Since the introduction of the internet, businesses have been selling items online. When it comes to taxes, though, most online sellers didn’t pay sales taxes because state-based sales tax laws hadn’t caught up with the changing times.
In recent years, several laws have given states more power to collect these internet sales taxes. This article will discuss recent laws relating to internet sales, what the current laws mean for online sellers, and how to get help when you need it.
- Recent Supreme Court decisions have upheld laws that allow states to require some out-of-state sellers to collect and pay sales tax on internet sales.
- Most state internet sales tax laws have an annual minimum below which out-of-state sellers don’t have to deal with internet sales tax.
- Online sellers must figure out a way to comply with the over 12,000 state and local sales tax jurisdictions in the U.S, all of which have different rates and tax bases.
- Online sales tax services can help online sellers navigate this complex regulatory landscape.
South Dakota v. Wayfair Inc.
In June 2018, the Supreme Court published a decision in the case of South Dakota v. Wayfair, Inc. (Wayfair) that changed the way states regulate internet sales taxes. South Dakota filed a suit because, as there was no required sales tax for out-of-state companies, the state lost between $48 and $58 million each year because they couldn’t collect internet sales taxes. The ruling upheld a South Dakota law that required out-of-state sellers to collect and pay sales tax “as if the seller had a physical presence in the state.”
This decision gave other states a way to enact similar laws requiring online sellers to collect and pay sales taxes on internet sales, even if they did not reside in that state.
The 2018 decision overturned several previous Supreme Court decisions, most recently Quill Corp. v. North Dakota. In that case, the state of North Dakota filed an action against the Quill Corporation—an out-of-state mail-order office equipment retailer—to charge North Dakota use tax on the merchandise being used within the state. The court ruled in favor of the Quill company, deeming the state's use tax to be unconstitutional because it interfered with interstate commerce.
What the Law Means for You
At issue in these cases is the concept of connection between a taxing entity such as a state and the business being taxed, called a tax nexus. Before the Internet, that connection was physical, because all businesses had a physical location (a building, warehouse, retail store, etc.). In the case of Quill, the concept of physical presence was upheld, but in Wayfair, the Court took away the physical presence requirement for online transactions.
Physical presence is still considered first in determining sales tax nexus. For example, a business with no physical location in Illinois that isn’t selling online can’t be required to deal with Illinois sales tax.
In the years after the Quill decision, many states enacted new laws to try to get around the physical nexus rule. In fact, at the time of the Wayfair decision, 31 states had some version of an internet sales tax law. Since this decision, more and more states are updating or enacting internet sales tax laws.
Complying With Internet Sales Tax Laws
As an online seller, you must figure out a way to charge customers the correct amount of sales tax, add the amount to your accounting system, and report and pay the amounts to your state taxing agency.
Familiarize Yourself with Internet Sales Tax Laws
The first step is to understand how the state laws work and to see if your small business must pay these taxes.
Sales taxes are complex, with many taxing entities. Forty-five states and the District of Columbia collect sales taxes, while local sales taxes are collected in 38 states. Five states—Alaska, Delaware, New Hampshire, Montana, and Oregon—have no state sales tax but Alaska allows localities to charge local sales taxes.
States have annual thresholds below which a business may avoid paying sales taxes on its online transactions. South Dakota, for example, exempts sellers for a year if they deliver less than $100,000 of goods and services into the state or have fewer than 200 separate transactions. Typically, your state’s Department of Revenue is a good place to look for the threshold and other taxation policies.
Sales Tax Base and Rates
To charge sales tax—internet or physical—to a customer, you must know the sales tax base and rates.
The sales tax base is the products or services that are taxable in your state. Some states exempt necessities like groceries from sales tax, and other states exempt clothing or tax it at a lower rate. Most other products are taxable, and states may also tax certain services.
The internet sales tax rates are the same as the rates for in-state sales. For example, if you sell something to a customer in Los Angeles, California, the sales tax rate for both in-state sales or internet sales is 9.5%.
The Sales Tax Process
To collect, report, and pay sales taxes for internet transactions appropriately, you need to do the following steps:
- Register with one or more states to get a sales tax account
- Collect sales tax for each taxable customer transaction, based on the tax rate for the location
- Add the sales tax amount from each transaction to your accounting system
- Report and pay sales taxes collected to each state when required
As mentioned, each state has its own requirements for the process. Florida, for example, requires sellers to report gross sales, exempt sales, the taxable amount, and the tax due. The report is due on the first of each month for the previous month, along with the total tax due for the month.
Sales tax is a trust fund tax, meaning you are collecting it on behalf of a state, in trust that you will pay the state the money when it is due. Make sure you keep sales tax funds separate from customer payments and other amounts due.
State Sales Tax Registration
When it comes to registering in specific states, the process can be complicated. You have no way of knowing where your internet sales will come from or if you will go over the threshold in any state, so you may need to register in every state.
You can simplify the registration process by registering with the Streamlined Sales Tax Governing Board, Inc. (SSTI). This organization administers an agreement between 24 states for uniformity of sales tax systems. However, among the states that don’t participate are six of the largest: California, Florida, Texas, New York, Illinois, and Pennsylvania.
Through the SSTI, you can use the free registration process (SSTRS) to set up an account and report and pay sales taxes directly to each participating state. You will also need to register with SSTRS if you want to contract with one of their Certified Service Providers (CSPs). If you want to register with a state that isn’t an SST member, you will have to register with that state separately.
Consider Using an Online Sales Tax Service
Your business can use an online service to register with states and manage your sales tax collections, reports, and payments too. Some of these services are also CSPs for Streamlined Sales Tax, including Avalara, TaxCloud, Sovos, and Accurate Tax.
Look for integration with companies like Amazon, Etsy, and Ebay, and the ability to manage international sales taxes if you want to sell overseas. In all cases, be sure to try out the company’s support services before you sign up.
If you are thoroughly confused and want to make sure you comply with all internet sales tax laws, you can consult an attorney or certified public accountant who specializes in sales tax issues.
Frequently Asked Questions (FAQs)
How much does it cost to register for and use an online sales tax service?
The fee to register for state sales tax varies from $0 (most states) up to $100, but a state may charge additional state registration fees. Some online services charge you to register for each state; Avalara, for example, charges $349 per location. Also, pricing for sales tax services varies based on volume and features.
How much can you sell online before paying sales taxes?
States with internet sales taxes have minimum amounts (called thresholds) that online sellers can sell without complying with their internet sales tax laws. States set thresholds for remote sellers by looking at a minimum of sales and a minimum number of transactions.
What is a sales tax exemption?
Some types of organizations are exempt from paying sales taxes. The federal government is an exempt organization, as are state and local governments and nonprofit organizations. Another type of sales tax exemption is for businesses that buy materials or products for resale purposes. The business must apply through their state for a permit, sometimes called a resale permit or reseller’s permit. If a customer shows you their exemption permit, you can’t charge them sales tax for their purchase. Check your state’s regulations for details.