Unexpected Growth Can Mean Sales Tax Obligations
This article was written for the Atlanta Business Chronicle Leadership Trust. To see the original...
Many companies have difficulty understanding the intricate laws surrounding interstate sales tax. There have been significant developments in these laws in recent years, and most every state that did not require out-of-state companies to collect sales tax in their jurisdiction in the past now require it. It can be easy for companies to fall behind and fail to file and remit the proper amount of sales tax to the jurisdictions in question.
If your company fails to satisfy its sales tax requirements, your company could be exposed to serious financial and legal problems. Fines for non-payment of sales taxes are steep. Companies that need help understanding their sales tax obligations may be looking for a place to turn with questions.
As a major provider of sales tax compliance services, TaxConnex™ can help determine your sales tax nexus and establish compliance for future tax years.
Coming to the unpleasant realization that your company failed to fulfill its sales tax obligations can be nerve-wracking. Fortunately, your company has some recourse in managing your back sales taxes and ensuring that you are not heavily penalized for your mistakes.
One way to help your company cope with missed sales tax collections and remittances is by filing a voluntary disclosure agreement or VDA. This agreement is a legal way for taxpayers to self-report the back taxes they owe on past revenues. These agreements can cover income, property, sales, and other types of taxes.
In exchange for self-reporting, a state will generally grant companies a waiver of any penalties they may have incurred and restrict the look-back period to approximately three to four years. This can have the effect of significantly reducing your tax due when compared to an audit.
If sales tax due is discovered under audit, and you are not registered for sales tax, there is no statute of limitations. As a result, a jurisdiction can assess taxes, penalties and interest from the moment you first had taxable sales. This can cripple a company financially. Entering into a voluntary disclosure agreement with the states in question could save your company from having to undergo significant expense.
The problem of multistate sales tax is particularly acute for companies that do business across state lines. Each state is likely to have its own, unique sales tax laws. Companies should understand exactly where they are obligated to collect sales tax and how much they must file to comply with the law.
Determining where a company owes sales taxes boils down to nexus – both physical nexus and economic nexus. The concept of nexus means that a company has a certain level of connection with the jurisdiction in question. Unless nexus is established, the state or city cannot require your company to collect sales tax.
Historically, nexus had solely been viewed from a physical presence perspective. For example, where a company has employees, offices, inventory, performs services, travels into a state to solicit sales, etc.
However, in 2018’s landmark Supreme Court decision, South Dakota v. Wayfair, the US Supreme Court overturned the simple physical presence requirement that was put into place in accordance with previous findings. Instead, both physical and economic considerations are now used to determine who is responsible for collecting sales tax.
Under this new Supreme Court decision, sales tax nexus is also found to occur if a company has a predetermined amount of sales revenue coming from the state and/or a certain number of transactions.
South Dakota set its economic nexus requirements at a minimum of $100,000 or more than 200 transactions over the current or last calendar year. Companies that have a physical presence in the state must also pay sales taxes.
Many other states followed suit and established similar economic nexus rules as what South Dakota put in place. A minority of states have higher or lower thresholds for revenue and the number of transactions in each state. It is up to the company that is selling into each individual state to determine whether they have created nexus with the state in question and whether they need to collect and remit sales taxes.
Suppose you discover that your company should have been collecting sales tax in one or more jurisdictions. In that case, it may be a good idea to determine the overall potential exposure related to your non-compliance. As part of the analysis of your exposure, a VDA should be considered as an option to mitigate your overall risk.
Here are the steps that your company should follow to determine your best course of action in correcting previous non-compliance:
Companies should make sure that they have a complete account of all their activities. Businesses should calculate whether they have received at least $100,000 in revenue from a state over the past 12 months at a minimum. While this is not the ultimate means of determining states where your company may have economic nexus, it is a good starting point.
Keep in mind that of the 45 states with a sales tax, 43 states and the District of Columbia have applicable economic nexus laws. The only states where this type of nexus does not apply are New Hampshire, Delaware, Missouri, Florida, Oregon, Alaska, and Montana. Though, Florida and Missouri have bills in various stages of legislation as of March 2021.
Also, don’t forget to review where you have a physical presence as this can also create sales tax nexus.
After nexus has been determined, it is time to determine whether your campany’s products and services are taxable for sales and use tax purposes. Only five states do not have a state level sales tax: Alaska, Delaware, Montana, New Hampshire, and Oregon. (Although Alaska has some local sales taxes.)
In general, sales and use tax applies to the sale of tangible personal property and certain services. This is a very general rule and one that varies from state-to-state. The rules can be confusing when evaluating whether Software-as-a-Service is subject to sales tax. It doesn’t meet a “classic” definition of either tangible personal property or a true service. As a result, the taxability is varied from state to state with California exempting SaaS while New York taxes SaaS.
When your company determines that a product or service is subject to sales and use tax, you should estimate your exposure over the prior period. There are two reasons for assessing your exposure over the prior period. The first is helping your company determine a strategy to mitigate your tax problem. The second is fulfilling your obligations to your shareholders if you are publicly traded.
You may need to contact your customers to determine if they have already paid the sales tax directly to the state. Or perhaps your client should have provided you a resale exemption certificate or some other exemption certificate; thus relieving you of your sales tax collection obligation.
If you have collected sales tax in error, you could choose to refund the tax directly to your customers. This only applies if nexus is determined not to exist or if the product or service is not subject to sales tax. If you have collected sales tax, but have not remitted it the jurisdiction, this needs to be corrected quickly. It is illegal to collect sales tax without filing it to a state or jurisdiction, and forgoing returning it is a criminal offense.
If you have not yet collected sales tax when you were obligated, there is generally an option to go back to your customers and request it. However, this can be time-consuming, and also might not be the best option from a customer relationship perspective. Furthermore, you could find that some of your customers are out of business or otherwise no longer available for you to contact them directly.
A voluntary disclosure agreement is a common option for mitigating prior sales tax exposure.
Most states have formal programs to allow non-registered taxpayers to disclose their sales tax liability in exchange for a limited look-back period and penalty relief, this is called a voluntary disclosure agreement or VDA. States will typically look back no more than three to four years if an agreement is in place. This can save your company a great deal of money. Though it is not the right answer for everyone and some businesses will not qualify.
The qualifications for participating in a state VDA program are many. First, the company should not be registered with the state sales tax authority. Second, the company must not be under a current audit of its sales and use tax. Next, the state should not have contacted the company regarding its obligations to the state, though in a few states, disclosure agreements can be made by registered taxpayers, which is not typical.
In limited cases, states could offer amnesty programs. These programs have a short lifespan, usually around three months, and are generally open to current registered taxpayers.
When your company takes a serious look at its sales tax obligations and spots a problem, there is no reason to panic. Contacting TaxConnex for help should be your next step. We can determine the right mitigation option for your business and assist in executing a voluntary disclosure agreement or amnesty program.
When it comes to sales tax, ignorance of the law is not enough to avoid your obligations. TaxConnex can help your company correct previous non-compliance and in the right situations, execute a voluntary disclosure agreement. While you will still owe a portion of your sales tax due, you will avoid the punitive charges that can occur if your company faces an audit.
TaxConnex can help your business ensure that it is in full compliance with all state sales tax laws. Understanding the nexus requirements for each state in which you do business is a must. We can walk you through determining your sales tax obligation and create a process, in which we can help you manage, and correctly file and pay your state sales tax obligations going forward.
Contact us, and we will thoroughly examine your situation and help you decide whether a VDA is right for your business.