3-tiers crumbling? Michigan forced to allow out-of-state wine retailers to ship direct; avoiding Michigan’s 3-tier system.

  The slow dismantling of protectionist state statutes prohibiting interstate shipment of alcohol advances. The marathon started by Granholm has led to a host of cases demanding parity under commerce clause principles between in-state and out-of-state retailers. As we reported last week, one of those, a 6th Circuit challenge, will be heard in the Supreme Court this term.

  Then, just this past Friday, in an important win for those hoping online retailers will be shipping beer, wine, and liquor to their doorstep soon, a Federal District Court in Michigan just handed down an amazing ruling in Lebamoff v. Snyder and the Michigan Beer and Wine Wholesalers (link to opinion, more docs from this case at the bottom), a case similar to one pending before the 7th Circuit, in which a group of advocates using the commerce clause to dismantle state regulations sued the state of Michigan over Michigan’s discriminatory practice of allowing in-state wine retailers to ship alcohol by third-party carrier to residents, but prohibiting out-of-state wine retailers from doing the same.

  In the opinion, the Court dismantles, in step by step fashion, each of the major arguments advanced by 3-tier advocates as “justifications” for allowing a liquor control authority in the Republic to violate the constitutional fair-and-equal-play principles of the commerce clause. The Court’s response to each of the arguments is highlighted below. And the text of the arguments with the supporting documentation and special-interest-funded pseudo-science “evidence” for the contentions raised by the opponents to the Republic and the Federal Constitution – beer and wine wholesalers and the state of Michigan – are linked below for you, dear reader (absent further hyperbole, I promise).

  You’ll see the Court relied not only on the most recent precedent from the Sixth Circuit and from the United States Supreme Court in showing why (similar to the recent Wayfair decision) these arguments for upholding an archaic system fail:

Defendants therefore must defend their regulatory regime on the second prong of the dormant Commerce Clause analysis. A facially discriminatory law will only be upheld if it “advances a legitimate local purpose that cannot be adequately served by reasonable alternatives.” Dep’t. of Revenue of Ky., 553 U.S. at 328. Given that simply outlawing retail wine shipping without providing an exception for SDMs would likely accomplish the following four objectives, and that the State has operated a non-discriminatory retail regime in the past, Defendants seem foreclosed from meeting their burden.

Nevertheless, Defendants argue that four legitimate local purposes will save wine retailer-delivery discrimination from a Commerce Clause challenge. The Court considers each in turn.

1. Administrative Overburdening

The State argues that Michigan cannot feasibly regulate a nationwide market of wine retailers. The MLCC opines that 338,000 retailers nationwide could be eligible for licenses and references the heavy burden that licensing and regulating out-of-state wine retailers will entail. (Defs.’ Ex. B, at ¶ 13). Plaintiffs argue that only a tiny fraction of these retailers will in fact apply for a license, as was the case in New Hampshire, and that the costs of running a shipping business will prevent the market from becoming saturated with out-of-state retailers. (Pls.’ Ex. 14 & 15). It is impossible to know just how many applicants an expanded SDM license eligibility would create, but the State has not demonstrated that no reasonable alternatives exist to prevent administrative overflow. The MLCC could for instance tighten regulations with other non-discriminatory requirements or increase its application fees. The State cannot justify restricting market access to local businesses merely by pleading regulatory frugality and pointing out that Michigan has fewer potential licensees than the whole country.

2. Youth Access

The State argues that licensing out-of-state retailers to deliver wine would substantially increase the risk of minors obtaining alcohol. Defendants provide evidence that out-of-state direct shippers have sold more wine to minors during investigatory control sales. (Defs.’ Ex. D at ¶ 18; Ex. C at ¶ 14). The Granholm Court already considered and rejected the justification of preventing youth access for winery direct shipments, finding that the states needed not only to show that a problem existed but also that alternative mechanisms could not solve that problem. Granholm, 544 U.S. at 489-91 (finding that online wine shipping is an unattractive means for minors to procure alcohol, and noting less restrictive alternatives to foreclosing youth access to wine).

Preventing underage wine sales fails as a justification because the point-of-enforcement is on the delivery end. Michigan law provides that wine must be shipped in a specially marked package, and that only someone at least 21 years of age can accept delivery. M.L.C. 436.1203(15). Third party shippers must be approved by the MLCC and must keep records of their shipments for inspection. M.L.C. 436.1203(20)-(21). Michigan does not advance any theory on how its wine retailing websites better screen out minors than their out-of-state rivals, and in fact both websites would be equally accessible to Michigan officials seeking to investigate underage sales, as would both company’s deliveries (presumably accomplished by the same common carrier). Further, as Plaintiffs argue, there are many forms of leverage the state can hold over out-of-state retailers short of the threat of property abatement. Bonds can be required from retailers where the MLCC sees fit, and, along with the SDM license itself, subject to forfeiture where necessary. The Granholm Court found that Michigan failed in 2005 to make the “clearest showing” that was necessary to justify discrimination. Granholm, 544 U.S. at 489-91 (quoting C&A Carbone, Inc., 511 U.S. at 393). The state has not adequately demonstrated that replacing wineries with wine retailers has made a significant enough difference.

3. Tax Collection

The State argues that collecting Michigan taxes from out-of-state retailers would be unworkable. Defendants base this conclusion off the MLCC’s experience taxing out-of-state wineries. Direct shipper licensees pay the excise tax directly to the MLCC, but the Commission believes itself to be unable to collect the full taxes owed on such transactions. (Defs.’ Ex. E). Defendants advance evidence that out-of-state wineries have disproportionately failed to timely file required tax documentation and have routinely underpaid taxes. Id. The fact that much of Michigan’s evidence comes from winery direct shipping suggests that the State’s problem lies with Granholm itself, a problem that this Court is not in a position to remedy.

Indeed, the Court in Granholm found that there were reasonable alternative methods available to collect taxes without burdening interstate commerce. Michigan can simply require retailers to post a bond for taxes, as it already does in certain circumstances, and condition continued licensing on proper payment of taxes. Granholm, 544 U.S. at 491 (“If licensing and self-reporting provide adequate safeguards for wine distribution through the three-tier system, there is no reason to believe that they will not suffice for direct shipments.”); see also Mich. Comp. L. 436.1801 on current wine retailing bond requirements. Indeed, tax collection is substantially less of a justification now than it was in 2005, when the nexus requirements of Quill Corp v. North Dakota, 504 U.S. 298 (1992) were still in effect. South Dakota v Wayfair, 138 S. Ct. 280 (2018) overruled Quill and allowed states to collect taxes from out-of-state retailers delivering goods to their citizens “as if the seller had a physical presence in the states.” Id. Michigan has every right to demand out-of-state sellers collect taxes from its Michigan customers and remit those taxes to the state.

4. Product Safety

Michigan argues that permitting out-of-state retailer delivery would defeat the MLCC’s product safety function. The only U.S.-specific research the defendant cited for this argument was an article that concluded that fake alcohol is not a large problem in the U.S. precisely because of the efficacy of state and federal regulation. See Robert M. Tobiassen, The Fake Alcohol Situation in the United States: The Impact of Culture, Market Economics, and the Current Regulatory System, CENTER FOR ALCOHOL POLICY (2014) at https://www.centerforalcoholpolicy.org/wp-content/uploads/2015/04/The_Fake_Alcohol_Situation_in_the_United-States_compressed.pdf (last visited Sep. 24, 2018). The one case of unsafe retailed wine reported by the article was that of certain wines containing diethylene glycol, that were recommended for recall by the Federal Bureau of Alcohol, Tobacco, Firearms and Explosives. See Banfi Products Corp. v. United States, 41 Fed. Cl. 581 (1998). While the success of regulation should never undermine the regulation that made it possible, Michigan has not demonstrated that the regulatory efforts of the Federal Government and other state governments is so deficient as to require Michigan to keep all retail shippers within its state lines. Defendants have not demonstrated that they lack alternative mechanisms (such as collecting wine samples or barring the shipment of suspect wines) for achieving their goal of product safety. The product-safety justification thus lacks merit.

  In addition to the arguments against claims that the discrimination against out-of-state players in Michigan’s 3-tier system advances state interests in the narrowest methods possible, like avoiding fake liquor, keeping underage kids from drinking, keeps the state from administrative burdens and facilitates better tax collection, the opinion goes straight to the heart of the matter in acknowledging that allowing out-of-state alcohol sellers to ship to in-state customers would bypass Michigan’s three-tiered system:

Defendants argue that a ruling for the Plaintiffs would allow Lebamoff to do what no Michigan retailer may do: ship wine to Michigan consumers that has not passed through the Michigan three-tier system. The dormant Commerce Clause is enforced against states, however, and the constitutionality of state action is of primary concern in this case. The governing question, therefore, is whether Michigan is permitted to enforce a statute that explicitly denies out-of-state retailers a privilege available to their in-state competitors. The answer at this stage must be no, for “[s]tate laws that discriminate against interstate commerce face a ‘virtually per se rule of invalidity.” Granholm, 544 U.S. at 476 (quoting Phila. v. New Jersey, 437 U.S. 617, 624 (1978)).

Michigan departed from a hermetically-sealed three-tier system when it chose to permit its wine retailers to join the digital marketplace and engage in direct shipping to customers. The State created a market for Michigan consumers that implicated interstate commerce in a manner above-and-beyond that of a traditional three-tier system. These same laws then closed off this Michigan-sized portion of American interstate commerce to out-of-state competition. State laws that so favor in-state business presumptively violate the dormant Commerce Clause because they undermine “strong federal interests in preventing economic Balkanization.” Bacchus Imps. v. Dias, 468 U.S. 263, 276 (1984) (finding that a tax exemption for an indigenously produced Hawaiian brandy, Okolehao, skewed competition within the liquor market and therefore was subject to the Commerce Clause).

  And in expounding this point later on by quoting Byrd, the Court provided the insight many refuse to acknowledge, that “avoiding the three tiered system” really means cutting a state’s wholesalers and retailers out of the picture:

  Put another way, “[d]istinctions between in-state and out-of-state retailers and wholesalers are permissible only if they are an inherent aspect of the three-tier system.” Id. This is the test the Court applies to Michigan’s retail wine shipment laws.

  Rejecting the notion that the 21st Amendment powers of the state are somehow sacrosanct when pitted against the prohibition on economic protectionism mandated by the commerce clause the Court wrote:

Michigan fails this test because it cannot demonstrate that permitting in-state retailers to ship directly to consumers while denying out-of-state retailers the right to do the same is inherent to its three-tier system. Michigan retains its Twenty-first Amendment powers to maintain a closed three tier system, just as it remained free after Granholm to prohibit wineries from shipping directly to consumers. But when it starts carving exceptions out of that system, it must do so without resorting to economic protectionism. The State’s Twenty-first Amendment powers do not extend so far as to spare protectionist laws from the Commerce Clause. See Granhom, 544 U.S. at 487 (2005) (holding that “regulation of alcohol is limited by the nondiscrimination principle of the Commerce Clause.”). A law favoring local businesses that strays too far from the protection of the Twenty-first Amendment must withstand a Commerce Clause challenge on its own merits.

  While the opinion and arguments raised by the Court should have struck to the core and addressed the salient point that nothing in the three-tiered system is mandated by the 21st Amendment, rather than assuming, as many opinions seem to, that the two go hand in hand, the analysis correctly decided the issue and applied the two-pronged analysis of any commerce clause decision, namely inquiring: 1) does the statute at issue directly regulate or discriminate against interstate commerce, having the effect of favoring in-state economic interests over out-of-state interests? And if so, then 2) does such discrimination advance a legitimate local purpose that cannot be adequately served by reasonable alternatives?

  Especially when considered in light of other, more potent observations – “Protectionist laws are generally struck down without further inquiry, because absent an extraordinary showing the burden they impose on interstate commerce will always outweigh their local benefits.”

  For those of you keeping score and interested in the ongoing progress of the slow march to freedom of choice and national shipment, the opinion also summarizes some of the recent decisions in the country, both for and against applying Granholm and the commerce clause principles of free and open trade between the states to the wholesaler and retailer tiers of the alcohol industry:

[T]he Second Circuit declined to interpret Granholm as authorizing a Commerce Clause challenge to a New York state wine retail shipment law that privileged in-state retailers. Arnold’s Wines, Inc. v. Boyle, 571 F.3d 185 (2nd Cir. 2009). The Eighth Circuit went further and held that residency requirements for wholesalers are permissible under the Commerce Clause. S. Wine and Spirits of Am., Inc. v. Div. of Alcohol & Tobacco Control, 731 F.3d 799 (8thCir. 2013). Implicit to both the Second and Eighth Circuit’s decisions was their refusal to extend the logic of Granholm from the producer tier to the retailer tier.

This bright-line distinction between producer and retailer tiers is incompatible with Sixth Circuit precedent. In Byrd, the Sixth Circuit found that Tennessee residency requirements for the owners of retail businesses applying for alcoholic beverage licenses did in fact violate the Commerce Clause, and it embraced the Fifth Circuit’s interpretation of Granholm as “reaffirming the applicability of the Commerce Clause to state alcohol regulations, but to a lesser extent when the regulations concern the retailer or wholesaler tier as distinguished from the producer tier, of the three-tier distribution system.” Byrd v. Tenn Wine and Spirits Retailers Ass’c, 883 F.3d 608 (6th Cir. 2018), cert. granted,(U.S. Sep. 27, 2018) (No. 18-96), (quoting Cooper v. Texas Alcoholic Beverage Comm’n, 820 F.3d 730, 743 (5th Cir. 2016)).

  Finally, in language suitable to the momentous decision of invalidating a state statute, the Court ruled in favor of the Plaintiffs and ordered the State of Michigan to allow out-of-state wine retailers to ship directly to in-state consumers:

With an aim to creating minimal interference in the complex and interdependent statutory infrastructure of Michigan alcohol, the Court holds that 2016 PA 520 is unconstitutional insofar as the Act, in conjunction with MLCC Section 436.1607 (restricting SDM licensees to Michigan entities) precludes out-of-state sellers of wine from shipping to Michigan customers. The law as amended by the Act—which allows sellers of wine who hold a “specially designated merchant license located in this state…to use a common carrier to deliver wine to a consumer in this state…”—may remain unaltered insofar as it permits otherwise compliant out-of-state wine retailers to either apply for and receive SDM licenses or ship to Michigan customers with comparable out-of-state licenses. Finding the Commerce Clause sufficient grounds for relief, the Court declines to reach Plaintiffs’ Privileges and Immunities claim.

  What’s also interesting about this case is that rather than just relying on the dicta that the 3-tier system is “unquestionably legitimate” (as some district courts and circuits have done in addressing the retailer parity issue) this is another example of a court actually applying the law and evidence to the facts at hand. Interestingly, each time this occurs, a court generally renders a decision in favor of the commerce clause and against State’s arguments that the language of the 21st Amendment exempts alcohol regulation from commerce clause

  For those of you with more than a passing interest, in addition to the opinion we linked to above, here are several documents in this case with their supporting exhibits that will help in potentially making similar arguments if you find yourself in need of advancing this sort of challenge:

• The Amended Complaint in Lebamoff v. Snyder & the Michigan Beer and Wine Wholesalers – challenging restrictions on liquor retailers that allow in-state liquor stores to ship to in-state customers, but prohibits out-of-state retailers from doing the same.
• The Motion for Summary Judgment filed by the Lebamoff plaintiffs in Lebamoff v. Snyder & the Michigan Beer and Wine Wholesalers – arguing that Michigan’s prohibition on out-of-state retailer shipments of wine and liquor and beer direct to customers violates the commerce clause of the constitution where Michigan allows in-state liquor stores to ship alcoholic beverages direct to customers.
• The Response to the Motion for Summary Judgment and cross-motion filed by the State of Michigan in Lebamoff v. Snyder & the Michigan Beer and Wine Wholesalers – arguing that the state’s system of not allowing out-of-state wine and beer stores to ship wine and craft beer and craft spirits to withstands constitutional muster thanks to the 21st Amendment.
• The Response to the Motion for Summary Judgment and cross-motion filed by the Michigan Beer and Wine Wholesalers arguing that the 21st Amendment allows the state of Michigan to prohibit out-of-state liquor retailers from shipping directly to Michigan customers.
• The combined Response and Reply filed by the Plaintiffs in Lebamoff v. Snyder & the Michigan Beer and Wine Wholesalers – arguing that Michigan’s discrimination against out-of-state alcoholic beverage retailers is unconstitutional and prohibited by the commerce clause.

The Reply of the State of Michigan in Lebamoff v. Snyder & the Michigan Beer and Wine Wholesalers – in support of its argument that the 21st Amendment allows the state to discriminate against out-of-state retailers.