If your business sells a product or provides a service that is taxable, and if you are in a sales tax state, you will need to set up a process to collect and pay sales taxes and file sales tax returns periodically.
If your business is selling in Alaska, Delaware, Montana, New Hampshire, or Oregon, no sales tax is charged, so you don't have to worry about this process. Lucky you.
What's the Sales Tax Rate in My State?
This article by the Tax Foundation gives the state and average local sales tax rates for each state (2020).
The Complexity of Sales Tax
Sales taxes are, frankly, a mess. There are many taxing localities involved, each with its own tax rate and list of taxable products and services. If you have a tax presence (called a tax nexus) in different states, you may have to collect different taxes on different items. And if you sell online, trying to figure out if you have to collect sales tax from customers in many states becomes almost impossible to manage.
To help you sort this out, this article contains the steps and decisions you will need to go through in order to collect, report, and pay sales taxes on the products or services you sell. Here are the main steps in the process of preparing to collect, report, and pay sales taxes.
- Begin by determining whether you must collect sales taxes in a specific state (the tax nexus question).
- If you sell online, you will also need to check to see if you need to collect and pay sales tax on these online transactions in your state.
- Register with your state's taxing agency. If you sell in more than one state, you will need to register in each state. Your state will also have information on what products and services are taxable.
- Determine the sales tax rate or rates you must charge. It has been estimated that there are 11,000 tax collection entities in the U.S., so determining and collecting sales tax can be very complex.
- Set up your processes to collect sales tax from your customers. You might be selling online, at a retail store, or at outside venues like flea markets and events.
- Collect sales taxes from your customers.
- Gather your records for all your sales and the taxes through your business accounting system.
- Send reports to your state and, of course,
- Pay sales taxes you have collected to your state.
Determine Your Requirement to Collect Sales Taxes in a State or States
Your requirement as a business to collect sales taxes from your customers depends on these factors:
- If you are a taxable entity (called a tax nexus) in your state
- If the products or services you sell are taxable in that state
- If you sell online, you will need to look up the specific requirements for collecting sales taxes as an online seller in each state.
State Sales Tax Registration
After you have determined that you must collect sales tax in a specific state, go to the website of your state's taxing authority to register for your sales tax permit. The permit will allow you to collect, report, and pay sales taxes on taxable items. You will first need to have your Federal Employer ID Number and all of the information about your business and its owners. Most states allow online registration, so have all the information ready before you begin the process.
Sales Tax and Your Home Business
Just because you do business from home, that doesn't mean you're exempt from sales tax. If you have a landscaping business, craft business, antique selling business, or if you have taxable services or products, you'll need to register your business with your state and start collecting sales taxes.
Determine Which Products or Services are Taxable
Not all products and services are taxable in all states. More states are adding more products and services to the list of taxable items. In addition, states are trying to determine what is a service and what is a product. For example, if a CPA does business taxes, is that a service or a product? Different states answer this question in different ways.
The sales tax collection, reporting, and paying requirements are the same for all business types, including home-based businesses. States differ on what's taxable and the details of how to get a seller's certificate. Here's a list of all state taxing agencies.
Collecting Sales Taxes for Online Sales
If you have an online business, including an online auction business (like an Amazon seller or eBay seller), you may be wondering if you must collect sales tax for online transactions. The simple answer comes in two parts:
- You must charge sales tax if you sell online to customers who are located in your state. This hasn't changed.
- Your state may also require you to charge sales tax to customers outside your state (online sales).
A recent Supreme Court ruling puts the individual states in charge of online sales to customers located outside the state. The decision, called S. Dakota v. Wayfair, increased the ability of states to require internet sellers who sold a "significant quantity" of business within the state to charge sales tax and pay those taxes to the state.
Many of the states currently taxing online sales have an exemption for small sellers. This exemption typically doesn't requiring sales taxes for businesses that have less than $100,000 in annual sales or fewer than 200 transactions a year.
Determine the Sales Tax Rate to Collect
The sales tax process is complex because there are many localities (state and local) who have sales taxes, each has its own sales tax rate, and different ways of determining tax - origin-based or destination-based. Some states are origin-based (meaning the sales tax is charged from the seller's location) and other states are destination-based (the sales tax is charged from the buyer's location). Some states, like California, have both origin-based and destination-based sales tax localities.
The rate changes, depending on your location. If you are selling in multiple locations, you must include the correct sales tax for each location. For example, if you are selling products in several cities or counties within your state, the correct amount must be collected from each locality. This gets complex if you have many places where your products are being sold. If you are selling in several states, you must also program the correct amount for each location within each state.
If this makes your head spin, join the club. If you do business in several locations, within and between states, or you sell online, you might want to use an online sales tax service like TaxJar or Avalara.
Collect Sales Taxes from Customers
After you have received your sales tax permit, you can begin collecting sales tax from customers. You must show the tax amount separately, so the customer can see the amount of the tax; this typically isn't a problem, since most sales receipts are programmed to show the amounts. If you are selling online, your "shopping cart" page will show the sales tax calculation. You will need to program the computer for the applicable sales tax amount or amounts or start using the services of an online sales tax service.
Check on Sales Tax Exemptions
In some instances, the products you are selling may be exempt from sales taxes. Some products, like food and prescription medications, may be exempt from sales tax; check with your state if you think your products might be exempt.
You may also want to look into getting a sales tax certificate if you buy products for resale. The process of getting this exemption certificate and the requirements are different for each state, and it applies to
- Products purchased for resale and raw materials
- Some non-profits in some states
If someone wants to buy from you and says they are a "reseller" or that they are buying for "resale," they need to show you a valid reseller's permit. Make sure to keep a copy of this permit in case you are questioned by state sales tax agents.
Keep Records on Sales Taxes Collected
After you have collected the sales taxes, you must keep records of how much you have collected. These amounts go into the "Sales Tax Payable" liability account, in your accounting system. If you have an online accounting system, you can set up sales transactions to automatically post to this account.
Report Sales Tax Information to Your State
In addition to paying the state sales taxes you owe, you must also file periodic sales tax reports to your state department of revenue. Most states now give you the ability to pay and report sales taxes online.
Pay Sales Taxes to Your State
Check with your state to see when you must pay the sales taxes you've collected. The frequency of payment depends on the volume of your sales. In most states, you must pay monthly if you have a high volume of sales, but at least quarterly in almost every state. Be sure you pay on time to avoid fines and penalties for late payment.
Some states give a discount for prepayment of sales taxes. This is definitely something to look into if possible.
For more information, see this article with answers to common questions about sales taxes.