As an international company looking to enter the U.S. market or expand your existing U.S. operations, sales tax can be a time-consuming but necessary priority to address. 

The U.S. does not use a nation-wide VAT system. Instead, it uses a decentralized system allowing states to dictate their own sales tax requirements, which are charged to the final consumer of the product or service. 

Some rules are consistent between all 50 states, but many more rules vary, creating a large and complex matrix of tax requirements.

1.   Why U.S. Sales Tax Is Unique

Because the U.S. does not impose a national level sales tax, it is left to the fifty individual states and the thousands of municipal districts to regulate. This creates more than 10,000 different sets of tax rates and tax rules. For example, there is a state rate of 7.25% in California, while its counties and cities can tack-on additional sales tax resulting in rates as high as 10.50%.

Historically, a business’s physical presence in a state governed its sales tax obligation. Having an office, employee, or warehouse would trigger sales tax collection and reporting.

However, the policy changed in 2018 when the U.S. Supreme Court ruled that states could require businesses to collect sales tax without a physical presence in the taxing state. This so-called economic nexus allowed states to create rules that define minimum thresholds a company must meet to have a sales tax collection and reporting requirement. Typically, these rules are centered on the volume of transactions or a total dollar amount of sales threshold.

All Goods and Services Are Not Created Equal

Knowing whether you’re selling a taxable product is complicated. States define taxable goods and services differently. While some states may tax off-the-shelf software, others may exempt digitally delivered software or cloud-based software (i.e., software as a service or SaaS). Food and medications may be taxable in one state but not another.

The rise in popularity of digital products like music, streaming TV, and digital books creates another challenge for sales tax collection. Everything from the way states “define” groups of digital products to their taxability varies by state.

2.   Preparation and Prevention Are Critical

With states searching for revenue to fill budget voids, sales tax audits are a standard device used to uncover thousands or millions in uncollected sales tax. And resulting underpayment penalties can be equally severe. To avoid being hit with a massive tax assessment, thorough preparation is crucial.

Proper documentation of sales tax exemption certificates will ensure tax-exempt sales don’t become taxable. States define both what goods and services are free from sales tax and which types of organizations may not have to pay it. 

For organizations exempt from paying sales tax, like governmental entities and non-profits, an exemption certificate must be collected before a sale is complete. Managing this is an essential part of a robust tax compliance process.

3.   Avoid Overpayment of Sales Tax

Companies can overpay just as much as they can underpay sales tax. It’s not uncommon for a company with over $100 million in annual expenditures to overpay sales tax by $500,000. Whether it’s a fear of underpayment or a lack of understanding various laws, unnecessary overpayments reduce your profits. Fortunately, many states will allow you to recover these lost funds.

Don’t assume that your accountant, CFO, or CPA can keep up with the laws and changing thresholds and requirements. Strategizing early about your sales tax plan will save your company headaches and money in the end.

Actions you can take today:

• Understand your nexus exposure. Know where your company has employees, vendors, and sales.
• Get compliant. Explore a sales tax exemption certificate management software that is best for your business.
• Recover overpaid sales tax. If you think you’ve overpaid sales tax, consider hiring experts to calculate any refund you might be owed.

The experts at PMBA have decades of experience helping international businesses enter the U.S. market. Our dedicated team can help with nexus determination, registration, and ongoing compliance while also identifying state and local tax credits or incentives that your company may be eligible for. Get in touch with us today for a free consultation.   

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This #MemberInsights article was contributed by FACC Member PM Business Advisors (PMBA), a tax consulting firm providing State & Local Tax, Asset Recovery, and R&D Tax Credit services to businesses and CPA firms. Feel free to connect with PMBA in the Member Directory today in FACC-NY's new Member Portal.