As an owner of an eCommerce store, you need to understand your tax liabilities. This guide will provide you with the information you need to know to stay compliant with tax regulations if your business is based in the United States. This information in this article is a guide only and is intended to provide general information. Please consult with a tax or accounting professional to help you make sure that you understand your full tax obligations.
In this guide, you will learn...
What is a sales tax?
A sales tax is a consumption tax imposed by the government. It is calculated as a percentage of the sale price of products and services. It is the seller's responsibility to collect sales tax (if applicable) from customers at the point of sale and to report and pay the tax to the state government.
At a minimum, sales tax is comprised of a state tax. Most states also have local area taxes such as city tax, county tax, and special district tax. These local taxes, combined with the state tax, make up the sales tax. States determine whether there is a sales tax, what the rate(s) is/are and which products and services are taxable. The regulations are different for each state.
Most US states and Washington D.C. have a sales tax. Only five states do not:
- New Hampshire
What is sales Nexus?
In the U.S. retailers are required to collect sales tax from customers in states where they have sales tax nexus. A nexus is a legal term that refers to a seller's obligation to collect an pay taxes in the state in which they have a sufficient physical presence.
If you conduct sales online and do not have a brick and mortar store, the location where you conduct business has a nexus. The definition of a physical presence is not limited to your home state.
You are considered to have a sufficient physical presence and hence, also have a sales tax nexus in other states if:
- You have an office in the state
- An employee is located in the state
- An affiliate who sells your products is located in the state
- You store inventory or assets in the state
- You use a third-party contractor in the state
- You use a third-party provider in the state to ship orders to customers
- You or an employee attended a tradeshow in the state within the last 12 months
For example, if your business is in Texas, you contract your production to a third party in Arizona and you store your inventory in a warehouse in Louisiana, then you have a nexus in Texas, Arizona, and Louisiana. You will collect tax from customers in Texas, Arizona, and Louisiana.
Origin versus destination sales tax
States generally require online sellers to collect sales tax in one of two ways - origin-based tax collection or destination-based tax collection. Sellers need to find out whether they must collect destination or origin sales tax for all states they have a nexus in.
Origin-based sales tax
Origin-based sales tax is when tax is collected based on the seller’s location. However, sellers still remit the tax to their home locality or state.
Currently, the following states use the origin-based tax method.
|California* (except for district sales taxes)||New Mexico||Texas|
For example, say your business is located in Atlanta, Georgia which has an 8.9% origin-based sales tax rate. If your customer is located in Roswell, Georgia you will collect the Atlanta, Georgia tax rate of 8.9% instead of the Roswell rate of 6%. I.E. All customers are taxed at a rate of 8.9%, regardless of their location in the country because your business is located in an origin-based jurisdiction.
* California is unique because it uses a hybrid-origin method when it comes to tax collection. In California, state, county and city taxes are origin-based, while district taxes are destination-based.
Destination-based sales tax
Destination-based sales tax is when tax is collected based on the buyer’s location and remit the tax to the destination state.
Destination-based sales tax is more popular than origin-based. The following states (and Washington D.C.) use the destination-based tax method:
For example, say your business is in Minneapolis, Minnesota and you sell to a customer from Plymouth, Minnesota. You will charge the customer the Plymouth, Minnesota’s sales tax rate of 7.525% instead of Minneapolis’s sales tax rate of 8.025 % since Minnesota is a destination-based jurisdiction.
In addition to collecting taxes in states in which you have a nexus, you also need to consider if you are a remote seller in any state. A remote seller is an individual or an entity that does not have a physical presence in a state but sells taxable products to customers in that state using the Internet, mail order or telephone. Many states have enacted requirements for remote sellers to collect sales tax if their sales meet a certain threshold.
You must begin to collect sales taxes as a remote seller if you meet the minimum threshold set by the state. State impose special rules on remote sellers have when it comes to origin-based and destination-based states. Check with the state regulations to see if tax collection is origin-based or destination-based for remote sellers.
For example, say your business is in Ohio and you make sales to customers in Washington, where you do not have a physical presence, of $10,000 or more. You will need to collect sales tax at the Washington rate, as Washington uses destination-based tax collection for remote sellers. You will then need to send the sales tax to Washington.
Sales tax exemptions
State and local governments may provide exemptions on sales tax for certain goods and services. You need to know what products and services are exempt from sales tax for each state you have a nexus in and ensure that you do not charge tax on those products.
Some states have sales tax holidays. On sales tax holidays, customers can make purchases without having to pay sales tax. You need to know the holidays for each state you have a nexus in and ensure you do not collect tax during that time.
What is required to become sales tax compliant?
These are the steps you need to take in order to become sales tax compliant:
- Determine the states in which you have a sales tax nexus.
- Determine the states in which you are a remote seller.
- Determine if the products and services you offer are subject to sales tax.
- Determine the rates of tax you need to collect in the states in which you have a nexus and in the states where you are considered a remote seller.
- Register for a sales tax permit in the states in which you have a nexus and in the states where you are a remote seller.
- Set up sales tax collection on your website.