So, you’re selling a product…to customers…in all states in the US. You’re a US company selling widgets or software or services, or you’re a foreign company selling gadgets – all destined for US customers (whether individual consumers or businesses). Business is growing, sales are increasing. Congratulations!
First next step? Determine if you need to be collecting and remitting sales tax on those sales. Note – you probably do! And that starts with nexus.
When selling to US customers and then dealing with the many sales tax regulations in our 50 states, understanding the concept of nexus is paramount for businesses aiming to stay compliant and avoid potential penalties. Nexus, in essence, refers to the connection or presence that a business has in a particular state, which can trigger the obligation to collect and remit sales tax. However, determining whether a business has established nexus in a given jurisdiction requires a comprehensive assessment known as a nexus review.
What is a nexus review?
A nexus review involves a thorough examination of various factors, including a business’s physical presence, economic activities, and digital footprint, to determine whether it has crossed the threshold to trigger sales tax obligations in the state, or states, in which it operates. This process is essential for businesses to assess their compliance status accurately and identify potential areas of risk. By understanding the intricacies of nexus reviews, businesses can proactively manage their sales tax responsibilities and navigate the complexities of multi-state taxation with confidence.
Let’s unpack that here – understanding economic nexus, physical presence, the review process and how to evaluate your business’s nexus requirements. Here’s a breakdown:
- Understanding Economic Nexus & Physical Presence (whichever comes first)
- Economic nexus, triggered by certain criteria, defines a business’s virtual presence in a state, necessitating sales tax compliance even without physical presence.
- The Nexus Review Process
- A step-by-step evaluation of a business’s activities and transactions to determine sales tax obligations, ensuring accurate compliance assessment.
- Nexus Across Different States
- Variations in state laws necessitate a nuanced understanding of nexus criteria, with some states following Multistate Tax Commission (MTC) guidelines.
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1. Understanding Economic Nexus
Since the 2018 U.S. Supreme Court case of South Dakota v. Wayfair, at the heart of sales tax nexus has been the concept of economic nexus, which pertains to a business’s virtual presence in a state, rather than its physical location. Economic nexus is triggered when a business meets certain criteria, such as reaching a specified threshold of sales revenue or transaction volume within a particular state. This criterion varies from state to state, underscoring the importance of understanding each jurisdiction’s regulations to determine potential tax obligations. Before Wayfair, companies had to worry only about creating physical presence (employees, contractors, inventory, an office in the state). But now companies need to ask – “Do I have physical presence and/or economic nexus?” Because determining nexus is just step one in the process. (See below for the NEXT steps, but first more nexus.)
2. The Nexus Review Process
Conducting a thorough nexus review is crucial for businesses to accurately assess their sales tax obligations. The process involves several steps aimed at evaluating the business’s activities and transactions to determine whether nexus, or a significant enough connection for a threshold, has been established in various states. Here’s a short guide outlining the steps involved in conducting a nexus review:
- Gather Information: Begin by gathering detailed information about the business’s activities, including sales volume, physical presence, and digital activities. This information serves as the foundation for the nexus review process.
- Identify Potential Nexus Triggers: Review state-specific nexus laws and regulations to identify potential triggers that could establish nexus in each state. These triggers may include physical presence, economic nexus thresholds, affiliate nexus, and more.
- Assess Physical Presence: Evaluate the business’s physical presence in each state. This includes locations of offices, warehouses, employees, agents, or any other physical assets that could create nexus. It also includes the activities of third-party contractors doing work on a company’s behalf. This is often an area of confusion for companies.
- Analyze Economic Nexus Thresholds: Determine whether the business has met the economic nexus thresholds set by each state. Economic nexus is established based on the volume of sales, transactions, or revenue generated within the state, irrespective of physical presence. Timing is important here, as states have varying thresholds, timing and which sales are included in the threshold.
- Review Digital Activities: Assess the business’s digital activities, including online sales, advertising, affiliate relationships, and other digital marketing efforts. Some states may assert nexus based on these digital activities.
- Evaluate Affiliate Nexus: Determine whether the business’s relationships with affiliates in certain states create nexus under affiliate nexus laws. Affiliate nexus rules vary by state and may depend on factors such as revenue generated through affiliate referrals.
- Document Findings: Document the findings of the nexus review, including the states where nexus has been established, the types of nexus triggers identified, and any potential liabilities or compliance requirements. This is a key step in determining next steps toward retroactive remediation and becoming current with sales tax filings.
- Consult with Tax Professionals: Seek guidance from tax professionals specializing in state and local taxation to ensure accuracy and compliance throughout the nexus review process. Miles Consulting can help.
- Implement Compliance Measures: Based on the findings of the nexus review, implement appropriate compliance measures to fulfil sales tax obligations in states where nexus has been established. This may include registering for sales tax permits, collecting and remitting sales tax, filing tax returns, and maintaining proper documentation.
We said above that the nexus determination (and all these steps to get there) was just Step 1 in a process to get compliant. Once a nexus study has been performed, and nexus dates established, a company needs to address the next set of important steps:
- Determine whether the products or services sold are subject to sales tax in the states in which nexus has been created. We recommend clients review all major revenue streams as different products are treated differently and of course, vary from state to state.
- If it’s been determined that a product or service is taxable, then query further to see if there may be an exemption available. Exemptions may include sales for resale, sales to exempt entities (governments, non-profit organizations, hospitals, etc.). Note that exemptions also vary by state.
- Is the company compliant with sales tax filings as of the nexus creation date? Most likely not – and remediation of past exposure must be addressed before a company can come forward and file correctly for current and future periods. We discuss remediation options in another blog. Read it here.
And, YES, we can help with these steps…contact us for a short consultation.
3. Nexus Across Different States
Navigating sales tax nexus across different states presents a formidable challenge due to the wide array of variations in sales tax nexus laws. Each state has its own set of rules and regulations for determining nexus, leading to a complex and often confusing landscape for businesses. Understanding these variations is essential for businesses to ensure compliance and avoid potential liabilities. These are the points to consider when determining your nexus requirements:
Variations in Nexus Laws
Sales tax nexus laws vary significantly from state to state, creating a patchwork of regulations that businesses must navigate. These variations can include differences in thresholds for establishing nexus, definitions of taxable activities, and interpretations of nexus triggers such as physical presence, economic activity, affiliate relationships, and more.
Complexity of Compliance
The complexity of compliance with sales tax nexus laws is compounded by the lack of uniformity among states. Businesses operating in multiple states must contend with different compliance requirements, filing deadlines, tax rates, and exemptions, making it challenging to maintain accurate and timely compliance across all jurisdictions.
Multistate Tax Commission (MTC) Guidelines
The Multistate Tax Commission (MTC) is an intergovernmental state tax agency that provides guidance and recommendations to states on various tax issues, including sales tax nexus. While the MTC offers model statutes and guidelines aimed at promoting uniformity and consistency in state tax laws, not all states adopt these guidelines in their entirety.
Adoption of MTC Guidelines
Some states choose to adopt MTC guidelines or incorporate them into their own state tax laws. These states may follow MTC recommendations on nexus thresholds, definitions of taxable activities, and other nexus-related matters to promote consistency and simplify compliance for businesses operating across state lines.
However, many states have divergent approaches to sales tax nexus and often deviate from MTC guidelines in favor of their own unique criteria for establishing nexus. This divergence can create confusion and uncertainty for businesses trying to understand their sales tax obligations in different states.
Evolution of Nexus Standards
The concept of sales tax nexus continues to evolve in response to changes in business practices, technological advancements, and legal developments. States may adapt their nexus standards to address emerging issues such as online commerce, remote sales, digital advertising, and marketplace facilitation, further complicating the compliance landscape for businesses.
Legal Challenges and Court Decisions
Legal challenges and court decisions also influence the interpretation and application of sales tax nexus laws. Landmark US Supreme Court cases such as Quill Corp. v. North Dakota and more recently, South Dakota v. Wayfair have shaped the nexus landscape by addressing issues related to physical presence, economic nexus, and the authority of states to impose sales tax obligations on remote sellers.
State-Specific Considerations
Businesses must consider state-specific factors when evaluating their sales tax nexus exposure in each jurisdiction where they operate. These factors may include state-specific nexus thresholds, exemptions, sourcing rules, tax base definitions, and administrative requirements that vary from state to state.
To have a clearer view of each state’s economic nexus threshold requirements, in a table format for easy comparison, read this article: Explaining Nexus Threshold By State.
Understanding and reviewing sales tax nexus is imperative for businesses aiming to thrive in today’s complicated regulatory landscape. By grasping the nuances of economic nexus, conducting thorough nexus reviews, and staying vigilant of state-specific regulations, businesses can proactively manage their sales tax obligations and mitigate potential risks.
It’s a complex issue, so don’t go at it alone. Come to Miles Consulting Group – book a consultation, drop us a line, or send us an email at info@milesconsultinggroup.com
