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This post is to be used for informational purposes only and does not constitute legal, business, or tax advice. Each person should consult his or her own attorney, business advisor, or tax advisor with respect to matters referenced in this post. Bench and Square assume no liability for actions taken in reliance upon the information contained herein.
This post was written by Jennifer Dunn and fact-checked by Camea Franklin, EA, MBA.
Sales tax can be daunting for new entrepreneurs. The rules differ from state to state and are fraught with exceptions. But most of the confusion simply stems from figuring out if your business is required to pay sales tax and how much you need to collect.
Here’s what you need to know about managing, collecting and filing sales tax.
Sales taxes in a nutshell
If you sell taxable products (which most products are), you’re required to collect sales tax from buyers. Some states also impose sales taxes on services.
For businesses with one brick-and-mortar location and no online sales, sales tax collection, reporting, and filing is fairly easy. But if you operate in several states or sell products online, you may need to collect different rates of sales tax from buyers located in various states in which you have sales tax nexus. That’s where sales tax gets confusing.
You’ll need a sales tax permit from any state in which you have nexus before collecting sales tax. Once you receive that permit, the state assigns you a sales tax filing frequency (generally monthly, quarterly, or annually) and sales tax filing due dates.
Some states also collect a “use tax.” A consumer use tax collects tax revenue from sales that missed sales tax collections for one reason or another.
For example, if your business purchases tangible personal property from an out-of-state seller that doesn’t collect sales tax in your state, you may be required to pay a use tax in your state. Pay careful attention to the laws in your state, particularly if you purchase inventory or equipment from out-of-state sellers that don’t charge sales tax.
In some states, the use tax rate is the same as the state sales tax rate, but in others the use tax rate might be different.
10 sales tax basics every entrepreneur needs to know
Before you collect sales tax from your customers, here are some specifics that can influence how you manage, collect, and file sales tax returns.
1. Sales tax is governed by the states
Every business is responsible for paying income taxes, but there is no federal sales tax in the United States. Forty-five U.S. states and the District of Columbia collect a statewide sales tax, and local sales taxes are collected in 38 states. In some cases, local sales taxes are even higher than the statewide sales tax rates.
Alaska, Delaware, Montana, New Hampshire, and Oregon don’t have a state sales tax, but Alaska allows its localities to charge local sales tax.
According to the Tax Foundation, the five states with the highest average combined state and local tax rates are:
- Tennessee: 9.55%
- Louisiana: 9.55%
- Arkansas: 9.47%
- Washington: 9.29%
- Alabama: 9.24%
The five states with the lowest combined state and local tax rates are:
- Alaska: 1.76%
- Hawaii: 4.44%
- Wyoming: 5.22%
- Wisconsin: 5.43%
- Maine: 5.50%
Interestingly, New York has one of the highest state tax rates (4%) and average local rates (4.52%), but it’s not one of the top states for combined state and local rates.
Each state makes its own laws and rules when it comes to sales tax. While some laws are similar, each state has its own way of doing things, so don’t assume that because you collect or file sales tax one way in one state that it will be the same in another state.
2. You only collect sales tax if you have nexus, or if that state says so
Nexus is just a fancy way of saying that your business is connected to a state, and is therefore required to collect sales tax from buyers there.
Your business will typically have nexus in its home state. But it’s also possible for your business to have nexus in additional states, so it’s something you need to keep an eye on.
Things that can make your business have “nexus” in another state include:
- A physical location (e.g., a pop-up store, a warehouse)
- A drop shipping relationship
- Temporary sales
- A significant volume of online sales
Keep in mind, if you have an eCommerce business, you don’t have to have a physical presence in a state to have nexus there. In July of 2018, the Supreme Court (in South Dakota v. Wayfair, Inc.) gave states the ability to require sales tax if you sold to any customers in their state, regardless of whether or not you have a physical presence.
However, most states allow a tax exemption for small businesses, meaning an out-of-state business doesn’t have to collect sales tax until it has more than a certain dollar amount or number of separate transactions in the state.
3. Always register for a sales tax permit before you begin collecting sales tax
States require that merchants register for a sales tax permit (sometimes called a seller’s permit or sales tax license) before they begin collecting sales tax from customers. Register with the state’s taxing authority, which is often called the [State] Department of Revenue.
4. Collect sales tax on all channels
Businesses sometimes get tripped up when selling products and services on more than one channel, such as retail sales in a brick-and-mortar store, a shopping cart on their own website, the Amazon marketplace, and social media.
If you have business tax nexus in a state, you need to collect retail sales tax from all of your customers in that state, on all of your sales channels. Sales tax nexus is not channel-specific.
If you are a Square seller, learn how you can create and manage your sales tax settings.
5. The sales tax rate you collect “depends”
Some states are “origin-based” sales tax states and some are “destination-based” sales tax states. In origin-based states you collect based on your business location. In destination-based states, you collect based on your buyer’s location.
Some states charge a standard sales tax rate based on the purchase price of all eligible products, while others allow non-standard rates on certain items, such as meals, lodging, and other specific items and services. Every state exempts some property from sales tax, but the types of property that are exempt vary from state to state. For example, many states provide an exemption for groceries and prescription medications.
6. How often you file sales tax depends on sales volume
Generally, the higher your sales volume in a state, the more frequently you are required to file a sales tax return in that state. Most states require sellers to file either monthly, quarterly, or annually. There are always exceptions. Some states have semi-annual filing and others will start you out filing monthly no matter your sales volume.
Each state will assign you a sales tax filing frequency when you register for your sales tax permit. Check with the state’s Department of Revenue to learn more about sales tax return filing frequency.
7. Sales tax due dates vary by state
Since states make their own sales tax rules, they can also set their sales tax due dates. A majority of states want sellers to file a sales tax return on the 20th day of the month after the taxable period (either month, quarter, or year.) But other states have due dates on the last day of the month, or on the 25th.
Again, check with the state’s Department of Revenue to be sure you don’t miss an important deadline.
8. File a sales tax return even if you didn’t collect any sales tax
You’ll need to file a sales tax return even if you didn’t collect any sales tax over the taxable period. Why? Because states are sticklers about “checking in” on registered sellers, even if your business wasn’t active during the financial year. Failing to file a zero return can result in anything from a $50 penalty to having your sales tax license revoked.
9. Some states will give you a discount for filing and paying sales tax on time
Over half the states with a sales tax understand that collecting sales tax from your customers and filing periodic returns is no walk in the park. So they will allow business owners to keep a small percentage of the sales tax they’ve collected as long as they pay on time.
Make sure you familiarize yourself with the sales tax rules and potential discounts in each state so you don’t leave money on the table!
10. You don’t have to pay sales tax twice!
If your business involves retail sales of products you purchased from a wholesaler, you typically don’t have to pay taxes on your purchases from the wholesaler. Check with your state to find out if you qualify for a resale certificate. Then show that resale certificate to your vendors so you won’t have to pay sales tax when you purchase inventory.
If you’ve read this far and you’re feeling overwhelmed, just remember that getting started is the hardest part. All of these fundamentals may make sales tax sound, well … taxing. But collecting, filing, and complying with the requirements gets easier with practice.
How to file your sales tax return
So you’ve been collecting sales tax, and it’s time to file. Here are the steps you need to follow to file.
Determine your sales tax filing due date(s)
While many states expect sellers to file sales tax returns by the 20th of the month after the taxable period, due dates in many states can vary. When you file for your seller’s permit in each state in which you have nexus, find out the due date for sales tax returns.
Double-check your sales tax filing frequency
We mentioned before that you might file monthly, quarterly, or annually (or even some other frequency, like semi-annually). But did you know that this frequency is also subject to change?
If your sales volume within a state rises or falls from the previous year, the state might change your sales tax filing frequency. The rule of thumb is that the more revenue your business makes in a state, the more often that state expects you to remit sales tax collections.
Be sure to open any correspondence from state taxing authorities promptly, as it could be a notice that your filing frequency has changed.
Report how much sales tax you’ve collected
Now it’s time to report how much sales tax you’ve collected in each state where you have nexus.
Some states have a flat sales tax rate and simple filing. In those states, you just figure out how much sales tax you collected from buyers in that state (be sure to add up sales tax from all the platforms on which you sell) and remit that amount of tax to the state along with a sales tax return.
Unfortunately, most states aren’t that simple. They want you to break down how much sales tax you’ve collected not only by state, but also by county, city, and other special taxing jurisdiction. If you have to file in complicated states like this, sales tax reporting can take hours. And that reporting is only aggravated if you have to factor in sales tax you collected through multiple eCommerce channels.
Today, small business owners have several options for automating sales tax reporting. Tools like TaxJar, Avalara, and Taxify connect with all of the channels through which you sell and automate your tax compliance with all state and local governments.
Once you’ve figured out how much sales tax you’ve collected, it’s time to file your sales tax return.
File your sales tax return
This is the easy part. Once you’ve gathered and confirmed all of the information you need to file, simply log into your state’s taxing authority filing system and file your return.
You’ll be guided through submitting your payment, and then you’re all set.
Pro tip: give your business an annual sales tax checkup
At least once a year, give your business a general sales tax review to double-check that you’re collecting and processing sales tax as efficiently as possible.
Here’s what you’ll want to review to make sure your business is compliant with all applicable sales tax laws.
Check your nexus states
As you grow and expand your business, you may find that you have sales tax nexus in more states. You may have nexus if you have a significant presence or economic activity (i.e., sales) in a state.
Make sure you’re collecting correctly
As you expand your online business you may start selling on other shopping carts and marketplaces. Take the time to double-check that you are collecting sales tax in all of your nexus states on all of your current shopping carts and marketplaces.
Automate sales tax reporting and filing
Collecting and filing sales tax won’t help your business grow. It’s more like an obligation. If you spend a lot of time reporting and filing state tax instead of growing your business, it may be time to automate your sales tax compliance.
If the IRS, filing deadlines, or a backlog of bookkeeping is keeping you up at night, our partners at Bench are here to help. Get your bookkeeping and taxes done in one place with Bench Accounting. Their experts work together to organize your books, provide unlimited tax advisory, and maximize your income tax returns so you can file with confidence. In fact, they can take care of your filing too. Try them out for free today.