At some point, all ecommerce businesses have questions about collecting sales tax from online sales. Frankly, online sales tax is a mess and becoming more of a mess. Even with that, though, finding the correct answers to these questions is important, sometimes vital, to a company’s survival and success.
We have compiled a list of the most common questions we hear, along with the associated answers and links for additional reading. Let us know if you have additional questions so that we can update our list!
If you are in ecommerce, you have probably at least heard of the South Dakota v. Wayfair ruling in June 2018. This ruling allows states to tax ecommerce businesses who don’t have “physical presence” within their state. Basically, states are now deciding their own sales tax laws. Most states have taken advantage of this ruling, and are requiring businesses with a significant amount of sales within their state to collect and remit sales tax. The good thing is that if you collect it properly, it doesn’t come out of your pocket at all. You are really just passing on money to the state that they would have charged anyway if the customer had bought the item in that state.
Read more here.
It depends. In states where you have “physical presence” (company location, warehouses, employees, etc.), you will need to pay sales tax. For other states, it depends on your “economic activity” within that state. In more simple terms, if you have a lot of sales in a state (economic nexus), you may need to pay sales tax. But each state has differing rules.
In some states, economic nexus depends solely on amount of total sales. Others depend on amount of sales OR number of individual transactions in the state. And some look at both amount AND number of sales. You can see a chart of current sales tax thresholds by state here.
Sales tax nexus is when your company is required to pay sales in a specific state because of somehow being connected with that state. There are three main types of sales tax nexus that require you to pay sales tax:
- Physical nexus
- Economic nexus
- Click-through or affiliate nexus
To learn more about nexus, download our 10 Steps to Ensure Sales Tax Doesn’t Burn Down Your eCommerce Business. There’s a whole section in there about nexus. You can also watch our video What Online Sellers NEED to Know about Sales Tax Nexus.
After the South Dakota v. Wayfair ruling, economic nexus became important in the sales tax world. Economic nexus is the ability for states to tax businesses based on “economic activity”. Essentially, if you have a large amount of sales within a state, that state can require you to collect and pay sales tax. Not all states have economic nexus laws, but most of them do.
Read more about economic nexus here.
Economic nexus laws are constantly changing, but those changes are probably starting to slow down as more and more states pass these laws. Below is a map with the economic nexus laws by state. Find more detailed info here.
Yes. For example, if Amazon FBA has given you sales tax nexus in Washington, you will need to collect Washington sales tax on ALL other channels you sell on.
Remember this for ALL nexus rules. You need to consider sales across all channels in determining nexus. Then, you need to apply sales tax rules across all channels for any states in which you have nexus.
We made a couple videos going into more detail about this:
Yes, you will need to consider U.S. sales tax for any sales you have in the U.S. The U.S. has been known to seize inventory held in the U.S. for foreign-based companies that are not meeting sales tax obligations.
We’ve created some resources specific for non-US-based companies to help with this issue:
Our 5 Steps International Sellers Must Take BEFORE Applying for a Sales Tax Permit will tell you exactly what you need to do, including how to get an FEIN number from the IRS, what to consider when deciding where to register your business, how to get a bank account and mailing address, and other things you need to consider.
We have helped several of our customers get an FEIN number, and we created a video that is a Step-by-Step Guide to Get an FEIN for International Businesses.
Penalties vary by state. Keep in mind there are two penalties:
- Penalties for not filing on time
- Penalties for not paying on time.
Usually penalties increase the longer a business has not filed or paid, up to around 5-20% for each penalty. Penalties due to negligence, tax evasion, or fraud can get significant – up to 100% or $25,000+ (usually whichever is greater) in some states. Read more about the risks of not filing here.
And, by the way, since experiencing a loss of sales tax income from brick-and-mortar stores during the pandemic, many states are becoming more aggressive towards sellers. Don’t stick your sand on this one!
The answer is yes, in most states. Six states sued Amazon, resulting in Amazon being responsible to collect and remit sales tax in those states: Connecticut, Minnesota, New Jersey, Oklahoma, Pennsylvania, and Washington. Read more here about Amazon tax collection in these states. This has resulted in most states implementing Marketplace Facilitator Laws. This is because it is easier for the state to go after the big sellers, like Amazon, Etsy, Walmart, eBay, etc., than to go after the individual sellers. They still do, but these laws make things much easier for individual sellers, in general.
The only state with state-wide sales tax laws that does not have these laws in place is Missouri, and its laws are scheduled to go into effect January 1, 2023. There, you still have the responsibility to collect and remit sales tax based on nexus laws. You can setup your Amazon account to automatically collect sales tax. As your business’ nexus changes, keep in mind that you will need to adjust your sales tax settings accordingly.
Here are the general steps to setup Amazon to automatically collect sales tax:
- Login to Amazon Seller Central
- Go to settings > tax settings > View/Edit your Tax Collection and Shipping & Handling and Gift Wrap Obligations Settings
- Choose product tax codes
- Choose states in which you have nexus (you will need your sales tax registration numbers)
- Choose a custom sales tax rate (optional) – You can adjust the rate in states where out-of-state sellers have an option between a flat tax rate OR a sales tax rate based on the buyer’s address. The default rate is based on the buyer’s address
No, but you can setup your Shopify account to automatically collect sales tax. Keep in mind that as your business’ nexus changes, you will need to update your Shopify sales tax settings.
Here are the steps to setup your account:
- Login to Shopify admin
- Settings > Taxes > Tax rates
- Click Unites States
- In “Calculating taxes” section, turn on “Calculate taxes automatically”
- In “County, municipal, and state taxes” section, add a physical presence for all your nexus states. With nexus states based on non-physical-presence laws, enter any zip code for that state.
For more details from Shopify, click here.
Please note…do NOT just go into your Shopify settings and set it up to collect sales tax in every state if you haven’t already registered for permits. It is ILLEGAL to collect sales tax in a state if you don’t have sales tax permit for that state.
For more information on this and other things you MUST NOT DO when setting up your sales tax, watch our masterclass, The Uncomplicated Truth About Sales Tax. It is a comprehensive introduction to sales tax with the answers to many commonly asked questions, as well as providing guideposts to make sure your covering all your sales tax bases.
Journal entry for collecting sales tax:
|Sales Tax Liability||$xxx|
Journal entry for paying sales tax:
|Sales Tax Liability||$xxx|
If this feels confusing, we go into a lot more detail in our article Sales Tax Journal Entry, including the why’s and what’s and how’s.
Sales tax SHOULD NOT be on your profit and loss statement. It is not a cost to your business.
Rather, sales tax is a liability that you owe to the state. You should have a sales tax liability account that increases as you collect sales tax and decreases as you pay sales tax.
Sales tax is a liability owed to the state. You should not see sales tax on your profit and loss statement, as it is not an expense. It is not an added bonus from your sales, but rather a liability that you MUST pay.
Sales tax compliance is very complex in the ecommerce world. We highly recommend using sales tax automation software. At LedgerGurus we use Taxify and TaxJar, which are great software for small- to medium-sized businesses. We also use Avalara for our larger clients.
These automation software companies automatically connect with your sales channels to collect sales tax based on up-to-date nexus laws. They also can automatically file and pay sales tax on time.
We have a chart that compares and contrasts all 3 companies in our 10 Steps to Ensure Sales Tax Doesn’t Burn Down Your eCommerce Business guide.
Yes, we highly recommend connecting with a sales tax consultant or expert. There are three types of professionals that you should consider, depending on your situation:
- A SALT (state and local tax) consultant: a high-level sales tax individual who understands nexus laws, the implications, the risks involved in sales tax compliance, and can help you create a strategy. You should only need to meet with them occasionally for guidance. They are great to meet with if you are a little behind on getting compliant, becoming exposed to sales tax laws, and/or you have any circumstances that make your nexus unclear. If you need a list of people, LedgerGurus can recommend consultants we really like.
- Sales tax compliance accountant: If you aren’t using a sales tax automation software, this is someone who can stay on top of managing your filings (monthly, quarterly, or annually depending on your company size). You can often find someone like this at a local tax firm or at firms that specialize in sales tax. You can also hire someone in-house to manage this for you, but someone really needs to be on top of it. Make sure to calendar all your filing obligations and make sure it’s happening. We have a list of some people we like if you need a recommendation.
- eCommerce sales tax expert: This is a solution like LedgerGurus that can manage sales tax settings on your sales channels, integrate and manage sales tax software like Taxify or TaxJar, and has the compliance support to stay on top of all your sales tax compliance needs. If you have nexus in more than five states and need your sales tax compliance to be more scalable, we highly recommend an ecommerce sales tax expert.
We have a blog in which we talk about many of the things you should consider when outsourcing, as well as various options, depending on what level of support you’re looking for. Also, if you’d like some clarity about where you are on your sales tax journey and what the next best move is, take our sales tax maturity assessment.