The South Dakota Supreme Court recently analyzed the four-part Complete Auto test to determine if the State’s use tax results in a burden on interstate taxation in Ellingson Drainage, Inc. v. South Dakota Department of Revenue, 2024 S.D. 8 (Feb. 7, 2024). Unfortunately, the decision missed the mark on its application of that test.

At issue in Ellingson was South Dakota’s use tax assessed on equipment owned by a Minnesota company. The Company brought equipment into South Dakota for use on certain projects. The State’s Department of Revenue assessed use tax on the value of the equipment—regardless of the length of time that the equipment was used in the State. Thus, if a piece of equipment was valued at $1 million and used in the State for one day or one year, the same amount of use tax (e.g., $45,000) was assessed.

The Company appealed the use tax assessment as unconstitutional. On appeal, the Court reviewed the four prongs of the test established in Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977). The parties agreed that prongs one (whether there was sufficient connection to the State) and three (whether the tax was discriminatory) were not at issue.

Prong two of the test requires that the tax be fairly related to the benefits provided to the taxpayer. The South Dakota Supreme Court stated that the only benefit that a taxpayer is entitled to is an organized society. While the Company argued that the tax on one day of use of the equipment in the State did not relate to any benefit received, the Court found that the Company enjoyed the same benefits as any other person doing business in the State and the Company made the “unilateral decision” to only use the equipment for one day. However, such a finding renders the second Complete Auto prong meaningless.

Instead, the analysis should have assessed whether the benefits received by the Company for one day of equipment use was commensurate with the tax imposed. Using the South Dakota Supreme Court’s analysis would make every tax fairly related to the benefits provided by a state.

Prong four of the Complete Auto test requires that the tax be fairly apportioned. The Company argued that the statute was not externally consistent because 90 percent of its activities occurred outside of the State, yet 100 percent of the equipment’s value was taxed by South Dakota. The decision brushed aside the Company’s arguments, in large part because the equipment was not subjected to tax in any other state. However, Minnesota’s decision not to tax the equipment does not mean that South Dakota should be able to tax 100 percent.

The decision is an unfortunate outcome on an unjust assessment. Taxpayers should be mindful of South Dakota’s aggressive use tax application.