As we contemplate the realities of a post-pandemic economy, one fact becomes crystal clear — the lost income that States rely upon from hospitality, entertainment, travel and tourism and other face-to-face businesses has created an unprecedented need for revenue. As States begin to look to the industries that have grown and prospered during COVID-19, direct selling companies sit in the cross hairs of State tax auditors.
For new companies and those who may need a refresher on the 2018 landmark ruling on sales and use tax, this article will provide a primer on what you need to know for compliance.
As online sales grew and the economy suffered a recession in the first decade of the 21st century, states began to look toward online sales as an opportunity to increase their revenue. Since making consumers comply with use tax requirements was impractical, they hoped instead to force online sellers to collect sales tax. A rash of “Amazon laws” went into effect in the early 2010s, targeting the ecommerce behemoth with an eye toward extending the laws to other online sellers in the future. States and online sellers got creative as they battled back and forth, and Main Street brick and mortar retailers got involved, lobbying Congress for a Marketplace Fairness Act which would establish sales tax requirements for online sellers.
The Congressional Research Office published a report in 2015 declaring that states could not require remote sellers to collect and remit sales tax because of two sections of the U.S. Constitution: the Fourteenth Amendment’s Due Process Clause and the Commerce Clause. They mentioned one Supreme Court Case in evidence: North Dakota vs. Quill. In Quill, the Supreme Court determined that states could only require companies to collect sales tax if they had a physical presence in the state.
A warehouse, a retail store, a salesperson living in the state, and various other physical presences were enough to create nexus – a strong enough connection to allow the state to require sales tax compliance. Without these or other physical connections, according to the Quill decision, there was no nexus and therefore no sales tax requirement.
The U.S. Government Accountability Office estimated in 2017 that states might be losing anywhere from eight to thirteen billion dollars in revenue from the sales and use tax that consumers are legally required to pay on their online purchases.
The Overturn of Quill and the Need for Software
In June 2018, the Supreme Court made a decision that overturned Quill. In the case of South Dakota vs. Wayfair, the Supreme Court specifically said that ecommerce has changed the world enough that Quill is no longer relevant to sales tax law in the 21st century.
States are now able to pass laws requiring remote sellers to calculate, collect, file, and remit sales tax. 21 states have already done so, as of this writing.
While the question of states’ lost revenue was one of the biggest reasons for the overturn of Quill, the Supreme Court also examined the question of whether sales tax collection would place an “undue burden” on remote sellers. That would be unconstitutional. The decision didn’t go into detail on the kinds of laws that might place undue burdens, but they did say that they were confident software could handle the problem.
The Government Accountability Office’s 2017 report went into more detail on this issue. They listed three kinds of costs that remote sellers might encounter:
- software related costs
- audit and assessment compliance costs
- costs associated with research and liability
Their understanding of software costs quite correctly included not only the cost of the software, but also the cost of mapping the products sold to the tax categories used by the software, and the cost of integrating the software with existing business systems, including existing software. They also pointed out the administrative costs involved with multiple filings, especially if using multiple software solutions.
These costs can make the “free” software some states offer or plan to offer much more costly than you might expect.
The GAO pointed out that software can calculate tax by sending requests to a database of rates from various jurisdictions and reconciling that data with business records, and file returns in all jurisdictions.
With 10,000 to 12,000 jurisdictions in the U.S., the GAO emphasized that software is a necessity. They pointed out the complexity of sales tax laws, using the example of clothing. Clothing is exempt from sales tax in some states and taxed like other goods in other states. In some states, fur clothing is taxable, while in others clothing becomes taxable at a certain price point. Athletic clothing is taxable in some states even when other clothing is not taxable. Some states tax clothes, or particular kinds of clothes, at different rates.
Since every state has different laws and procedures, it is not practical to think that multi-state sales tax compliance can be accomplished without software to help.
A Practical Plan
The steps to multi-state sales tax compliance listed below will clarify the ways in which the new tax laws are likely to affect your business.
- Are your goods and services taxable? They might be taxable in some states and not in others. Sometimes there are very detailed distinctions, and your offerings could be taxed differently in the same state. A Taxability Study could be necessary, especially for services or for products like food and clothing that can be very complicated. If you don’t sell taxable things, you don’t need to worry about sales tax. However, if your goods and services are taxable in any states, you should continue to the next step.
- In which states do or will you have nexus? One of the problems with multi-state sales tax compliance is that it can be hard to predict which states you’ll need to work with. The Supreme Court decision did not say that retroactive taxation would not be allowed, though South Dakota’s law says that it will not attempt to collect taxes retroactively. If nexus is established by a sales threshold or consumers’ use of an app, you might not expect to have nexus in a given state… but you might be wrong. For most SMBs, it may be wise to plan on sales tax compliance in all states that charge sales tax.
- Register to collect sales tax in all relevant states. It is not legal to collect sales tax without registering. Each state also has specific rules about how to collect sales tax. In general, you must separate taxes out on the receipt that you send to consumers. Some states also require you to have a business license in their state if you collect sales tax. Others require that you have a “registered agent” with an address in their state.
- Set up your sales tax software. You can choose your software solution today and be collecting tax correctly tomorrow. With many other solutions, it can take weeks to accomplish mapping and integration. This is an important reason not to delay your decision making.
- Begin calculating and collecting sales tax. You’ll need a rate table or sales tax engine to calculate and collect sales tax accurately. Errors can cost you money, so this step is very important. You’ll want a solution that can keep up with changes, because there will certainly be plenty of changes coming up.
- File your sales tax returns. Keeping up with the process in a number of different states can be complex, so be sure to choose software that automates as much of this process as possible, from identifying possible errors to electronic filing.
If you have questions about sales tax compliance for your company, feel free to reach out to our CEO at Noel Hamm, at firstname.lastname@example.org for a free consultation.