Many manufacturers, wholesalers, and distributors believe they have minimal sales tax obligations due to the likelihood of sales tax-exempt transactions. However, there are numerous pitfalls to be aware of.
Businesses don’t always fit into a “box” as being only a manufacturer, or only a distributor. Many times, a manufacturer is also a distributor. And the terms wholesaler and distributor are often used interchangeably. The concept to consider is whether the sales by these types of businesses are exempt or not from sales tax collection.
1. Managing Resale Certificates Related to Wholesale Transactions
Sales of tangible personal property (TPP) are presumed taxable but certain exemptions can apply. The most common type of exemption is a resale exemption and is applicable to wholesale transactions. In a wholesale transaction, the buyer intends to resell the item to another entity or end-user. In this situation, the buyer wants to make the original purchase exempt from sales tax, and they expect to then charge sales tax when they sell the item. In this situation, the buyer will present a resale exemption certificate, and the wholesaler/distributor is allowed to not charge the sales tax.
It is critical for the wholesaler to maintain resale exemption certificates for their buyers. Under audit, a state is likely to ask for copies of these resale exemption certificates, and in the absence of a valid certificate, any transaction(s) are likely to be deemed taxable and could mean you’re responsible for paying the tax in addition to penalties and fees.
2. Taxability of Equipment and Materials
Every state has nuances on how sales tax applies to purchases related to the manufacturing process and the various equipment and materials that are used and consumed. The complexity for manufacturers sits both on the use tax side as well as the sales tax side.
On the use tax side, manufacturers are dealing with the purchase of various items associated with the manufacturing process. “Consumables” are materials purchased and used during manufacturing but don’t attach themselves directly to the tangible property that leaves a manufacturing facility. “Raw materials” can also be exempt, depending on their use and on the state. “Machinery” and “equipment” directly impacting the manufacture of the tangible personal property generally qualify for exemptions – but again, there are variables. (See our webinar on sales tax in the manufacturing industry for more on this.)
3. Monitoring Nexus
Are you selling your manufactured goods or services on your own website in addition to wholesale transactions? There could be a sales tax obligation here as well.
Transactions involving wholesale are generally free of sales tax, both the collecting and the paying of it (provided you have the proper documentation), but what about those direct sales from your website – are you supposed to charge sales tax? It depends.
Sales made through your own website will be subject to sales tax once you’ve established nexus. If you’ve registered for sales tax purposes in any states, including states in which you have a physical presence (office, warehouse, inventory storage, etc..), you are required to collect sales tax from customers based in those locations. For customers outside of those locations, you will need to monitor economic nexus thresholds similar to any other eCommerce business. But it is not only the revenue and transactions from your own site that you need to monitor. For many states, gross receipts count toward economic nexus thresholds – and gross receipts of sales for a manufacturer/wholesaler can be a significant portion of your sales.
Suppose you hit a state’s economic nexus threshold of $100,000 in sales into that state for a year. Of that $100,000, it’s quite possible that $80,000 comes from wholesale transactions where no sales tax was collected and the remaining $20,000 is related to direct sales from your e-commerce site. The combination of wholesale transactions and direct sales puts you at the economic nexus threshold – requiring you to register for sales tax and begin collecting and remitting sales tax on the $20,000 of taxable sales.
If you need help understanding your sales tax obligations, taxability or how to manage exemption certificates, get in touch. TaxConnex has experts to help answer these questions and to help you establish an ongoing process to ensure you remain compliant with the frequently changing rules of sales and use tax.