How U.S. Sales Tax Works
This post was written by our friends at TaxJar. This article is intended for educational purposes only and is not a substitute for tax or legal advice. Square does not provide any tax advice. For specific tax questions, please contact your tax advisor.
The sales tax system in the U.S. is anything but simple. With 45 states (and Washington, D.C.), over 10,000 sales tax rates, and a whole lot of variability, it can be tough for retailers to make sense of U.S. sales tax. This post explains why U.S. sales tax is so complex, and helps you demystify it.
Sales tax is governed at the state level.
There’s no federal sales tax in the United States. Instead, each state makes its own sales tax laws. That means U.S. merchants that work around the country can find themselves dealing with 46 different sets of sales tax rules and regulations. (Five states don’t have statewide sales taxes: Alaska, Delaware, Montana, New Hampshire, and Oregon.)
If you have sales tax nexus in a state (which is just a fancy way of saying an obligation to collect sales tax in a state), then you are required to register for a sales tax permit in that state. Sales tax registration processes vary from state to state, as do individual rules for sellers.
And even if you only handle sales tax collection, reporting, and filing in two or three states, it can be a drastically different experience from state to state.
State sales tax rates vary widely.
Each state’s sales tax rate generally varies from two to six percent. Some states only have a single statewide sales tax rate. For example, the sales tax rate in Connecticut is 6.35 percent. If you were to walk into a store and buy a taxable item anywhere in Connecticut, you’d pay the 6.35-percent sales tax rate.
However, most states allow counties, cities, and other local areas to levy a sales tax, too. This is why you would pay six percent sales tax when purchasing an item in the Atlanta suburb of Kennesaw, Georgia. But if you drive into nearby Atlanta and buy that same item, you’d pay 8.9 percent in sales tax.
This is where collecting sales tax can get especially tricky for online sellers. In e-commerce, the point of sale is considered the place where the buyer takes possession of the item, generally their house or workplace address. As an online seller, it’s your responsibility to know the sales tax rate at your buyer’s shipping address.
Some items are taxed differently.
In the U.S., most tangible personal property, like a lamp or a toothbrush, is considered taxable. But some items, usually those considered necessities, are not taxable in some states.
For example, clothing isn’t taxable in Pennsylvania, textbooks aren’t taxable in Kentucky, and groceries aren’t taxable in most states. (As opposed to “prepared food,” which is almost always taxable.)
In other cases, these items are taxed at a different or reduced rate. For example, in Illinois, groceries are taxable at a reduced rate of one percent. And in New York, clothing items priced at $110 or less are non-taxable.
Fortunately for retailers, most point-of-sale software, online shopping carts, and marketplaces allow you to set a product tax code or tax class so you don’t inadvertently charge too much sales tax to a buyer in a state where a product is tax exempt or taxed at a reduced rate.
Shipping charges are taxable (sometimes).
This is another area where sales tax can get tricky for online sellers. Some states consider a shipping charge to be an integral part of a sale, and thus taxable. In their eyes, if you are an online seller, then you must ship the item to your buyer to get it to them, so shipping is part of the sale.
Some states consider shipping charges non-taxable since they are separate from the price of the item. As an online seller, you need to know if your state considers shipping charges taxable. But once you’ve figured that out, your point-of-sale software, online shopping cart, or online marketplace will generally allow you to set whether you want to charge sales tax on shipping charges. Of course, you can avoid having to keep all that straight by offering free shipping.
Sales tax filing due dates differ from state to state.
Remember how states all have different rules for sales tax? Never is this more apparent to retailers than when it comes time to file their sales tax return.
In most states, sales tax is due on the 20th day of the month after the taxable period ends. However, plenty of states break from that rule: Sometimes sales tax is due on the 15th of the month, the last day of the month, or some other date.
The frequency at which you are asked to file a sales tax return and remit sales tax also varies from state to state. As a rule, the more revenue you make from buyers in a state, the more often the state wants you to file and pay sales tax. States use sales tax revenue to pay for budget items like schools, roads, and public safety, so they want as much sales tax in their treasuries as quickly as possible.
Sales tax is usually due either monthly, quarterly, or annually, with high-volume sellers paying monthly and the smallest-volume sellers required to file and pay only once per year. Of course, in keeping with the tradition of every state doing sales tax its own way, some states have other frequencies, such as “semi-annual” or “fiscal annual” frequencies.
You can learn more about U.S. sales tax with TaxJar’s Sales Tax Guide for Square Sellers.
TaxJar is a service that makes sales tax reporting and filing simple for more than 10,000 online sellers. Try a 30-day free trial of TaxJar today and eliminate sales tax compliance headaches from your life.