Forty-five U.S. states as well as the District of Columbia levy sales tax; only New Hampshire, Oregon, Delaware, Alaska and Montana are sales tax free. If you have an e-commerce business in a state that levies sales tax, you are legally required to charge sales tax to your online customers. That makes learning the ins and outs of sales taxes a must for most entrepreneurs.
General Facts about Sales Taxes
States choose to use the proceeds from sales tax levies in a variety of ways according to their needs. Among the most common are to fund schools, pay for infrastructure initiatives and support programs for the elderly.
Each state determines the sales tax rate it will charge, generally between 4 and 7 percent, but often that isn’t all. That’s because counties, towns and cities can also add their own burden. Consequently, figuring out what your customer will pay is no easy task for most e-commerce entrepreneurs.
For merchants, these levies are considered to be “pass-through taxes.” In other words, the business owner does not benefit from these funds but instead merely remits them to the state on a regular basis, usually monthly, quarterly or annually.
Because the rules governing sales taxes vary from state to state, it makes sense for business owners to consult their local authorities to learn about any idiosyncrasies that may exist in their state. For example, some places impose sales tax on shipping charges while others do not. There are even parts of the country where a local city or county sales tax is charged even when it does not exist in the state. To ensure that you are in compliance with all laws, consult your state’s department of revenue.
Understanding Sales Tax Nexus
In simple terms, sales tax nexus refers to a significant presence in a state that charges sales tax. In other words, you have nexus if you have an office, a warehouse or an employee in that state. Once you have nexus, you must charge sales tax even if you ship your product from a location outside the state. By the same token, if you have credit card processing and sell to online customers in a state where you do not have sales tax nexus, you need not charge sales tax.
Once you determine where you have sales tax nexus, you need to obtain a license or permit. If you sell merchandise that is warehoused in another state that charges sales tax, you have nexus and must jump through the necessary hoops to remit sales tax there as well. To make it easier for e-commerce merchants, most online credit card processing platforms contain sales tax calculators that automatically figure out the amount to be added to each customer’s purchase. If you are uncertain about your point-of-sale system’s capabilities in this regard, contact your payment processing provider. Their customer support staff should be able to provide you with easy-to-follow instructions in how to set up an automatic sales tax charging system for all of your customers’ purchases.
Origin-Based vs. Destination-Based Sales Tax States
Another factor to consider is whether your home state is origin- or destination-based. An origin-based state requires that sales tax be collected at the rate effective at the point of origin, i.e. your office or warehouse. By contrast, destination-based states require that the sales tax be charged at the buyer’s address.
After Getting Your Sales Tax Permit
Now that you have determined where you have sales tax nexus and have obtained the necessary licenses, it’s time to start sending in your required taxes. Depending on your sales volume or the amount of sales tax you collect, your state’s taxing authority will assign you a frequency with which you need to send in your taxes.
States vary greatly in their due dates, so don’t assume that your payment is due on the 20th of the month even though that is the case in many places. Even if you owe no sales tax for a period of time, most states still require that you file a report. Make sure you thoroughly understand the sales tax rules in all states in which you are required to remit these surcharges.
Avoid Common Sales Tax Mistakes
Since all is not black and white when it comes to the collecting of sales tax, it is far too easy for small business owners to make mistakes that can lead to unpleasant audits when tax time rolls around. Therefore, do your best to avoid these often-made sales tax errors:
- Failing to file when you did not collect any sales tax
- Failing to understand and comply with local county and city sales tax variations
- Failing to take different states’ rules into consideration
In all of these cases, meticulous record-keeping can inoculate you from any number of headaches. In addition, it is in your best interest to keep your accounting software up-to-date. Hiring a CPA or other reputable bookkeeper to monitor your records is another effective way to keep yourself and your business on the right side of the law.
For most e-commerce business owners, sales tax is a fact of life, like it or not. If you are among this majority, take the necessary steps to ensure that your company complies with all of the sometimes complicated and ever-changing rules that are a part of the sales tax world. A few ounces of prevention now are definitely better than suffering aggravation when it comes time to settle your score with the IRS.