Why Sales Tax Is So $&!@ing Taxing
I know, I know, I did this to you last spring, too! But it’s not my fault that Tax Day happens each year around this time and makes posts like this relevant. Trust me, I had no say in the matter.
If most of us had our say, taxes wouldn’t be an issue we dealt with at all, especially when it comes to sales tax. Why? Well, for one, because we often like to hold on to our money. Sales tax is an especially tough one to avoid, unless you live in one of the five U.S. states that don’t impose a sales tax or you do all of your shopping online (and even that’s not a guarantee—more on that later).
If you’re a middleman between a manufacturer and a customer, there might be tax implications for you…
But there’s another reason that people hate talking about sales tax, and it’s a reason that resonates with business owners as well as consumers: sales tax can be a pain to figure out. Seriously, did you know that there are three different kinds of sales tax, and not every state uses the same one? And did you ever wonder what happens in an industry like the promotional product industry, where products move from a supplier to a distributor—from business to business—before they ever reach the end consumer?
Well, get ready to learn! Keep in mind that what follows is not actual legal advice. We here at QLP are not accountants, attorneys, or anything other than a bunch of Internet-happy nerds out to start a discussion. But whether you’re an entrepreneur who wants to do business the right way or a consumer who’s curious about where your money goes, you’re about to get a primer on the wild and wooly world of sales tax.
Yeah, you can totally grab a coffee. I’ll wait.
All of the Definitions
In the middle of all of that stimulating talk of sales tax, there was probably one part that made you scratch your head a little bit: the part about there being three different kinds.
“The heck?” you might have said. “What do you mean I pay three different sales taxes? Gimme my money!”
Don’t worry. For starters, I don’t have your money. Additionally, it’s not that you, as a consumer, are paying three different kinds of sales tax when you go to the store (unless you buy an item like cigarettes, which lawmakers often heap additional taxes onto). Instead, U.S. tax law allows state governments to collect taxes on retail sales three different ways, hence, the three different kinds of tax.
So what are the three different kinds of sales tax? So glad you asked:
- Vendor Privilege Tax. The idea here is that being able to sell goods is a privilege for a business, and that privilege (and the business) is being taxed. However! Retail businesses can either absorb the tax themselves or pass them along to customers, to be paid at the time of purchase
- Consumer Excise Tax. The idea here is that buying goods is a privilege, so the consumer is shouldering the responsibility for paying the tax on a retail transaction. Sad to say, retail businesses can’t absorb this form of sales tax. The buyer has to pay! This is the most common form of sales tax across the U.S.
- Retail Transaction Tax. The idea here is one of a big ol’ chain reaction. The end consumer is paying the tax, but the government then taxes the business, so the retail business is a huge middle man. This looks just like a consumer excise tax to the average buyer, who still has to cough up money.
There are benefits to each kind of tax. A state with a vendor privilege tax where the businesses themselves choose to pay the tax can look like a mighty nice place for a consumer to go on a spending spree. Meanwhile, a state with a consumer excise tax, where the customers are paying the tax, can look like quite the business-friendly place for a retailer to set up shop.
Whatever the advantage, it’s the state law that determines which system is used. And according to U.S. tax law, the state where the goods are delivered to a customer is the state that gets the tax paid to it.
This is all fine and good for brick and mortar stores. The store is located in a state; that state is the one that collects the sales tax.
What about online sellers, like your very own Quality Logo Products®? When customers live in different states from the company that’s selling them the goods, how does that online seller know which tax system is in place and what to charge?
Wow, you’re just a glutton for punishment, aren’t you?
The Obstacles of Online Selling
If you’re at all into tax law (and who isn’t?), then you’ve probably heard of a 1992 U.S. Supreme Court case called Quill Corp. v. North Dakota.
Quill is the case that said that, in order for a state to collect sales tax from a business, that business has to have a physical presence, or nexus, within that state’s borders. Quill is the reason that, until recent legal changes, residents of states like Illinois didn’t have to pay sales tax when shopping on Amazon.com. Without a physical distribution center or anything like that located in Illinois, Amazon wasn’t subjected to Illinois sales taxes.
Of course, there is a concept called use tax. Use tax is defined as
a tax that’s placed on retail goods in states where a sales tax hasn’t been charged, or when a consumer buys a product from a seller in a state with a lower sales tax rate than the consumer’s home state
As Daniel Petri, Esq., an attorney with the Tax Defense Network, says, “Use tax will normally apply in the place of sales tax when the purchaser is buying a good from another state which will be used in the purchaser’s home state (as opposed to the state of the seller).” Ugh! At least, for the sake of the seller, the responsibility for paying use tax usually falls on the buyer.
When products move from business to business before they ever reach the consumer, who pays tax?
All of this, of course, is changing thanks to proposed legislation like the Marketplace Fairness Act, which goes beyond the scope of this post. For now, the concept of the nexus, or hub of business, still influences how sales tax is applied. And if a retailer has a nexus in the same state as its customer, then that retailer is collecting tax from that customer.
Which leads us to the next logical question: what constitutes a nexus? Why, darn near anything can qualify as an extension of a seller’s business, including:
- Leasing a warehouse in another state
- Having a telecommuting employee work from another state
- Contracting with a manufacturer in another state
That last point is where it gets really tricky, especially if you’re in the promotional products industry. As you may or may not know, QLP is a distributor. We contract with suppliers and manufacturers to get the products our customers order.
The research I did for this post admittedly gets a little fuzzy; as I declared above, I, just like the other people here at QLP, am not a tax professional. But here’s the takeaway from what I learned: if you’re a business owner and, like a promotional products distributor, are a middleman between a manufacturer and a customer, there might be tax implications for you if your manufacturer and your customer are in the same state. Remember: it’s all about the nexus, baby! Well, and about the benjamins, too. That’ll never change.
Luckily, online business owners do have some avenues of recourse available to make sure they’re not being unfairly taxed in such a situation. You might, for example, want to look into something called a multijurisdictional resale certificate, which can help you deal with tax obligations for states in which your suppliers are located but you aren’t.
Or, even better, you can always get a checkup with a tax professional. That’s the far safer course of action. Heck, it’s what I did, and I’m just writing a blog post.
Handling Sales Tax Like a Pro
“No matter where you sell your products, neglecting to handle your taxes properly can create substantial problems for your business,” says Daniel Petri, Esq. He isn’t kidding. You’ve seen Stranger than Fiction, right?
“If you’re selling to customers in other states, consider what sales tax obligations you may face.” – Tax Defense Network
Jonathan Barsade, CEO of Exactor, a company that helps businesses figure out their sales tax obligations, echoes this sentiment, starting with learning the distinctions among the three different types of sales tax. “Each of these taxes is imposed under different circumstances,” he explains. “We have seen situations where one applied one of the taxes instead of the other, resulting in the return being rejected, and fines and penalties imposed.
“It is even more critical for online retailers, who are often times sending their merchandise across state lines,” Barsade continues. “The distinction then gets confusing, because traditionally an out of state remote seller will typically file under the use tax category, however some states will classify the sale as a standard sales tax, applying use taxes to purchases only.”
So what can a bewildered seller do? Becky Korn, the social media analyst for Tax Defense Network, shared some helpful advice:
- Make sure you closely follow your state’s sales tax guidelines. These can vary greatly, depending on where you live in the country.
- If you’re selling to customers in other states, consider what sales tax obligations you may face.
- Think about investing in shopping cart software for your online business endeavors. This software can calculate associated sales tax with purchases made by customers around the country.
- You will benefit greatly from the services of a Certified Public Accountant, who can find any gaps in how you’re handling and paying sales tax.
In short, use this handy guide from QLP as a sign to point you on your way… and then make your way to the pros. Maybe grab some coffee on the way.
Has sales tax been a tricky point for your business? Customers, does knowing about sales tax affect your shopping decisions? Let us know in the comments below!