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November 12th, 2020

ELEVATE PERSPECTIVE

3 Key Questions About Sales Tax For Startups

By Eric Steele, Entrepreneur-in-Residence, Southwest Indiana

With so many steps involved in starting a new venture, it’s easy to put off looking into sales tax. However, waiting too long can create legal and financial liabilities that can significantly affect your business in the long term. Once you meet certain sales and location thresholds, you are required to collect and remit sales tax and you could be on the hook for paying the customers’ portion, even if you didn’t collect the tax from the customer in the first place. Regardless if states come knocking at your door, simply having the potential liability can jeopardize the future sale of your company or significantly affect valuation years down the road. Below are three questions to start thinking about as you launch your business or start to build a national sales footprint.
 

  1. Is my product taxable?
  2. While five states do not collect sales tax at all (Alaska, Delaware, Montana, New Hampshire and Oregon), most states impose tax on physical goods. As always there are numerous exceptions that vary by state, e.g. clothing and food, so it is important to always consult a professional. The taxation of services varies widely by State. Some States do not tax services at all, while others tax specific services such as the servicing and repair of tangible goods. Software as a Service (SaaS) often falls within its own category and is taxed in roughly half the States. SaaS taxability can even vary depending on whether the service is delivered to a business or consumer.

  3. What states do I pay?
  4. At a minimum, you will need to collect and remit sales tax in states that you have a physical presence. This typically included employees, warehouses, and possibly even advertising or business referrals within the state. However, in 2018 the Supreme Court ruling in South Dakota v. Wayfair introduced the widespread application of “economic nexus,” a concept where sales tax is owed if a business transacts a certain amount of business in a state, regardless of physical presence. This sales activity threshold is typically calculated as both a number of transactions (most commonly 200 per year) and a dollar amount (varies by state but some states start at as little as $100k per year). Once you surpass this threshold in a particular state you may start owing sales tax, even if you have no physical presence or employees there.

  5. How do I pay?
  6. Once you have concluded which states you will need to file sales tax in, you will need to register with each state individually. A note of caution, sales tax registration may trigger states to investigate months or even years prior to registration and levy tax retrospectively including penalty and interest on missing payments.With all of the rules that vary based on state, how are you supposed to keep track of what, if any, tax is owed on each individual sale? There are several third-party services such as Avalara and TaxJar that can help you keep track of everything. Not only do they help to file individual state returns each month, but they also have APIs available that will “look up” a specific item classification and return the appropriate tax rate given the tax rules in that particular state. Additionally, they keep track of the everchanging tax landscape regarding laws, classifications and rates, and make changes accordingly.

Sales tax can be a complicated topic and one that should warrant consulting a professional, but as an operator you should understand the basics of sales tax and how it can affect compliance as you launch and grow your business.

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