In our last post (Nexus: Sales Tax HotSpot #1 and Key Sales Tax Consideration) we spoke about how companies can determine where they have a responsibility to collect and remit sales tax. The answer? Wherever you have nexus - and you sell something that is taxable - you have a responsibility to collect and remit sales tax.
Nexus is the term that is used to describe the link or connection you must have with a state before that state can require that you collect its sales tax. For sales tax purposes this link or connection will generally include some type of physical presence, however what you and I believe to be a physical presence and what the states, or even the US Supreme Court considers to be physical presence can be very different.
There are two US Supreme Court cases that say even third parties(such as non w-2 employees) can create nexus for you if they are helping you to establish or maintain a market. Therefore, independent contractors, subcontractors, or manufacturers reps can create nexus for you. Other common nexus creating activities are owning real or personal property in a state, owning inventory in a state, employees living in or traveling to a state, attending trade shows, and using commission-based affiliate referral programs. This is not a complete list and we suggest a nexus consultation, if you have questions and want to determine where you may have nexus.
While it may all start with nexus, the next step in determining if you should register to collect and remit sales tax is to determine if what you sell is taxable.
In general what you sell is generally a product, a service or a combination of the two. We will briefly touch on each of these categories below. Before we do, it is important to realize that each state has their own ideas of what should or should not be taxed. So in this post we will talk in generalities. For specific answers, we suggest you reach out to schedule a consultation.
Products - Those items that can be seen, touched, tasted, or smelled, are generally always going to be taxable by default, unless there is some sort of exemption (of which there are many). Exemptions may be based on product type, entity type or use.
An example of an exemption based on product type are groceries. It is important to note that while some states don’t tax groceries at all, some states tax them at a reduced rate and some at the full rate. An example of an entity based exemption is where certain non-profits are exempt from paying sales tax on certain purchases and an example of a use based exemption is a sale for resale.
So while there may be exemptions for what you sell in some states to some or all purchasers, in general, the majority of products will be taxable by default.
Services - Services on the other hand, are generally exempt unless they are specifically named in the statute as taxable. Historically, only a few services have been taxable, but there is a growing trend for states to tax more and more services. There are some states like Hawaii, New Mexico, and South Dakota that even tax accounting and legal services. One of the biggest mistakes I see is that companies assume that since they are selling services they do not need to collect tax. While this could be true, it will depend on what you do and in which states you do it.
A word of caution: while services generally need to be named in order to be taxable, sometimes it may not be clear that what you do falls under a named service. For example, in Texas there is a list of services that are taxable. Data processing is one of these services. Website design and hosting is not listed as a taxable service, however Texas has taken the position that website design and/or hosting are data processing services and are therefore taxable. States often stretch their interpretation of their taxable services to include more than what initially meets the eye.
I have spoken to many individuals who have adamantly told me that their state does not tax any services, but I cannot think of a single state that doesn't tax at least some service.
Combination of Products and Services - Sometimes you may sell both products and services, often referred to bundled services. The problem (from a sales/use tax perspective) with offering bundled services is that if you mix a nontaxable service with a taxable product and charge a single price for the bundle, the whole price may become taxable.
Figuring out if what you sell is taxable may be fairly simple in most states, when you are selling tangible personal property and there are not any exemptions. However, when you add in exemptions, services, and multiple states, it can get confusing very quickly. We offer consultations, where we can discuss the specifics of your business and help you determine when and where you should be registered to collect and remit sales tax. We encourage you to reach out.
Other recent “Sales Tax Basics” posts by Michael J. Fleming:
- Are Amazon FBA Sellers Responsible for Collecting Their Own Tax?
- Additional Amazon FBA Tax Amnesty Information
- Amazon FBA Tax: New Amnesty Can Protect Delinquent Sellers
- Sales Tax Filing Basics
- Taxability: Sales Tax HotSpot #2