax against a challenge under the Commerce
Clause. (See footnote 9) Quill was a Delaware corporation with offices and warehouses in Illinois,
California, and Georgia. It sold office equipment and supplies, and solicited business
through catalogs, flyers, advertisements in national periodicals, and telephone calls.
Customers received their ordered merchandise from Quill through mail or common carrier.
Despite the fact that Quill had no employees in North Dakota, and that its tangible property
in North Dakota was “either insignificant or nonexistent,” 504 U.S. at 302, 112 S.Ct. at
1907, Quill was required to collect a use and sales tax from its North Dakota customers and
remit it to the state. Quill challenged imposition of the tax on the ground that North Dakota
did not have the power to compel it to collect a use tax from its North Dakota customers.
In addressing this issue, the Supreme Court first indicated that in determining
the propriety of a state use tax on an out-of-state corporation “the nexus requirements of the
Due Process and Commerce Clauses are not identical.” 504 U.S. at 312, 112 S.Ct. at 1913. (See footnote 10) The analysis under the Due Process Clause, explained the Court, is comparable to that used
in determining whether a State can exercise personal jurisdiction over a person. Specifically,
there must be “some definite link, some minimum connection, between a state and the
person, property, or transaction it seeks to tax.” 504 U.S. at 306, 112 S.Ct. at 1909 (quoting
Miller Brothers Co. v. Maryland, 347 U.S. 340, 344-345, 74 S.Ct. 535, 539, 98 L.Ed. 744
(1954)). This is in order to ensure that imposition of a duty to collect a use tax on an out-of-
state corporation does not offend traditional notions of fairness. Further, the Court found
that the minimum connection is satisfied where the business “is engaged in continuous and
widespread solicitation of business within a State[] [because] [s]uch a corporation clearly
has fair warning that [its] activity may subject [it] to the jurisdiction of the foreign
sovereign.” 504 U.S. at 308, 112 S.Ct. at 1911 (internal quotation marks and citations
omitted). The Court concluded that the Due Process Clause does not require physical
presence in a State for the imposition of a duty to collect a use tax.
The Commerce Clause and its nexus requirement, in contrast, explained the
Court, “are informed not so much by concerns about fairness for the individual defendant
as by structural concerns about the effects of state regulation on the national economy. . . .
Accordingly, we have ruled that [the Commerce] Clause . . . bars state regulations that
unduly burden interstate commerce.” 504 U.S. at 312, 112 S.Ct. at 1913. (Citations
omitted). “Thus, 'the substantial nexus' requirement is . . . a means for limiting state
burdens on interstate conference.” 504 U.S. at 313, 112 S.Ct. at 1913. The Quill Court
ultimately concluded that for purposes of imposing on an out-of-state business the duty of
collecting use and sales taxes on in-state customers, the Complete Auto substantial nexus
prong would best be determined by application of a “bright-line, physical-presence
requirement.” 504 U.S. at 317, 112 S.Ct. at 1916.
The major question left open by the Supreme Court's opinion in Quill is the
one that now confronts us: Does the physical presence requirement applicable to
determining the constitutionality of requiring out-of-state mail-order houses to collect use
taxes on in-state sales under the Commerce Clause extend to other types of state
taxes? MBNA's position is that Quill extends to the business franchise and corporation net income
taxes at issue. The Tax Commissioner posits, on the other hand, that physical presence is
not a requirement of the substantial nexus standard in regards to the taxes at issue. (See footnote 11)
After careful consideration of the parties' arguments, the relevant legal
authority, and the Court's reasoning in Quill, we conclude that Quill's physical-presence
requirement for showing a substantial Commerce Clause nexus applies only to use and sales
taxes and not to business franchise and corporation net income taxes. There are several
reasons for our conclusion. First, we agree with the Tax Commissioner that a close reading
of Quill indicates that its reaffirmation of the Bellas Hess physical-presence test for use and
sales taxes under the Commerce Clause is grounded primarily on stare decisis. For example,
the Court in Quill notes that “[w]hile contemporary Commerce Clause jurisprudence might
not dictate the same result were the issue to arise for the first time today, Bellas Hess is not
inconsistent with Complete Auto and our recent cases.” Quill, 504 U.S. at 311, 112 S.Ct.
at 1912. The Court further indicated that “the Bellas Hess rule has engendered substantial
reliance and has become part of the basic framework of a sizable industry. The interest in
stability and orderly development of the law that undergirds the doctrine of stare decisis therefore counsels adherence to settled precedent.” Id., 504 U.S. at 317, 112 S.Ct. at 1916
(internal quotations and citation omitted). Finally, the Court concluded that “the continuing
value of a bright-line rule in this area and the doctrine and principles of stare decisis indicate
that the Bellas Hess rule remains good law.” Id.
This reasoning is supported by several legal commentators. See John A.
Swain, State Income Tax Jurisdiction: A Jurisprudential and Policy Perspective, 45 Wm.
& Mary L.Rev. 319 (October 2003) (arguing that the Quill Court relied on stare decisis rather than defending the physical presence test on the merits); Richard D. Pomp & Michael
J. McIntyre, State Taxation of Mail-Order Sales of Computers After Quill: An Evaluation
of MTC Bulletin 95-1, 11 State Tax Notes 177, 179-80 (July 15, 1996) (maintaining that Quill is essentially a political decision responding to concerns about retroactivity and the
practical consequences of overruling Bellas Hess); Michael T. Fatale, State Tax Jurisdiction
and the Mythical “Physical Presence” Constitutional Standard, 54 Tax Lawyer 105, 113
(Fall, 2000) (opining that “[a] primary basis for the [Quill] holding was the Court's
conclusion that the mail order industry had grown in large part in reliance on Bellas Hess[,]
[and] [b]ecause the Bellas Hess rule had become the 'basic framework' of a sizable industry)
(footnotes omitted). Thus, because Quill's physical-presence test for sales and use taxes was
based in large part on the mail order industry's reliance on Bellas Hess, we are not
compelled to apply Quill's physical presence standard to the present circumstances.
Second, the Supreme Court appears to have expressly limited Quill's scope to
sales and use taxes. First, the Quill Court noted that “[a]lthough we have not, in our review
of other types of taxes, articulated the same physical-presence requirement that Bellas Hess established for sales and use taxes, that silence does not imply repudiation of the Bellas Hess rule.” Quill, 504 U.S. at 314, 112 S.Ct. at 1914. Also, the Court commented that “although
in our cases subsequent to Bellas Hess and concerning other types of taxes we have not
adopted a similar bright-line, physical-presence requirement, our reasoning in those cases
does not compel that we now reject the rule that Bellas Hess established in the area of sales
and use taxes.” Id., 504 U.S. at 317, 112 S.Ct. at 1916. We believe that a reasonable
construction of this language clearly implies that Quill applies only to sales and use taxes
and not to other types of state taxes. (See footnote 12)
Third, the Bellas Hess and Quill courts based their decisions in part on the fact that compliance with administrative regulations in the collection of sales and use taxes places an undue burden on interstate commerce. Specifically, the Bellas Hess Court explained:
In order to uphold the power of Illinois to impose use tax burdens on
National in this case, we would have to repudiate totally the sharp distinction
. . . between mail order sellers with retail outlets, solicitors, or property within
a State, and those who do no more than communicate with customers in the
State by mail or common carrier as part of a general interstate business. But
this basic distinction, which until now has been generally recognized by the
state taxing authorities, is a valid one, and we decline to obliterate it.
. . . For if Illinois can impose such burdens, so can every other State, and so,
indeed, can every municipality, every school district, and every other political
subdivision throughout the Nation with power to impose sales and use taxes.
The many variations in rates of tax, in allowable exemptions, and in
administrative and record-keeping requirements could entangle National's
interstate business in a virtual welter of complicated obligations to local
jurisdictions with no legitimate claim to impose a fair share of the cost of the
local government.
The very purpose of the Commerce Clause was to ensure a national
economy free from such unjustifiable local entanglements. Under the
Constitution, this is a domain where Congress alone has the power of
regulation and control.
Bellas Hess, 386 U.S. at 758-760, 87 S.Ct. at 1392-1393 (internal quotation marks and
footnotes omitted). According to the Court, at the time Bellas Hess was decided, local sales
taxes were imposed by over 2,300 localities, many of them accompanied by a use tax,
utilizing several different rates. Id., 386 U.S. at 759 fn. 12 and fn. 13, 87 S.Ct. at 1393 fn.
12 and fn. 13. (See footnote 13)
The Quill Court likewise recognized the potential burden on interstate
commerce posed by North Dakota's sales and use taxes.
North Dakota's use tax illustrates well how a state tax might unduly
burden interstate commerce. On its face, North Dakota law imposes a
collection duty on every vendor who advertises in the State three times in a
single year. Thus, absent the Bellas Hess rule, a publisher who included a
subscription card in three issues of its magazine, a vendor whose radio
advertisements were heard in North Dakota on three occasions, and a
corporation whose telephone sales force made three calls into the State, all
would be subject to the collection duty. What is more significant, similar
obligations might be imposed by the Nation's 6,000- plus taxing jurisdictions.
Quill, 504 U.S. at 313 fn. 6, 112 S.Ct. at 1913 fn. 6, citing Bellas Hess, 386 U.S. at 759-760,
87 S.Ct. at 1393 (noting that the “many variations in rates of tax, in allowable exemptions,
and in administrative and record-keeping requirements could entangle [a mail-order house]
in a virtual welter of complicated obligations”) (additional citation omitted).
In contrast to the sales and use taxes described in Bellas Hess and Quill, the
franchise and income taxes at issue in this case do not appear to cause the same degree of
compliance burdens. As noted above, the task of collecting taxes and remitting them to the
government demands knowledge of a multitude of administrative regulations, including
various deductions and tax rates, as well as record-keeping requirements. Also, as a general
matter, sales and use taxes must be remitted to the government on a more frequent basis than
income and franchise taxes. For example, in West Virginia vendors are charged with the
duty of collecting from purchasers the consumer sales and service tax and paying the tax to
the Tax Commissioner on a monthly basis. This entails making out and mailing to the
Commissioner a return for the preceding month on a prescribed form showing the total gross
proceeds of the vendor's business during that time, the gross proceeds of the vendor's
business upon which the tax is based, the amount of the tax for which the vendor is liable,
and any further information necessary in the computation and collection of the tax which the
Commissioner may require. See W.Va. Code § 11-15-16 (2003). In contrast, income and
franchise taxes are paid by the business entity itself so that no collection duties are involved.
Also, income and franchise taxes are generally paid annually. See e.g., W.Va. Code § 11-
23-9 (1996) (persons subject to business franchise tax shall make and file an annual return)
and W.Va. Code § 11-24-13 (1993) (See footnote 14) (requiring annual filing of corporation net income tax
return). (See footnote 15)
Finally, we believe that the Bellas Hess physical-presence test, articulated in
1967, makes little sense in today's world. In the previous almost forty years, business
practices have changed dramatically. When Bellas Hess was decided, it was generally
necessary that an entity have a physical presence of some sort, such as a warehouse, office,
or salesperson, in a state in order to generate substantial business in that state. This is no
longer true. The development and proliferation of communication technology exhibited, for
example, by the growth of electronic commerce now makes it possible for an entity to have
a significant economic presence in a state absent any physical presence there. For this
reason, we believe that the mechanical application of a physical-presence standard to
franchise and income taxes is a poor measuring stick of an entity's true nexus with a state.
Accordingly, we now hold that the United States Supreme Court's
determination in Quill Corp. v. North Dakota, 504 U.S. 298, 112 S.Ct. 1904, 119 L.Ed.2d
91 (1992), that an entity's physical presence in a state is required to meet the “substantial
nexus” prong of Complete Auto Transit, Inc. v. Brady, 430 U.S. 274, 97 S.Ct. 1076, 51
L.Ed.2d 326 (1977), applies only to state sales and use taxes and not to state business
franchise and corporation net income taxes.
Rather than a physical presence standard, this Court believes that a significant
economic presence test is a better indicator of whether substantial nexus exists for
Commerce Clause purposes. At least one legal commentator has suggested such a test and
to some degree defined its parameters. See Edson, 49 Tax Lawyer at 943. According to this
commentator, a substantial economic presence standard “incorporates due process
'purposeful direction' towards a state while examining the degree to which a company has
exploited a local market.” Id. Further, “[a] substantial economic presence analysis involves
an examination of both the quality and quantity of the company's economic presence.” Id., 49 Tax Law. at 944. Finally, under this test, “[p]urposeful direction towards a state is
analyzed as it is for Due Process Clause purposes,” and the Commerce Clause analysis
requires the additional examination of “the frequency, quantity and systematic nature of a
taxpayer's economic contacts with a state.” Id., 49 Tax Law. at 945. We find this rationale
persuasive and will apply it in determining the constitutionality of the taxes at issue.
First, however, we must address several objections proffered by MBNA to the
application of any standard other than physical presence. Initially, MBNA contends that a
greater nexus requirement should be applied to the imposition of direct taxes such as those
at issue because such taxes are actually more burdensome. This is because sales and use
taxes merely require an entity to collect the tax from consumers and remit the tax money to
the government, thus suffering the administrative complications and inconvenience but not
the cost of the tax. In sharp contrast, says MBNA, franchise and income taxes not only have
compliance burdens but also must be paid from the entity's own pocket. For support,
MBNA cites National Geographic Society v. California Bd. of Equalization, 430 U.S. 551,
97 S.Ct. 1386, 51 L.Ed.2d 631 (1977), in which the Supreme Court distinguished between
a use tax and a direct tax and implied that a higher Commerce Clause standard would be
required to support the imposition of a direct tax. (See footnote 16)
We do not agree with MBNA's argument on this issue. Notably, the Supreme
Court's comment in National Geographic Society was dicta in that it was not necessary to
the decision in that case. In contrast, the Bellas Hess and Quill Courts placed significant
weight on the fact that there are substantial compliance burdens attached to the collection
of sales and use taxes. Therefore, we reject MBNA's claim that the imposition of direct
taxes is a greater burden than the duty to collect taxes so that the Bellas Hess/Quill physical-
presence test should also apply to the imposition of the direct taxes at issue. (See footnote 17)
MBNA also argues that adoption of any substantial nexus requirement short
of showing actual physical presence is in fact simply applying a Due Process minimum
contacts standard in violation of Quill which expressly held that the Due Process and
Commerce Clause analyses are separate. We disagree. The Due Process Clause requires
merely some minimum connection between a state and the person, property or transaction
it seeks to tax. In contrast, a substantial nexus under the Commerce Clause requires that an
entity's contacts with the taxing state be more frequent and systematic in nature.
Additionally, an entity's exploitation of the market must be greater in degree than under the
Due Process standard so that its economic presence can be characterized as significant or
substantial. In sum, although a substantial economic presence standard is by nature more
elastic than the bright-line physical presence test, we are convinced that when properly
applied, a greater nexus is required under the substantial economic presence standard that
under the minimum contacts analysis.
Finally, MBNA avers that the only case from a foreign jurisdiction that
is factually on point with the instant case is J.C. Penney Nat'l Bank v. Johnson, 19 S.W.3d
831 (Tenn.Ct.App. 1999), in which the Tennessee appellate court applied the physical-
presence test to Tennessee's attempted imposition of income taxes on an out-of-state credit
card company. While we acknowledge that J.C. Penney is factually on point and addresses
the same issue as the one before us, for the reasons set forth above we reject the reasoning
in J.C. Penney, and decline to apply it to the instant case. (See footnote 18)
We now turn our attention to the facts of the instant case to determine whether
MBNA had a substantial nexus with this State during the time period in question. The
record shows that MBNA continuously and systematically engaged in direct mail and
telephone solicitation and promotion in West Virginia. Further, in tax year 1998, MBNA
had significant gross receipts attributable to West Virginia customers in the amount of
$8,419,431.00, and in tax year 1999, MBNA had significant gross receipts attributable to
its West Virginia customers in the amount of $10,163,788.00. In light of these facts, this
Court has no trouble concluding that MBNA's systematic and continuous business activity
in this State produced significant gross receipts attributable to its West Virginia customers
which indicate a significant economic presence sufficient to meet the substantial nexus
prong of Complete Auto. (See footnote 19)
Finally, prior to concluding, we simply wish to acknowledge the great
challenge in applying the Commerce Clause to the ever-evolving practices of the
marketplace. James Madison, Benjamin Franklin, and the other Framers at the
Constitutional Convention who adopted the Commerce Clause lived in a world that is
impossible for people living today to imagine. The Framers' concept of commerce consisted
of goods transported in horse-drawn, wooden-wheeled wagons or ships with sails. They
lived in a world with no electricity, no indoor plumbing, no automobiles, no paved roads,
no airplanes, no telephones, no televisions, no computers, no plastic credit cards, no
recorded music, and no iPods. Likewise, it would have been impossible for the Framers to
imagine our world. When they fashioned the Commerce Clause, they could not possibly
have foreseen the complex and varied ways that commerce is conducted today, especially
via the internet and electronic commerce. It would be nonsense to suggest that they could
foresee or fathom a time in which a person's telephone call to his or her local credit card
company would be routinely answered by a person in Bombay, India, or that a consumer
could purchase virtually any product on a computer with the click of a mouse without
leaving home. This recognition of the staggering evolution in commerce from the Framers'
time up through today suggests to this Court that in applying the Commerce Clause we must
eschew rigid and mechanical legal formulas in favor of a fresh application of Commerce
Clause principles tempered with healthy doses of fairness and common sense. This is what
we have attempted to do herein.
In conclusion, for the reasons set forth above, we affirm the June 27, 2005, order of the Circuit Court of Kanawha County and conclude that West Virginia's imposition of its business franchise and corporation net income taxes on MBNA for the tax years 1998 and 1999, did not violate the Commerce Clause.
Affirmed.