Is Sales Tax Based on Buyer or Seller Location?

Sales tax is a consumption tax imposed by state and local governments on the sale of goods and services. Businesses collect this tax from customers at the point of sale and then remit it to the appropriate tax authorities. Determining whether sales tax is based on the buyer’s or seller’s location requires understanding various tax regulations.

The determination of sales tax liability is not always straightforward, as it depends on a combination of factors related to both the seller’s activities and the nature of the transaction. Tax rates can vary significantly depending on the specific state, county, and city where a sale occurs. Understanding these nuances is important for businesses to ensure compliance and avoid potential penalties.

Determining Sales Tax Obligation

A business’s obligation to collect sales tax in a particular state hinges on establishing “sales tax nexus,” which signifies a sufficient legal connection between the seller and that state. Without nexus, a state cannot compel a business to collect its sales tax. This concept has evolved considerably, especially with the growth of e-commerce.

One type of nexus is “physical nexus,” which arises when a business has a tangible presence in a state. This presence can include owning or leasing a physical location, having employees or independent contractors, or storing inventory. Attending trade shows for sales purposes can also establish this connection.

The other primary type is “economic nexus,” which means a business has a certain level of economic activity in a state without a physical presence. This concept gained widespread prominence following the 2018 U.S. Supreme Court decision in South Dakota v. Wayfair, Inc. This ruling overturned the previous “physical presence” requirement, allowing states to mandate sales tax collection from remote sellers who meet specific economic thresholds.

These economic nexus thresholds vary by state, but commonly involve a certain dollar amount of sales or a specific number of transactions within a defined period. For instance, many states set the threshold at $100,000 in gross revenue or 200 separate transactions, though some states like Alabama and Mississippi have a $250,000 threshold, while California, Texas, and New York use a $500,000 threshold. Businesses must monitor their sales into each state, as exceeding them triggers the obligation to register for a sales tax permit and begin collecting sales tax.

Sales Tax Sourcing Rules

Once a seller establishes nexus in a particular state, sales tax sourcing rules dictate which specific sales tax rate applies to a transaction within that state. These rules determine whether the sales tax is based on the seller’s location or the buyer’s location. The vast majority of states use a destination-based approach for sales tax sourcing.

“Origin-based sourcing” means the sales tax rate is determined by the seller’s location, which is the point of origin for the sale. This simplifies compliance for businesses operating within their home state, as they apply their local sales tax rate to all in-state transactions. States that primarily use origin-based sourcing for intrastate sales include Arizona, Illinois, Mississippi, Missouri, Ohio, Pennsylvania, Tennessee, Texas, Utah, and Virginia. For example, if a business in an origin-based state sells to a customer within the same state, the sales tax rate of the seller’s location is applied.

“Destination-based sourcing,” conversely, means the sales tax rate is determined by the buyer’s location, which is the point of destination for the sale. This approach requires sellers to calculate the sales tax rate based on where the product or service is delivered. Most states and the District of Columbia follow destination-based sourcing rules for intrastate sales. This ensures that the consumer pays taxes based on the rate applicable in their own jurisdiction.

For “interstate” sales, where goods are shipped between states, destination-based sourcing almost always applies. This means the sales tax rate applied is that of the buyer’s “ship-to” address. Therefore, even if a business is located in an origin-based state, sales to customers in other states where nexus has been established will generally be taxed at the destination state’s rate.

Applying Sales Tax to Different Types of Sales

The concepts of nexus and sourcing rules apply differently depending on the sales scenario. For in-person sales at a physical retail location, nexus is clearly established at the point of sale. The sales tax rate collected is typically determined by that specific physical location, encompassing state, county, and city rates applicable to the store’s address. This is generally a straightforward application of destination-based sourcing to the immediate point of transaction.

Online sales present a more intricate challenge due to the expansive reach of e-commerce. The South Dakota v. Wayfair decision altered the sales tax landscape for online sellers, allowing states to require remote sellers to collect sales tax if they meet economic thresholds.

Online sellers must first assess if their sales volume or transaction count into any given state meets that state’s economic nexus threshold. Once nexus is established in a state, the online seller must then apply the appropriate sales tax sourcing rules for that state. For interstate online sales, these rules are almost universally destination-based, meaning the sales tax is calculated based on the buyer’s shipping address. This creates significant complexity for online businesses, as they must track varying nexus thresholds and account for thousands of changing local tax rates and product taxability rules. Many businesses leverage sales tax automation software to manage these calculations and compliance obligations, including tracking sales, applying correct rates, and assisting with filing and remittance.