Small businesses that expand to e-commerce may not realize they’re responsible for sales tax nexus. Traditionally, tax nexus related to a company’s physical presence. It became relevant to business owners setting up a factory, warehouse, or office in states where they previously had no physical presence. This shift triggers new sales tax obligations that your business will need to evaluate in each state where you now operate.
E-commerce organizations also need to be familiar with sales tax nexus. This guide will introduce you to the concept and give you fundamental details you need to meet your tax obligations. Read on to learn about nexus, whether or not you need to collect, and how to remit it.
What is sales tax nexus?
Sales tax nexus is the presence your business has in a state that creates an obligation to pay sales tax to that state. It’s a threshold, essentially, that triggers your tax responsibilities. Once you meet the threshold, you’re required to register your business with the state, collect sales tax from customers, and remit taxes to the state government.
Sales tax nexus changed slightly as the result of a 2018 Supreme Court case, South Dakota vs. Wayfair. The case determined that out-of-state retailers that lacked a physical presence in the state had to collect and remit sales tax if the retailer reached $100,000 in sales or 200 transactions delivered into South Dakota in the previous year.
Since then, the specific thresholds vary by state. Onshoring, e-commerce, and rapid expansion into new states are all business activities that can trigger nexus and create sales tax obligations you didn't have before.
Physical vs. economic nexus
Physical nexus is a requirement that’s been around for decades. Physical nexus is recognized in all states with sales tax. It’s based on having a tangible presence in a state, such as:
- A brick-and-mortar location (office, store, warehouse).
- Employees working in the state.
- Inventory stored there (including at third-party warehouses).
- Property or equipment you own or lease.
- Sales representatives or independent contractors working remotely.
Economic nexus was determined in the 2018 Supreme Court decision. Regardless of your physical presence, you establish an economic nexus when you exceed a state's threshold, typically $100,000 in annual sales to customers in that state or 200 transactions per year (although this varies by state).
Economic nexus is determined by your revenue volume, not your physical footprint. For instance, an online retailer in California with no offices elsewhere can still trigger economic nexus in Texas by selling enough to Texas customers.
If you’re still unsure whether you have physical or economic nexus, answer these questions:
- Does your business have a location, warehouse or other physical presence in a state?
- Are there employees, contractors, salespeople, or other people working for you in a state?
- Are you storing any products in a state?
- Will you cross state lines to sell products at a tradeshow, craft fair, or other event?
- Do your qualifying sales or transactions exceed the state’s economic nexus threshold?
If the answer to any of these is yes, there’s a good chance you have to pay sales tax in the state.
State thresholds and marketplace rules for sales tax nexus
The Sales Tax Institute publishes and updates a table with the sales tax nexus rules by state. It tells you the threshold, includable sales (e.g., gross, retail, or taxable), when to register once you exceed the threshold, and more.
Physical presence and sales volume are the main triggers, but other business activities can create sales tax obligations too. “Some states have affiliate nexus laws, which create a sales tax obligation for businesses that have a relationship with an affiliate or subsidiary in the state,” wrote Stripe. “This can occur when a business has a common owner, branding, or other connection with an affiliate or subsidiary in the state.”
There are also rules known as “click-through nexus relationships,” which create sales tax obligations if you work with referral agents or third-party sellers. For instance, if you pay a commission to someone in another state for sales made through their marketing efforts, you may be responsible for sales tax in that state.
If you’re not sure if any of these rules apply to you, consult with a tax advisor about your specific situation.
Sales tax nexus is the presence your business has in a state that creates an obligation to pay sales tax to that state. It’s a threshold, essentially, that triggers your tax responsibilities.
How to register to collect sales tax
Before you can collect sales tax, you have to register for a sales tax permit. Register for a permit after you have met the nexus threshold. Each state has a slightly different process for registering, but you’ll typically follow these steps:
- Gather your EIN and other key business information.
- Find the state’s Department of Revenue website.
- Look for the “Sales and Use Tax” section on the website.
- Register your business by following the online prompts.
You can also find each state’s website for sales tax registration on TaxJar’s website.
The consequences for not collecting sales tax can be steep. “If you should have collected sales tax from your customers but failed to, you’ll have to pay past-due sales tax out of your own pocket with interest and penalties that average 30% of the amount of sales tax due,” wrote Stripe.
Make sure you register for a sales tax permit as soon as you reach nexus to avoid these risks.
[Read more: Sales Tax Collection and Payment Requirements]
Filing returns and payment schedules
Sales tax returns also vary by state, as well as by your sales volume. Make sure you’re clear on each individual state’s requirements to stay compliant.
“Visit the website for each state's agency responsible for the administration of sales taxes for details on how to file, and perhaps more importantly, when to file. The deadlines will vary from state to state, and the frequency with which you file will also vary significantly based on your location and your tax liability,” wrote Stripe.
These payment schedules change over time, so make sure you monitor the rules for your states frequently. Set up a record-keeping system to help you track sales, tax collected, and exemptions. Provide training to your team to make sure everyone is clear on the documentation process for each state.
[Read more: Ready. Set. Scale. Smart Tax Tips for a Stress-Free Filing]
Sales tax software can make it easier to keep track of filing deadlines, requirements, and taxable amounts. QuickBooks, Avalara, TaxJar, and Stripe are a few vendors that can help you manage your sales tax reporting requirements. Look for a tool with a free trial to make sure it fits your needs before signing up for a full subscription.
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