Sales and Use Tax from the B2B Perspective
Disclaimer: The information in this article is not, nor is it intended to be, legal advice. It is imperative that any action you take be done on the advice of competent legal counsel, and not based solely upon this article.
Sales Tax Nexus
Every business knows that Sales Tax is the tax you charge a company in your state and/or local taxing jurisdiction when it buys your product or taxable service. But did you know, you could be responsible for collecting Sales Tax from customers in states other than your own?
In tax law, nexus describes a situation in which a business has a presence in a state and is, therefore, subject to collecting Sales Tax on sales within that state.
A business might have Sales Tax nexus in a state if it has:
- A physical location in the state -- including a warehouse or shipping facility.
- Employees working in that state, including outside sales reps.
- Property (including intangible property) in the state.
- Employees who regularly solicit business in the state (including telemarketers, even if their location is outside the nexus state).
If a business has nexus in a particular state, it is required to register with that state, and collect and remit Sales Tax in accordance with that state's rules, regulations, and rates.
Even if a product or service is not taxable in the seller's state, if that product or service is taxable in the buyer's state, the seller with nexus is responsible for collecting and paying the Sales Tax to the appropriate state/local taxing authority.
Use Tax is a type of excise tax. It is assessed on purchases made outside the company's state of residence for use in the state of residence.
Essentially, the purpose of the Use Tax is to compensate for a loophole in the sales taxing power of states.
As a general rule, a state's power to tax reaches only as far as its borders. This means that a state cannot impose its Sales Tax on sales made in other states. Because of this, the state's residents could easily avoid paying Sales Tax altogether by either physically crossing the border to an adjoining state to make a purchase or by making online purchases from companies located in other states. The Use Tax closes this loophole by requiring the buyer to pay a Use Tax on any purchase made outside its state of residence that would be taxable in its state of residence.
Use Tax, then, is a complement to Sales Tax. The Use Tax rate in any state is typically the same as the Sales Tax rate. For the most part, the Use Tax applies to the same categories of products and services as Sales Tax, and exemptions for Use Tax are the same as for Sales Tax.
Some differences between Sales and Use Taxes:
- The seller is responsible for collecting and remitting Sales Tax; the buyer is responsible for calculating and paying Use Taxes.
- Sales Tax is paid to the seller; Use Tax is paid to the state (or local) government.
- Sales Tax is assessed by the seller; Use Tax is self-assessed by the buyer.
- Sales Tax is paid to the seller at the time of sale; Use Tax is paid to the state government according to its requirements -- usually annually, biannually or quarterly.
Under what circumstances would the buyer be responsible for paying Use Tax?
When the buyer purchases a product or service from a state other than its state of residence it may be responsible for a Use Tax. This is most likely if the seller does not collect Sales Tax on the purchase -- indicating that the seller does not have nexus in the state where the sale was made.
In such cases, determining whether Use Tax comes into play is based on the rules of the buyer's state concerning allowable exemptions and the intended use of the purchased products.
Exemptions to Use Tax are generally the same as for Sales Tax within each jurisdiction. Common exemptions include:
- Purchases for resale
- Goods used directly in the production of other goods
- Raw materials used in manufacturing
- Purchase by the government, churches, schools, not-for-profit hospitals
Streamlined Sales and Use Tax Agreement (SSUTA)
(Information for this section is from the web site of the Streamlined Sales Tax Governing Board, Inc)
The SSUTA is the result of the cooperative effort of forty-four states, the District of Columbia, local governments and the business community. The purpose of the Agreement is to simplify Sales Tax in order to relieve the compliance burden and costs of sellers operating in multiple states. It also levels the playing field between local "brick and mortar" stores and remote sellers by ensuring that both operate under the same tax rules.
The SSUTA simplifies Sales Tax administration in a number of ways, some of which include:
- Subsidized start-up costs. To determine if some or all of your SSUTA start-up costs can be subsidized, contact www.SalesTaxSupport.com directly.
- Centralized electronic registration. It's possible to register with all SSUTA member states simultaneously on the Streamlined Sales Tax Governing Board, Inc web site.
- Uniform tax definitions.
- Consistent product definitions.
- Uniform electronic tax filing.
- Tax Rate simplification.
- Audit protection When you utilize a Certified Service Provider, that service provider is usually audited, rather than you.
- State funding of the administrative costs.
All of these benefits, however, apply in member states only. If a business sells in non-member states, those Use Tax liabilities have to be managed separately.
See Frequently Asked Questions on the Streamlined Sales Tax Governing Board, Inc web site to learn more about this Agreement.
To date, 24 states have passed the conforming legislation, including:
- South Dakota
- New Jersey
- North Carolina
- North Dakota
- West Virginia
- Rhode Island
Conforming legislation was recently introduced in California, Florida, Hawaii, Illinois, Maine, Massachusetts, Missouri, Texas, Virginia.
Sales and Use Tax and Online Sales
Sales or Use Taxes are currently required by many states on online (Internet) sales for both B2B and B2C businesses. Some states, such as New York, have a line on their income tax form where individuals are required to list online purchases on which they did not pay state Sales Tax. Other states may not require Sales Tax on Internet purchases.
However, according to a July 16, 2012 article in the ABC News Business Blog titled "Get Ready to Pay Online Sales Tax" online companies including Amazon and eBay may soon be required to charge their customers (generally consumers) Sales Tax:
"A price break for online shoppers may be ending soon, with growing support for Sales Taxes on purchases made on the internet. This means many online shoppers would pay at least 5 percent more than they do today. Republicans in Congress have joined Democrats to support a bill that would give states authority to force Amazon, eBay, and other online companies to collect Sales Taxes. Now, says The Wall Street Journal, Republican governors "eager for new revenue to ease budget strains, are dropping their longtime opposition to imposing Sales Taxes on online purchases." The Journal calls it 'a significant political shift' that could lead to a change in federal law. Brick-and-mortar retailers have long argued that they face an unfair price disadvantage. But the change amounts to a tax hike for many consumers."
Self Assessing Sales and Use Tax
As mentioned previously, if a business purchases products or services out-of-state, does not pay Sales Tax to the seller and their purchase is taxable in their own state, they are required to pay Use Taxes on those purchases.
In addition, purchasers can request their State allow them to assess all taxable purchases themselves and pay the states directly, rather than paying the seller any applicable Sales Tax.
To be able to self-assess User (sales) tax, a company must hold a Direct Pay Permit, which is provided by the State in which the company is located. The purchaser must provide a copy of the Direct Pay Permit (or any exemption certificate) to their vendor as proof that the vendor is not liable for Sales Tax on the purchases of the buyer and that the buyer is permitted to self-assess all Sales Tax payable and submit it to the state.
Why would a company choose to self-assess all of their Sales and Use Tax liabilities?
Large companies are most likely to choose to self-assess Sales and Use Tax liabilities. Two benefits of this decision are:
- Better control over Use Tax liability. Rather than relying on out of state vendors to determine when Sales Tax applies, the company makes this determination itself, preventing potential errors and overpayments.
- Improved cash flow management. With self-assessment, the company pays its Use Tax liability monthly, quarterly, biannually or even annually, rather than each time a taxable purchase is made. This frees up the Sales Tax funds for other uses until the tax liability is due.
Of course, there are also risks to choosing to self-assess all of your Sales and Use Tax liability. For instance:
- Audits. Taxing jurisdictions typically conduct regular audits on all direct pay permit holders.
- Additional Costs. Companies that self-assess will need to implement internal procedures to identify transactions that require Sales Tax. They may also have to invest in special software or a third party service to manage their Sales and Use Tax liability.
In the current climate of large state deficits, where the states are looking for every possible means of obtaining much-needed cash, Sales and Use Tax audits are becoming more frequent and aggressive. Compliance penalties are also becoming stiffer.
Because the auditors consider every sale taxable until proven otherwise, companies should have a good record retention system that not only saves essential records, but also makes them easy to find.
Some of the documentation you should be able to access for a Sales and Use Tax compliance audit include:
- Sales documents: which should be recorded when the order is taken: commercial and credit sales invoices, customer purchase orders, customer correspondence, bills of lading, freight invoices, shipping instructions, cash register receipts
- Purchase documents: in addition to the above, purchase orders, tax accrual records showing that the tax was either paid to the seller or accrued by the company and paid to the appropriate jurisdiction.
- Exemption and Direct Pay Permits
Sales and Use Tax Compliance
In the United States, there are more than 11,000 taxing authorities and the laws and tax rates within each are changing quickly. This makes Sales and Use Tax compliance a complex process. However, the risk of non-compliance in the current economy, makes it essential that every company doing business across state lines takes this issue seriously. Fortunately, there are software packages that can help you manage your Sales and Use Tax liabilities and specialist companies that can either help you set up a compliance program or take on this responsibility for you. Whatever you choose, don't make the mistake of not dealing with the issue. The result could be extremely costly.
Sources of Information on Sales and Use Taxes
- Sales Tax Revenue Departments, Olivier & Associates -- List of these departments in each U.S. state.
- SalesTaxSupport.com-- Free Sales Tax information website for small-medium business users
- Streamlined Sales Tax Governing Board, Inc.
- To Self-Pay or Not to Self-Pay, A&M Tax Advisor Weekly, Issue 4, January 31, 2012
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