State sales tax rules can surprise businesses that sell into the U.S. While treaties between the U.S. and a business’s native country make federal tax laws fairly straightforward, taxes on the sale of products and services can vary widely among jurisdictions. Not every state imposes sales taxes, and those that do are not reliably uniform or predictable when it comes to defining who is taxed, what is taxable or how taxes are collected.
“Many non-U.S. businesses are aware of value-added tax (VAT) obligations,” says Jaspal Dhillon, VAT Director at Lubbock Fine Chartered Accountants in London. He and colleague Steven G. Horn, an international-tax partner at Williams Benator & Libby, LLP in Atlanta, recently led a presentation on VAT and U.S. sales tax issues at the Russell Bedford International Tax Conference in Nice, France. Dhillon pointed out that international companies familiar with the VAT system may find the U.S. state and federal sales tax system confusing. “Businesses that enter the U.S. market often need help navigating additional complexity caused by the various rules that apply as their operations cross into each new state and municipality,” says Dhillon.
50 States, More Than 50 Systems
As of January 1, 2019, 45 states impose some kind of sales tax. According to the Tax Policy Center, general rates in those states run from a low of 2.9% in Colorado up to 7.25% in California. Many municipalities within these states assess sales tax as well, pushing rates even higher. These taxes typically apply to sales of tangible personal property to state residents, but more states are taxing sales of services to raise additional revenue.
States vary widely in how they administer their sales taxes. In some states, the tax is applied and collected at a local level, with cities or counties managing the collection process. But in most states, the collection is managed centrally, at the state level. States place the responsibility for collecting and remitting taxes on sellers doing business in the state. The obligation resembles the trust-fund system for withholding taxes on employees — sellers can be held liable for sales taxes that are not paid to the state, as well as applicable penalties and interest on outstanding balances.
Nexus — The Connection That Triggers an Obligation
Sellers become obligated to collect and remit sales taxes when they have enough activity in a state to establish a connection known as “nexus.” Historically, this threshold was crossed when a seller established a “physical presence” in a state. According to Horn, activities that could establish a presence have become less and less substantial in recent years.
“For example,” Horn says, “visits by salespeople, locations of servers for an internet seller, or acceptance of returns by a third party in a state could trigger an unexpected sales tax obligation for a remote seller.”
The U.S. Supreme Court ruling in the Wayfair case in 2018 supported an expansion of sales tax jurisdiction based on “economic nexus,” a concept that lets a state require businesses to collect and remit sales taxes even if a business has no physical presence in the state. Many states that impose sales taxes have taken steps to expand their laws to recognize economic nexus when remote sellers cross a statutory threshold based on number of sales or total dollar volume of transactions.
“You guessed it,” Horn says. “These thresholds vary from state to state, which just compounds the confusion and potential for error when businesses outside the U.S. start selling products or services into the country.”
Exemptions — Not Every Product Is Taxable in Every State
Sales tax exemption rules present another area of inconsistency and complexity among states. Many states carve out broad product-based exemptions for classes of consumer goods, such as food, prescription drugs, and nonprescription drugs. A product that is subject to sales tax in one state could easily be exempt in others. In addition, most states permit some type of tax exemption on sales to resellers or manufacturers. The goal of these exemptions is to place the sales tax liability with the final consumer of the product, not with those involved in its manufacturing or distribution. States typically require the seller to collect and retain an exemption certificate from any buyer that would otherwise be subject to sales tax. This differs fundamentally from the VAT system, explains VAT expert Dhillon, where tax is assessed at every stage along the supply chain, requiring each participant other than the end consumer to recover the VAT charged to them.
Get Help from Sales Tax Compliance Specialists
Dhillon and Horn agree that non-U.S. businesses entering domestic markets put themselves at risk if they tackle tricky state sales tax compliance on their own.
“The sales tax landscape has changed significantly, and it may continue to do so,” Horn warns. “If your business is selling products or services into the U.S., or considering expanding into the U.S. market, it’s important to talk with a consultant that focuses on these issues.”
For more information about how state sales taxes could affect your business’s operations in the U.S., please contact Williams Benator & Libby, LLP.
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Jaspal Dhillon is the VAT Director at Lubbock Fine Chartered Accountants, where he advises clients on VAT related to real estate, the international supply of goods and services, and a variety of other industry-specific issues. He previously worked for mid-tier and Big Four accounting firms and trained as a VAT inspector at Her Majesty’s Customs & Excise. Lubbock Fine is a member of Russell Bedford International, a global network of international accounting, tax and business consulting firms.
Steven G. Horn is a tax partner-in-charge of the Tax Planning and Compliance department and leads the International Practice at Williams Benator & Libby, LLP. He serves on the board of directors of Russell Bedford International. He is the author of the firm’s tax planning updates and previously served on the editorial advisory board of the Harcourt Brace publication, CPA Internet Connection. Steve is also a frequent lecturer and guest speaker at universities, international conferences and professional associations.