Taxes can be a complicated, challenging aspect of business, but is essential for success. In the e-commerce landscape, taxation can be even more complicated as selling to people across different states and territories means complying with other tax laws and rules.
On top of variations by location, tax can also vary across different industries.
If you’re selling private label cosmetics, for example, you will have to deal with vanity tax imposed by other countries on makeup, skincare, and self-care products. If you sell digital media, software, or downloadable games, state sales taxes will apply to your digital goods, as well.
Here’s a brief guide to help you navigate the world of online sales tax and avoid negative sales tax audits and tax liens.
Charging Online Sales Tax in the US
If you have customers in multiple US states, it’s good to keep abreast with the current internet sales tax laws in these areas. This way, you can charge your customers the correct amount of sales tax. It is then your duty to remit the taxes you collected back to the state.
But to know whether you should charge your buyers and how much, you should first understand three important concepts:
Sales tax nexus
Having sales tax nexus in a state basically means that you’re obligated to comply with that state’s tax laws and rules. There are basically conditions that make you liable to pay taxes for online sales. These conditions essentially mean that you’re “engaged in business” in the state.
While having nexus could mean different things in different states, here are some of the most common criteria:
- A physical location, be it a warehouse, store, office, or other physical presence of business
- Personnel, including employees, salespersons, contractors, installers, or other persons hired and paid to do work for your business.
- Inventory stored in the state even if you have no other place of business or personnel is considered nexus in some states.
- Affiliates, or people who advertise your products in exchange for a commission, can also create nexus in many states.
- A local third-party drop-shipping relationship that delivers products to buyers in that state.
- Having products sold temporarily, or at a trade show or any event in that state.
- Economic nexus created by exceeding a state-mandated dollar amount of sales in a state or going over a certain state-mandated number of transactions.
If you wish to know the nexus requirements for each state, check out this guide.
Now that you know that each state has its own tax rules for online sales, you might be wondering, are all products sold online taxable?
Knowing the taxability of your products is essential for the success of your e-commerce business. For instance, most clothing is tax-exempt in Minnesota, while Arizona does not tax grocery items, while Illinois has a reduced tax rate on grocery goods. Most tangible properties such as furniture and tangible personal properties like makeup are also taxed in many states. States like Oregon, Montana, Alaska, and Delaware don’t impose sales tax, while Hawaii doesn’t have sales tax but would charge you excise tax, assessed on all business activities.
County taxes & special taxing districts
On top of the 45 US states that impose an online sales tax, there are also cities, counties, and special taxing districts that will require you to pay taxes, and these charges will be added to your combined sales tax. For instance, if you have a buyer in Dutchess County District, the district’s tax rate, along with Dutchess County and New York State sales tax rates, will apply.
Understanding these requirements is just the first step. In a nutshell, here’s what you’ll have to do:
1. Register for a sales tax permit – if you think you do enough business in the state and is considered to have nexus in that state, you may then apply for a sales tax permit. You should also determine if you should pay the taxes to your home state or the destination state.
2. Collect sales tax – once you know the right amount of tax to be paid to each state, you can charge the amount to your buyers in that jurisdiction. Make sure this is made clear in your online store, shopping cart, and invoices.
3. Report and file sales tax – tax due dates typically roll around monthly, quarterly, or annually. Depending on the frequency outlined in your permit, make sure you report and report all the sales tax you collected.
4. File for tax return – you should file your tax return within the due date to avoid negative audits, even if you haven’t collected any sales tax in that area.
5. Remit sales tax back to the state/county/district – it is important to know when and how to pay online sales taxes in each state. Each state can have different due dates, so it’s best to hire a professional accountant specializing in e-commerce tax.
6. Double-check your tax compliance – these requirements can be a handful, which is why most online sellers would outsource all matters of taxation to experts on retainers or third-party firms. But it’s your due diligence as a business owner to better understand these laws and do a periodic review of your tax obligations.