Over the last year, most US states have revised their sales tax rules. This means that UK-based businesses selling products or services into the US may have had different sales tax responsibilities since late 2018. The changes all stem from the US Supreme Court’s decision in South Dakota v Wayfair.
Online sales have taken off dramatically over the last decade in the US. To combat their perceived loss of sales tax revenue, many states, including South Dakota, decided to change their laws several years ago so they could tax these types of sales. Wayfair, a large online-only furniture retailer, challenged South Dakota’s law. This case made it all the way to the US Supreme Court in 2018.
In the Wayfair decision, the US Supreme Court overturned its prior 1992 ruling in Quill Corp. v North Dakota, which held that sellers must have a physical presence (nexus) in a state before it could require them to collect that state’s sales tax. In the wake of the Wayfair decision in June 2018, a business no longer needs to have a physical presence before a state can make it collect sales tax on the goods and services it sells.
A reminder on US sales tax
Like VAT, sales tax applies to sales rather than profits. Each US state imposes its own set of sales tax laws that businesses must follow if they have nexus in the state. 45 of the 50 states, together with the District of Columbia, impose a sales tax, and each state determines its own rates and what transactions are subject to tax.
For example, the taxation of software and digital goods varies widely from state to state: Florida does not tax electronically delivered software or software as a service (SaaS), but Washington state taxes many types of digital transactions.
For sales tax purposes, taxable transactions include both business-to-business and business-to-consumer transactions, but only the transaction with the end user is subject to tax. So if a manufacturer sells a product to a distributor, the distributor sells to a retailer, and the retailer sells to the end consumer, only the last sale between the retailer and the end user is subject to tax. However, the intermediate transactions may have requirements to provide documentation that the sales are exempt (exemption certificates) if the parties have nexus in the states to which the sales were made.
Needless to say, this is a lot to keep up with, especially for foreign businesses without a robust US-based accounting team.
Wayfair triggers state economic nexus laws across the US
The impetus for the Wayfair decision was a South Dakota law that asserted sales tax nexus over any seller with either $100,000 or more of annual in-state sales, or at least 200 transactions to in-state purchasers annually — even if the seller had no physical presence there (a so-called remote seller). It is widely believed that an economic nexus standard similar to South Dakota’s will be enforceable across all states because the Court suggested that it was not overly burdensome to remote sellers, including small businesses.
In response, more than 40 states have since enacted economic nexus laws that are similar to South Dakota’s, and the remaining states with a sales tax are expected to add them in the near future. The effective dates of these laws vary, but many are already in force. Notably, the populous states of California, Texas and New York all have imposed economic nexus laws, so remote sellers shipping products or providing services into these states must beware.
Businesses should evaluate their operations
In the past, UK businesses only needed to consider their sales tax responsibilities in the states where they had a physical presence, either directly or through a US subsidiary. Now, it is important for them to evaluate all US activity in light of this change.
Consider your next steps:
- Review your sales transaction activity. Each state sets its own thresholds and enforcement dates or lack thereof, which means that you will have to get up to speed with a variety of different thresholds simultaneously.
- For states where the threshold is exceeded, make a business decision regarding registration and collection. The cost of compliance may exceed the amount of potential tax exposure.
- Review your company’s historical footprint before registering. Upon a review of states’ new Wayfair nexus standards, many companies discover that they had physical presence nexus in one or more of those states in the past. Knowing your past exposure might highlight the need to apply for one or more voluntary disclosure agreements (VDAs), which you should do prior to registering.
- Analyse prior period nexus implications for other tax types (eg income, franchise, and/or gross receipts taxes). Even though economic nexus was not a valid concept for sales tax purposes until Wayfair, in some states economic nexus has been enforced for purposes of other state taxes for many years.
- Collect exemption certificates from customers who claim exemptions from sales tax.
- Determine how you will collect the correct sales tax in each new state and local jurisdiction. This should include updating pricing and website payment portals.
- Develop a plan for filing timely sales and use tax returns. You may need to appoint a US firm to assist with this.
- Explore software automation technology to help with compliance. Registering, filing and complying with each state’s laws can be a burden. Consider exploring sales tax automation solutions to help you with the collections process.
Complying with a growing number of state tax filing obligations could be a full-time job. Thus, it is important to consult with knowledgeable US state and local tax advisers to help ensure that you understand the requirements, consider the risks and develop a practical approach. Consult your usual Saffery Champness contact in the first instance.
Clifton Larson Allen LLP