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Sales Tax 101 for Small Business Owners and Online Retailers

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Updated: Monday, April 30, 2012 - 18:59
Created: Tuesday, February 21, 2012 - 08:40

Collecting sales tax is one of the most confusing aspects of transacting business – online and off!

In fact, questions about sales tax are among the most frequently asked on the SBA.gov Community “Filing and Paying Taxes” discussion thread.  Questions abound. When does sales tax apply? What transactions are exempt? What happens if you are selling online or to someone outside your sales tax jurisdiction?

Whether you’re starting a new business or expanding into e-commerce, here’s what you need to know about your sales tax obligations:

What is sales tax?

Sales tax is a retail point-of-purchase tax imposed by state and local governments that is paid by the purchaser for goods and services. As a small business owner, you are required to assess sales tax, collect it and pass it on to the appropriate authorities within the prescribed time. Sales tax rates and laws vary from state to state – which often leads to confusion, especially if you sell to customers in more than one state (more on this below).  Currently, Alaska, Delaware, Hawaii, Montana, New Hampshire and Oregon don’t impose general sales taxes at the state level. However, many localities in Alaska have their own local sales taxes. 

What is a sales tax permit and who needs one?

In order to collect sales tax, your state may require you to obtain a sales tax permit. You can find links to state tax resources from SBA here.

How do you process money collected as sales tax?

Generally, states require businesses to pay the sales taxes they collect quarterly or monthly. You’ll have to use a special tax return for sales taxes, and report all sales, taxable sales, exempt sales and amount of tax due. Not paying on time can result in penalties. As always, check with your state or local government about the process in your location. 

What types of transactions are exempt from sales tax?

While you should check with your individual state government as to which goods and services sold in your state are subject to sales tax (unfortunately, it varies a lot), generally you are not required to collect sales tax for the following transactions:

  • Resold items – Retailers and resellers don’t typically have to pay sales tax on wholesale purchases since it’s assumed that the end consumer will pay sales tax on these items at the point of purchase.
  • Raw materials – If you produce and sell goods that will be the raw material for other goods, these items are typically considered sales tax exempt.
  • Non-profits – Sales made to non-profits are exempt from sales tax.

If you are involved in these types of transactions, you’ll need to get a copy of the buyer’s tax-exempt certificate or number (issued by the state).

What if you sell to customers in different states?

This is a complicated gray area of sales tax law. What happens when your customers are located in other states – a common scenario for e-commerce and online business owners? Whose rules do you follow? Should you charge sales tax?

Here’s what you need to know:

  • If your business has a physical presence in a state (also known as a “nexus”), whether it’s a store, office, warehouse, employees, or other criteria established by your state, then you MUST collect sales tax from customers in that state.
  • If you don’t have a presence in a state, then you are NOT required to collect sales taxes.

As mentioned above, each state defines “nexus” differently; however, any bricks and mortar footprint in that state, such as an office or warehouse, will affirm that a nexus exists and sales tax must be collected.

What sales tax rate should you use when selling online or out-of-state?

This is the tricky part. If you’ve determined that your business must add on a sales tax charge for transactions in certain states (and the customer does not have tax exempt status), you’ll need to determine which sales tax rate to charge.

Sound overwhelming? Yes, it can be. With thousands of sales tax jurisdictions in the U.S., determining which sales tax rate to charge can be a challenge. If you operate an online business, it’s worth investing in online shopping cart services to handle sales transactions, many of which will automatically calculate sales tax rates for you. More comprehensive online sales tax solutions can also take care of the end-to-end process of calculating, collecting and filing sales tax return on your behalf. This blog from SBA guest blogger TJ McCue explains more about these options: Ecommerce Sales - Stop Customers from Abandoning Your Shopping Cart.

Got more questions? Consult a small business tax advisor or post them on the SBA.gov Community Discussion Boards.

 

Type: Community Blog