When Is Your Business Required to Charge Sales Tax?

Sales tax is a consumption tax applied to the sale of goods and services. Businesses collect it from customers at the point of sale, typically as a percentage of the retail price. These funds are then remitted to state and local government authorities. Sales tax rules are not uniform across the United States, as each state determines its own policies regarding taxability and rates.

Taxability of Goods and Services

Sales tax primarily applies to the sale of tangible personal property, such as clothing, electronics, and furniture. Businesses selling these goods are generally required to collect sales tax on transactions.

The taxability of services is more varied. Some services are commonly subject to sales tax, including telecommunications, utilities, and certain repair services. Many states exempt professional services like legal advice, accounting, or medical care. Businesses must consult the specific regulations in each state where they operate to determine which services are taxable.

When sales tax is not collected on a taxable purchase, a complementary “use tax” may apply. Use tax is a tax on the storage, use, or consumption of a taxable item or service for which sales tax was not paid. This often occurs with purchases from out-of-state vendors not required to collect sales tax in the buyer’s state. The purchaser is typically responsible for remitting use tax.

Establishing Sales Tax Nexus

Sales tax nexus defines the connection a business must have with a state for that state to legally require sales tax collection. Without established nexus, a state cannot impose sales tax collection obligations on a business.

Traditional sales tax nexus is established through a physical presence in a state. This includes a physical location like a store, office, or warehouse. The presence of employees or independent contractors, even remote ones, can also create physical nexus. Storing inventory in a state, including through third-party fulfillment centers, also establishes a physical presence.

Temporary activities can also create physical nexus, such as attending trade shows, conducting in-person sales, or providing services in a state. The concept of physical presence nexus was affirmed in Quill Corp. v. North Dakota (1992), which held that a state could not compel a business to collect sales tax without a physical presence.

Less common forms of physical presence nexus also exist. Affiliate nexus arises when a business has a relationship with an in-state affiliate that has a physical presence and facilitates sales. Click-through nexus can be established if a business pays commission to an in-state resident for referrals that generate sales, often with a minimum sales threshold.

Understanding Sales Tax Exemptions

Even when a good or service is generally taxable, sales tax exemptions may apply. These exemptions mean specific sales are not subject to tax, often due to the buyer’s nature, the item’s intended use, or the transaction type. Understanding these exemptions helps businesses identify when they are not required to collect sales tax.

One common exemption is for sales made for resale. Businesses purchasing items for resale are not required to pay sales tax on those purchases. The buyer must provide the seller with a completed resale certificate to validate the tax-exempt sale.

Exemptions also apply to certain organizations. Sales to non-profit entities, government agencies, and educational institutions are often exempt. Federal government purchases are consistently exempt, while state and local government exemptions depend on specific state rules. Businesses must obtain and retain exemption certificates from these buyers.

Specific products or their intended use can also qualify for exemptions. Common examples include groceries, prescription medications, and certain manufacturing equipment. Many states provide exemptions for items used directly in farming or industrial processes.

Sales Tax for Remote and Online Sellers

Sales tax collection for remote and online sellers transformed with the 2018 Supreme Court decision in South Dakota v. Wayfair, Inc. This ruling introduced economic nexus, allowing states to require out-of-state businesses to collect sales tax based on sales activity, regardless of physical presence.

Under economic nexus laws, states require remote sellers to collect sales tax if their sales volume or transaction count into that state exceeds a specified threshold. Typical thresholds include a dollar amount, such as $100,000, or a minimum number of transactions, often 200, within a defined period. Businesses must monitor their sales activity to determine if they cross these thresholds.

Marketplace facilitator laws also affect online sales. These laws shift the responsibility for collecting and remitting sales tax from individual third-party sellers to the marketplace platform itself. If a marketplace meets certain criteria, it becomes responsible for collecting sales tax on sales made by its sellers through its platform. This simplifies compliance for many small businesses.

Sales tax sourcing rules, whether origin-based or destination-based, also apply to remote sellers. Origin-based sourcing taxes a sale at the seller’s location, while destination-based sourcing taxes it at the buyer’s location. Most states apply destination-based sourcing to remote sales, meaning the sales tax rate is determined by the buyer’s delivery address.