The Top Myths About Sales Taxes

A Supreme Court decision complicates the issue even more

Mother and teenage son (15-17) looking at sticker on new car
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Sales taxes have become surprisingly complex over the years for both consumers and business owners. There once was a time when you walked into a retail establishment, made a purchase, and the tax was simply added on. Then came the internet and an explosion in interstate commerce. Was any sales tax due and to which state?

Consumers often physically cross state lines to buy things these as well. A lot of common myths and overall confusion exist about sales taxes as a result. Let's separate fact from fiction.

False: If You Buy a Car in a Tax-Free State, You Don’t Have to Pay Sales Tax

You'll have to pay a "use" tax—usually the same rate as the sales tax—in your home state when you register your new car.

False: Internet Purchases Are Not Subject to Sales Tax

This one is particularly complicated thanks to a changing legal landscape.

You might not actually be charged sales tax when you purchase an item online, but this doesn’t mean that you don’t owe it. Most online retailers only charge sales tax in certain states because of a federal legal concept called Nexus that only requires retailers to collect sales taxes in states where they have a "physical presence."

But consumers are technically supposed to report these purchases on their state income tax returns anyway and pay the sales taxes at that time. Several court cases over the years have attempted to address this issue and the Supreme Court took a decisive step in June 2018 in its South Dakota vs. Wayfair decision.

The Court ruled that states do have a right to collect sales taxes from online retailers even if the retailers do not have a physical presence in that state. Unfortunately, it fell short of offering any guidance as to how states could or should do that. Stand by.

False: Nonprofits Are Exempt From Sales Taxes

Nonprofit status provides an organization with an exemption from federal income taxes if it's properly applied for and approved by the IRS. Most states also recognize this exemption for state income taxes as well.

But many states do not exempt nonprofits for sales taxes. Nonprofits have to pay sales taxes on their purchases and charge sales taxes on items they sell in most states. Some states allow nonprofits such as charities to apply for a special exemption, but these exemptions usually only cover purchases that the organization makes for use in their tax-exempt purpose.

False: Leases Are Not Taxable Sales

Most states consider leases of tangible personal property to be taxable events, although real estate leases, such as apartment rentals, are usually not subject to sales taxes. Hotel rooms generally are, however.

False: You Don't Have to Collect or Pay Sales Taxes If Your Business Is Online

You've historically been required to collect and remit sales taxes for any state where your business has Nexus or a physical presence, and your state and others might ramp up their rules regarding this loophole subsequent to the 2018 court decision. 

Not Necessarily: My Business Was Audited and No Errors Were Found So I'm Doing Everything Right

A sales tax audit is only meant to ensure that your business is collecting and remitting taxes correctly for your state. The primary objective is to make sure you're not underpaying. 

But you might be overpaying and overcharging your customers, and the auditor might not find this because he's not looking for it. He also might simply not tell you. An auditor in one state also won't be able to tell you if you're subject to sales taxes in another state. That's beyond the scope of his audit.

It Depends: You Have to Collect Sales Taxes on All Sales in a State Where Your Business Is Located

Most states have a destination-based sales tax, which means that a sale is considered to take place in the jurisdiction where the product is ultimately used—in other words, where it’s shipped to or picked up from. 

But a few states have an origin-based sales tax, which means that the sale is considered to take place at the location where it's completed, which would be the seller’s business location. 

If you're running a business in an "origin" state, all sales you make would be taxable in that state. But if you're running a business in a "destination" state, you would not collect sales taxes on sales that are shipped out-of-state.

You would also not collect sales taxes for the customer’s state unless you have a physical presence, at least not unless and until states begin to adopt the 2018 Supreme Court decision. This is one you'll want to keep an eye on to make sure you get it right. It will most likely be a state by state decision and the exact rules might vary by jurisdiction.