One of the most confusing things for new online sellers is navigating the U.S. Sales Tax System.
In fact, along with Brazil and India, the United States has one of the most complex tax systems in the entire world.
Today, we’ll demystify U.S. sales tax for you, whether you live in the U.S. or live outside the U.S. and are looking for information about selling to buyers in the U.S.Want help navigating the U.S. Sales Tax System for your eCommerce business? Read this guest article from @taxjar #ecommerce #salestax Click To Tweet
How sales tax works
There is no national sales tax in the U. S.
Instead, sales tax is governed at the state level. Each state can decide whether or not to have a sales tax, and forty-five states and Washington D.C. all do. Only five states – Alaska, Delaware, Montana, New Hampshire and Oregon – do not have a sales tax.
Sales tax is a small percentage – usually between 4 and 8% — of a retail sale. Sales tax is collected by the retailer and passed on to the state at periodic intervals. The state then uses that sales tax to pay for state and local budget items like schools, roads, transportation and public safety.
Most states that have a sales tax also allow local areas (like cities and counties) to have a sales tax, too. When making a purchase at a brick and mortar store in the U.S., you might see that you paid an odd number like 6.75% in sales tax.
This is generally because you are paying a statewide tax rate, city and/or county taxes, and maybe a “special taxing district” tax rate. Here’s an example from the city of Centennial, Colorado:
|Colorado State Rate||2.9%|
|City of Centennial||3%|
|Regional Transportation District Tax||1%|
|Scientific and Cultural Facilities District||0.1%|
When should merchants collect sales tax?
In the U.S., merchants (whether brick and mortar or online sellers) are only required to collect sales tax in states where they have “sales tax nexus.”
Sales tax nexus is just a fancy, legalese way of saying “a significant connection” in a state. If you have nexus in a state, then that state considers you on the hook for charging sales tax to buyers in the state. You’ll always have sales tax nexus in your home state, but you may find that certain business activities create nexus in other states, too. They include:
- A location – an office, warehouse, store, or other physical place of business
- Personnel – an employee, contractor, salesperson, installer or other person doing work for your business
- Inventory – Most states consider storing inventory in the state to cause nexus even if you have no other place of business or personnel
- Affiliates – Someone who advertises your products in exchange for a cut of the profits creates nexus in many states
- A drop shipping relationship – If you have a 3rd party ship to your buyers, you may create nexus
- Selling products at a tradeshow or other event – Some states consider you to have nexus even if you only sell there temporarily
- Economic nexus – Exceeding a sales or transactions amount set by the state
Sales tax nexus applies whether you are based in the U.S. or outside the U.S. If you have a location, personnel, inventory, economic nexus, etc. in a U.S. state, then that state requires you to collect sales tax from in-state buyers.
To help you determine whether or not your business activities give you sales tax nexus, you can find out what every U.S. state’s laws have to say about nexus here.
A Special Note on Economic Nexus
Economic nexus is the newest form of sales tax nexus. A pivotal 2018 Supreme Court of the United States ruling, South Dakota v. Wayfair, paved the way for U.S. states to require that sellers who meet a certain sales or transactions threshold in the state collect sales tax from buyers in that state.
Often, the threshold is $100,000 sales in a state in a year, and/or 200 sales transactions into the state in a year. But you can see each state with an economic nexus law, and find out their thresholds in: Sales Tax by State: Economic Nexus Laws.
Need to determine if you have economic nexus? TaxJar offers a Sales and Transactions Checker that will notify you if you have, or are approaching, economic nexus in a state.
On a brighter note, many states now require that marketplaces – like Amazon, eBay or Walmart – collect sales tax on 3rd party sellers’ behalf. You can see which states have marketplace facilitator laws here.
Register for a permit with each state where you have nexus
If you have nexus in a U.S. state, then that state requires you to register for a sales tax permit. Don’t skip this step and before you start collecting! Most states consider it illegal to collect sales tax from buyers without holding a state sale tax permit. In their suspicious minds, if you are collecting without a permit you may be keeping that money in your pocket.
As with everything having to do with sales tax, registering to collect sales tax is different in every U.S. state. You can find our state-by-state guides on how to register for a sales tax permit here.
When you receive your sales tax permit, your state will also assign you a sales tax filing frequency and due dates. You will usually be required to file a sales tax return monthly, quarterly or annually. As a general rule, the higher your sales volume in a state, the more often that state will require that you file and remit sales tax.
Collecting sales tax
Once you have your state sales tax permit, your next step is to ensure that you are collecting sales tax from buyers in your nexus state (or states.) If you sell on multiple sales channels (ex: Shopify and through Salesforce Commerce Cloud) make sure you are collecting sales tax from all of your buyers in your nexus states on all of your sales channels.
Most online shopping carts and ERPs have a setting to allow you to automatically collect sales tax from your customers. That said, some shopping carts and ERPs have more robust sales tax collection engines than others.
Origin and Destination Based Sales Tax Sourcing
Some U.S. states have “origin-based sales tax sourcing” and some have “destination-based sales tax sourcing” for online sellers. In origin-based states, like Tennessee, an online seller based in the state charges the sales tax rate at the origination points of a shipment (i.e. your home or warehouse.) In a destination-based state (and most U.S. states are destination-based) then you as an online seller are required to collect sales tax at your buyer’s ship to address. This means keeping track of sales tax rates all around a state. And states can have hundreds of sales tax rates!
This can be a tough concept to wrap your mind around, so you can read a lot more about origin vs. destination-based sales tax sourcing here.
Do you charge a shipping charge to your customers? If so, you may have to think about sales tax on shipping charges, too. Some states consider shipping charges a part of the taxable sale (and thus you should charge sales tax on the shipping charges), and others consider shipping charges separate from the taxable sale (thus you do not have to charge sales tax on those charges.) You can see which states consider shipping taxable here.
Most tangible personal property is taxable. But some states will legislate that some items – usually necessities like groceries or clothing – are not taxable. As with everything related to sales tax, this varies by state. For example, clothing is not taxable in the state of Pennsylvania. If you had nexus in Pennsylvania and sold clothing to a buyer in Harmony, PA then you would not charge sales tax. You can check here for information about what products are and are not taxable in each U.S. state.
Reporting and filing
When your state sales tax filing due date rolls around (remember, this will usually be either every month, every quarter or once per year), then it’s time to report how much sales tax you’ve collected.
In a handful of states with no local tax rates, this is fairly easy. They merely want you to report how much sales tax you’ve collected from buyers in that state. But in most states, reporting sales tax is a complicated and time-consuming hassle.
The majority of U.S. states want you to break down how much sales tax you collected from buyers in each county, city and other special taxing jurisdiction. This can be difficult if you have a high volume of sales, sell on multiple channels, or simply because your customer’s county and special taxing district can be difficult to determine!
That’s where a sales tax automation solution comes in. Technology can connect with all the channels on which you sell, pull in all of your transactions, and provide you with a sales tax return-ready report. All you need to do is fill in the info from your report and you’re ready to file. Or, if you’d rather never touch a sales tax return again, you can AutoFile your sales tax returns in most U.S. states.
There are two important considerations to remember when you file:
- File on time – States generally levy a penalty of about $50 per past due filing, and also charge a small percentage of interest on any late payment.
- File “zero returns” – File a sales tax return on your due date even if you don’t have any sales tax due. Most states require this, and will levy a penalty if you fail to file, no matter if you had collected sales tax over the taxable period or not.
- Don’t discount sales tax discounts – About half the states with a sales tax will allow you to keep a small percentage of the sales tax you’ve collected. While this amount is usually around 1% of the sales tax you collected, be sure to take advantage of this free money!
A Note on Sales Tax Filing for Non-U.S. Sellers
Most states require that you pay via automated clearing house (ACH) transfer from a U.S. bank account. We recommend contacting a good CPA or tax attorney if you need help getting set up to collect sales tax in the U.S.
I hope this article has given you a broad view of U.S. sales tax. If you have questions or comments, start the conversation here!
This article was written by Jennifer Dunn of TaxJar, a service that makes sales tax collection, reporting and filing simple for more than 20,000 eCommerce businesses. Ready to automate sales tax? To learn more about TaxJar and get started, visit TaxJar.com.
Last Updated: 05/28/2020