Do I Collect Sales Tax on Services?

Sales tax is a consumption tax imposed by state and local governments on the sale of goods and certain services. Sales tax is governed at the state level, leading to varied regulations. While tangible goods, defined as items that can be touched and moved, are almost universally subject to sales tax unless specifically exempted, the tax treatment of services presents a much more diverse picture. States have adopted different approaches to taxing services, reflecting the shift from a manufacturing-based economy to one increasingly driven by services. This article clarifies sales tax on services, guiding you through taxability rules and practical considerations.

Understanding Service Taxability

The fundamental distinction in sales tax lies between tangible personal property (TPP) and services. Historically, sales tax laws primarily focused on the sale of physical goods, with services often considered exempt unless explicitly stated otherwise. However, as the economy has evolved, many states have expanded their sales tax base to include various services. This expansion means that the taxability of a service depends heavily on where it is performed and the specific regulations of that jurisdiction.

States adopt three broad approaches to taxing services. In the majority of states, services are presumed exempt from sales tax unless there is a specific law or regulation that enumerates them as taxable. This “enumerated services” approach requires providers to review their state’s tax code. Conversely, a smaller number of states, such as Hawaii, New Mexico, South Dakota, and West Virginia, operate under a different principle where most services are presumed taxable unless specifically exempted by law. Five states—Alaska, Delaware, Montana, New Hampshire, and Oregon—do not impose a general statewide sales tax on goods or services at all, simplifying matters for service providers within their borders.

Beyond these general categories, the taxability of services becomes more nuanced. Services directly related to tangible personal property are taxed, even in states where other services remain exempt. This includes activities such as installation, repair, maintenance, or fabrication of physical goods, where the service improves or alters the property. For example, car repair services or carpentry work fall into this taxable category. Similarly, services performed on real property, such as landscaping or janitorial services, may also be subject to sales tax in some jurisdictions.

Many states enumerate certain services as taxable, covering a wide range of industries. These lists can include telecommunications services, which are taxed, or digital services like streaming content, downloaded software, or online subscriptions. Professional services, such as those provided by accountants, lawyers, or medical practitioners, are exempt from sales tax in most states, but some jurisdictions may tax specific business or personal services like dry cleaning, advertising, or computer services. To determine the taxability of your service, consult the Department of Revenue or taxation website for each state where you operate or provide services.

Key Considerations for Service Providers

Once a service provider determines their offerings are subject to sales tax in a particular jurisdiction, several steps follow to ensure compliance. The initial requirement involves sales tax registration with the relevant state tax authority. This process entails obtaining a sales tax permit or seller’s permit, which formally authorizes a business to collect sales tax on behalf of the state. Registration is completed online through the state’s Department of Revenue portal, and some states may also require registration for local sales taxes if those are administered separately.

After registration, the provider must calculate and collect sales tax from customers. Sales tax is a percentage of the sale price and should be shown as a separate line item on invoices or receipts. This transparency ensures customers are aware of the tax being charged and helps avoid confusion regarding the total cost of the service. Proper collection practices are important, as the collected funds are not considered business income but rather monies held in trust for the taxing authority.

Remitting collected sales tax to the state is a regular obligation, with filing frequencies set on a monthly, quarterly, or annual basis. The frequency depends on the volume of taxable sales a business makes, with larger businesses required to file more frequently. Most states offer online portals for electronic filing and payment, though mail-in options may also be available. Timely remittance is important to avoid penalties and interest charges.

Maintaining accurate records of all sales, collected taxes, and remittances is important. These records should include sales invoices, exemption certificates, and remittance confirmations. Record-keeping is important for internal financial management and for audit purposes, as state tax authorities may conduct audits to verify compliance. Such documentation provides a clear trail of all taxable transactions and collected funds.

Sourcing rules determine which state’s sales tax applies when services are provided across state lines or to customers in different locations. For services, sourcing can be complex, depending on factors such as where the benefit of the service is received, where the service is performed, or the customer’s location. While these rules vary by state, understanding the concept is important for businesses operating beyond a single state. If a service is taxable, the sales tax rate is determined by the sourcing rules of the state where the transaction is deemed to occur for tax purposes.

Common Exemptions for Services

Even when a service is considered taxable in a particular state, certain exemptions may apply based on the nature of the transaction or the status of the customer. One common exemption involves business-to-business (B2B) transactions. If a service is purchased by another business for resale or as an integral component of a taxable service or good that will be sold, it may be exempt from sales tax at the initial point of sale. This “resale exemption” prevents the cascading effect of sales tax being applied multiple times within the supply chain.

Non-profit organizations qualify for sales tax exemptions when purchasing goods or services. Sales made to tax-exempt entities, such as those recognized under Internal Revenue Code Section 501(c), are not subject to sales tax. To claim this exemption, the non-profit organization must provide the service provider with a valid exemption certificate issued by the state. Service providers should retain these certificates as documentation in case of a tax audit.

Specific industries or types of services may also be explicitly exempt from sales tax in certain states. For instance, healthcare services, educational services, and many professional services like legal or accounting advice are exempt, reflecting policy decisions to avoid taxing specialized services. However, this varies, and some states may tax specific aspects of these services or bundle them with taxable goods. These industry-specific exemptions are detailed within the state’s sales tax statutes or administrative guidance.

When a service provider buys a service that will be directly resold to an end customer, they can present a resale certificate to the vendor, allowing them to purchase the service without paying sales tax. This mechanism ensures that sales tax is ultimately collected from the final consumer, rather than at an intermediate stage. Service providers must obtain and keep valid exemption certificates from their customers when an exemption is claimed, as these documents serve as proof that sales tax was not collected due to a legitimate exemption.