A recent Supreme Court decision will yield hundreds of millions of dollars in new sales tax revenue for Illinois over the next several years. But instead of taking the windfall as an opportunity to repeal a particularly harmful and obscure tax on investment in Illinois, state lawmakers are already planning to spend the new money this fiscal year.

The U.S. Supreme Court rendered a decision in South Dakota v. Wayfair Inc. on June 21. And Illinois’ budget implementation bill, or BIMP – passed as part of the fiscal year 2019 spending plan – includes changes to Illinois tax law that closely resemble the South Dakota law the Supreme Court has upheld as constitutional.

Specifically, Illinois will now require out-of-state retailers to collect and remit a “use tax” of 6.25 percent if the business sells more than $100,000 of goods to Illinois residents or enters into 200 or more discrete transactions with state consumers. The use tax rate is the equivalent of the base sales tax paid by brick-and-mortar retailers in Illinois. The new law takes effect Oct. 1, 2018.

The Illinois Department of Revenue predicts this change will increase state sales tax receipts by $200 million this year. Without tax cuts to offset the new revenue, this amounts to another permanent tax hike in Illinois.

Rather than spending this new revenue as currently planned, lawmakers should use the opportunity to eliminate the Illinois’ corporate franchise tax, which is expected to bring in about $200 million in fiscal year 2019, according to revenue estimates from the Commission on Government Forecasting and Accountability. The swap would be revenue-neutral and pro-growth.

The corporate franchise tax is a bit of a misnomer, as it’s not a tax on fast-food franchises, for example. Rather, the corporate franchise tax makes Illinois one of only two states that explicitly tax “paid-in capital,” or capital contributed to a corporation by investors who buy its stock. This amounts to a tax on investment, makes Illinois’ business climate less competitive and makes it harder for companies to create jobs in the state.

How the Supreme Court decision affects Illinois

The Supreme Court ruled that South Dakota and other states can require out-of-state sellers to collect and remit sales taxes on purchases by in-state residents, regardless of whether those businesses have a physical presence in the state. Online retailers Wayfair Inc., Overstock.com Inc. and Newegg Inc. had joined to fight South Dakota’s tax law.

In upholding South Dakota’s imposition of sales tax collection obligations on out-of-state sellers, the court noted aspects of South Dakota’s tax system that would guard against discrimination against or undue burdens on interstate commerce. Specifically, South Dakota’s law:

• Has a safe harbor for those who transact only limited business in South Dakota (it only applies to businesses that on an annual basis deliver more than $100,000 of goods and services into the state or engage in 200 or more separate sales transactions)

• Does not provide for retroactive application of the tax

• Is applied by a state that has adopted mechanisms to simplify and reduce compliance costs on out-of-state sellers, such as the Streamlined Sales and Use Tax Agreement.

The decision reverses the court’s 1992 decision in Quill Corp. v. North Dakota, which held that states could only require a business to collect sales taxes if the business had a physical presence in that state. Some have argued that the framework developed by Quill created an unfair tax advantage for online retailers relative to traditional brick-and-mortar stores, which are required to collect sales tax on all transactions.

Justice Anthony Kennedy, who delivered the court’s Wayfair opinion, observed that the physical presence requirement under Quill distorted markets by discouraging businesses from establishing physical storefronts or distribution centers in states to avoid taxes. Kennedy also explained that the prior physical presence rule was arbitrary, unclear and interpreted differently by different states.

The language included in Illinois’ fiscal year 2019 BIMP is clearly intended to mirror South Dakota’s language, as at least five other states have done, according to the Tax Foundation. However, South Dakota and four of those six states are members of the Streamlined Sales and Use Tax Agreement, or SSUTA, which creates a uniform internet sales tax structure and provides sellers access to sales tax administration software. Illinois is not a member.

Illinois’ system might also be more complicated for out-of-state businesses because Illinois added the South Dakota-style law on top of an existing structure, rather than replacing it.

Prior to the 2019 BIMP, Illinois used a New York-style “click-through nexus” system, which presumed businesses had a physical presence if they contracted with people in the state for referrals amounting to over $10,000 per year through mechanisms such as promotional codes on their websites or in mail order catalogs. The new provision expands the state’s taxing reach without repealing the old provision. It remains unclear if the click-through nexus system would pass constitutional muster.

An opportunity to cut taxes

The Supreme Court’s decision provides the Illinois General Assembly an opportunity to eliminate a bad tax without losing revenue. Because Illinois’ new system for taxing out-of-state sellers will generate additional revenue through an expanded sales tax base, lawmakers should eliminate the harmful corporate franchise tax to avoid further burdening the state’s struggling economy.

Tax increases over the last decade have harmed Illinois’ economy, and high tax burdens have sent many Illinoisans packing.

Significant long-term tax relief will only come when the state enacts meaningful spending reforms – such as a constitutional spending cap amendment. But using additional sales tax revenue to end a bad tax on businesses is a good first step.