The Supreme Court is currently hearing a case that could dramatically change the landscape for online retail. In South Dakota vs Wayfair Inc., the state is asking the Supreme Court to overturn the physical-presence requirement for collecting sales tax on online or catalog sales.
Retailers without a physical presence in a state aren't currently required to collect sales tax and remit it to the government. That rule allows many online retailers to easily undercut prices charged by brick-and-mortar retailers since customers don't have to pay sales tax.
Amazon (NASDAQ: AMZN) benefited from that rule for a long time, but it eventually expanded its fulfillment center network to the point where it now collects sales tax in every state. Requiring other online retailers to collect sales tax -- including third-party sellers on marketplaces like Amazon's, eBay (NASDAQ: EBAY), or even Walmart's (NYSE: WMT) website -- would actually put Amazon back on equal footing with its biggest competition. What's more, it could make smaller retailers more reliant on Amazon or other services to provide tax collection services, putting them at a further disadvantage.
Image source: Amazon.
Small businesses get hurt the most
Some people argue that not requiring sales tax on online sales hurts small businesses, but that reasoning is fairly myopic. Sure, small businesses have to collect sales tax at their physical locations and for online sales within states where they operate their business, but they're afforded the same opportunity to avoid sales taxes as pretty much every other retailer. With a growing portion of retail sales moving online, most small businesses have some sort of e-commerce strategy.
Right now, small retailers operating businesses through online marketplaces have a small pricing advantage over Amazon or Walmart's first-party business. That advantage, however, is largely offset by their higher shipping expenses.
Amazon and Walmart, for example, have logistics networks to cut down on their shipping costs, and Amazon even has a deal in place with the USPS to keep its costs relatively low. Small businesses don't have the scale to exercise pricing power like that.
Small businesses also aren't well set up to collect sales taxes for customers based on their location. As such, they'll likely rely on a third-party to collect sales tax and remit that money to the proper state governments. That's an additional cost to small businesses, and Amazon with its popular Fulfillment by Amazon program would be well positioned to offer such a service.
eBay and Walmart get hurt too
eBay is the second largest online retail destination in the United States, but it operates entirely as a marketplace. Most sales on eBay don't require the seller to collect sales tax. At the same time, many items on eBay are priced exactly the same as they are on Amazon; the only difference is no sales tax on eBay. That can sway savvy shoppers to buy from an eBay seller over Amazon for a high-ticket item.
Likewise, a growing portion of Walmart's online business comes from third-party merchants. Over the last year and a half, Walmart rapidly increased the number of products available on its website, but that increase mostly stemmed from bringing on more merchants. If those merchants all have to start collecting sales tax, it could hurt one of Walmart's biggest online sales growth drivers. That's particularly noteworthy in light of Walmart's recent shortfall in online sales growth.
The court is more divided than anticipated
The Supreme Court is more divided on the issue than originally anticipated. After oral arguments from both sides, the justices appear evenly split with Justice Breyer seemingly undecided. Investors will likely have to wait until June before the court reaches a decision.
Amazon is already well positioned to continue widening the gap between itself and its online competitors. Requiring other retailers to collect sales tax on online sales would likely benefit Amazon more than it helps small brick-and-mortar retailers.
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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Adam Levy owns shares of Amazon. The Motley Fool owns shares of and recommends Amazon, eBay, and Wayfair. The Motley Fool has a disclosure policy.