The Three-Tier System is Small...and Misunderstood

A simple explanation of the limits of the three-tier system of wine distribution and how the courts may end up correcting the judges that have misunderstood its reach

Rhode Island is one of those states where out-of-state retailers are challenging a discriminatory ban on the delivery of wine to consumers from out of state. The case is at the First Circuit Court of Appeals where oral arguments were recently heard on an appeal from the lower District Court, which found the discriminatory ban to be perfectly constitutional.

I’ve listened to those oral arguments three times now and agree with one media outlet that, based on the questions and comments by the judges hearing the case, it looks good for the out-of-state retailers.

This moment provides a perfect opportunity for me to explain how courts have completely misunderstood the nature of the Three-Tier System and, as a result, have completely botched their rulings on retailer shipping cases in the past. To illuminate this claim, I draw your attention to the decision in the Federal District Court of Rhode Island that has been appealed to the First Circuit, which heard oral arguments yesterday.

In his September 22, 2022 decision in the Rhode Island case, Chief Judge John McConnell, Jr. wrote the following:

“Plaintiffs (retailers) challenge the very basis of Rhode Island’s three-tier regulatory system. They ask the Court to strike down under the Dormant Commerce Clause Rhode Island’s requirement that requires alcohol retailers to have a presence in the state, to obtain alcohol from Rhode Island licensed wholesalers, and prohibit the delivery by common carriers. Defendants (the state) argue that Rhode Island’s statutory scheme reflects a valid state interest and an adequate public health concern allowing it to withstand the different inquiry standard. This Court agrees with the defendant’s position….

“The Court need go no further into Rhode Island’s Three-tier system of alcohol regulation. Because the Twenty-First Amendment gives states greater leeway under the Dormant Commerce Clause to regulate alcohol within their borders, the United States Supreme Court in North Dakota and Granholm approved states’ Three-tier systems as an unquestionably legitimate exercise of valid state interests, and Rhode Island’s scheme is grounded in its pursuit of public health and safety, the Court finds the challenged laws and regulations do not violate the Dormant Commerce Clause and are constitutional.”

This District Court completely botches its understanding of a state’s three-tier system. Note that Rhode Island and its laws only impact retailers located in the state of Rhode Island. Moreover, it should be noted that Rhode Island has no ability to tell a retailer in another state how it must obtain its alcohol. There is no law in Rhode Island or any other state that requires its residents to only buy wine from in-state retailers. A resident of Providence may legally go on the internet and buy a bottle of wine from a New York retailer. No law is broken. Equally important, the wine purchased online from a New York retailer by a Providence resident was not first purchased by the retailer from a Rhode Island wholesaler. And yet, this sale is perfectly legal.

The Court simply does not understand that Rhode Island’s Three-tier system governs the path by which wine arrives at a retail setting IN THE STATE OF RHODE ISLAND…not outside the state of Rhode Island. If a Rhode Island resident buys wine online from an out-of-state retailer, the Rhode Island three-tier system governing how wine comes to retail in that state is completely unaffected.

What out-of-state retailers are objecting to is not how Rhode Island law governs the path by which wine comes to retail in Rhode Island or the requirement that Rhode Island-based wine retailers procure their wine inventory from Rhode Island wholesalers. They are objecting to the way Rhode Island restricts the SHIPMENT OF WINE TO CONSUMERS LOCATED IN THE STATE OF RHODE ISLAND. These are fundamentally different things.

The judge is incorrect that the out-of-state retailers are challenging “the very basis of Rhode Island’s three-tier regulatory system” or that they are challenging “Rhode Island’s requirement that requires alcohol retailers to have a presence in the state [and] to obtain alcohol from Rhode Island licensed wholesalers”.

If Rhode Island’s three-tier system is not at stake from shipments of wine from out-of-state retailers as the Judge claims, and if, contrary to what the judge says, that system will survive shipments of wine to consumers from out-of-state retailers, then there is no threat to the health and safety of Rhode Island residents.

This fundamental misunderstanding of what the Three-tier system does has infected a number of judicial decisions in retailer wine shipping cases.

In the oral arguments at the First Circuit Court of Appeals yesterday, the attorney for the retailers made not this point, but an important separate point: Rhode Island does not even operate under a Three-tier system where retailers must procure their inventory from in-state wholesalers.

Under Rhode Island Gen. Laws § 3-6-1, a “Farm Winery” may “sell wine or winery products under his or her label and fermented by him or her or another winegrower licensed by the state. He or she may sell wine or winery products (7) At wholesale to liquor dealers holding a valid license under the provisions of title 3; and (8) At wholesale to restaurants holding a valid license under the provisions of title 3.”

Put in layman’s terms, Rhode Island Farm Wineries may sell directly to Rhode Island retailers and restaurants without going through a Rhode Island wholesaler.

The reasons the basic nature of the Three-tier system is misrepresented and misunderstood in the Rhode Island District Court decision now under appeal at the First Circuit and in other court decisions around the country are two-fold:

1. The states and wholesalers defending the discriminatory retailer wine shipping laws intentionally misrepresent the three-tier system and what it actually governs.

2. Most judges have come of age and come to understand alcohol regulation as something strictly governed by the state. Moreover, they have come to the incorrect understanding that a “three-tier system” of alcohol regulation is synonymous with the entirety of state alcohol laws instead of understanding that a “three-tier system” actually describes a very limited set of state provisions: 1) that producers, wholesalers, and retailers be separately licensed and 2) that a state’s retailers may only purchase their inventory form an in-state wholesaler. Every other provision of a state’s alcohol laws falls outside these Three-tier system provisions and is in fact not automatically “unquestionably legitimate”.

I’m a betting man. However, I don’t bet on the outcome of court cases and particularly not on court cases on retailer wine shipping. Yet, it is true that the oral arguments at the First Circuit Court of Appeals went well for out-of-state retailers. If the retailers garner a positive decision from the Court, it could lead to a solid split among different Circuit Courts of Appeal around the country, which in turn would make it more likely that an appeal to the Supreme Court in this particular case would be accepted.

If this happens and if the Supreme Court decided to hear a case on discriminatory retailer wine shipping laws, I won’t bet, but I am confident that the Supreme Court will explain to the states that the so-called “Three-tier system” really is legitimate, but only insofar as it governs how a state regulates its own retailers, not out-of-state retailers.