If you’re a US-based product seller, sales tax due dates can be an unwelcome wake-up call after an otherwise profitable year, especially if you only have to file taxes annually.
Between the different sales tax rules for each state, the introduction of new laws for taxing out-of-state ecommerce sellers and marketplaces, and the penalties for overcharging or failing to remit sales tax, there’s no denying that the sales tax compliance process has only got more complicated over time.
Luckily, there are six steps you can take to figure out when and where to charge sales tax so you can become sales tax compliant.
What is sales tax?
Sales tax is a consumption tax paid to the government on the sales of goods and services. It’s typically paid by the end customer of a product at the point of sale, collected by the seller, and remitted to the government on a regular basis, depending on the seller’s volume, products, and state requirements.
Sales tax is collected at the state level in 45 states and the District of Columbia, and at a local level for some towns and municipalities. As of 2022, only five states don’t collect sales tax at the state level: Alaska, Delaware, Montana, New Hampshire, and Oregon.
The good news is you’re only required to collect sales tax if you meet the criteria for establishing a significant business presence in the state or “sales tax nexus.”
Here are the steps required to become sales tax compliant:
1. Determine where you have nexus
Nexus is established when you meet the requirements for a business presence in a state. Prior to 2018, this referred to a physical presence, such as having a warehouse.
But with the precedent set in South Dakota v. Wayfairwhere the Supreme Court ruled in favor of the state’s entitlement to sales tax from the out-of-state seller, many states have updated their definition of nexus to include remote sellers with no physical presence, but who have generated enough sales to qualify as an economic presence.
As a result, nexus can now exist based on either a physical or an economic presence in a state.
A physical nexusdepending on the state, can be anything from:
- An office
- An employee resigning in or traveling to the state
- A warehouse
- A distribution center
- A third-party affiliate
- Store inventory
- Temporary physical business in a state, such as at a trade show or craft fair
An economic nexus, on the other hand, is usually triggered when you reach a certain threshold of sales within the state. For example, the state of Illinois considers $100,000 in sales or 200 transactions in a 12-month period as the threshold for economic nexus. Texas, on the other hand, deems you have an economic presence if sales made into the state exceed $500,000 in the past 12 months.
If you suspect you might have a physical or economic presence in a state, you could check with that state’s taxing authority to determine whether or not you have sales tax nexus.
Shopify merchants can see where Shopify believes you have nexus based on your sales history, by going to Settings > Taxes and duties > Manage tax Liability. You’ll also receive a notification in Shopify if that happens.
Avalara has a great state-by-state sales tax guide for learning the sales tax rates, collection rules, and nexus conditions for each state.
You should also be aware of tax sourcing rules for each state—that is, which state has the right to tax a transaction, especially for online businesses. It is always the destination state; However, within a given state the appropriate rate may be sourced either based on the origin or destination of the shipment within that state:
- Origin-sourced sales are taxed according to where you, the seller, are located. Origin sourcing may apply when the property is shipped wholly within a single state. For example, property withdrawn from a Texas warehouse and shipped to a Texas recipient may be taxed at the rate where the warehouse is located.
- Destination-sourced sales are taxed according to where the buyer takes possession of the item sold. For example, property shipped from outside of Texas into Texas may be taxed at the rate where the recipient of the goods are located.
Luckily, most states use destination sourcing, but some states and districts use mixed sourcing.
The first step to sales tax compliance is always to determine where you have sales tax nexus and to set up your online store (and any other channels you might sell on) to collect sales tax.
Once you’ve determined where you have nexus, your next step is to understand if your product is taxable.
Simplify sales tax compliance with Sales Tax Insights
Shopify’s Sales Tax Insights was built to help US- and Canadian-based merchants navigate their sales tax obligations and stay sales tax compliant.
2. Ensure your products are taxable
While most tangible personal property (ie, products) are subject to sales tax, there are some that are exempt from sales tax or subject to a different rate.
Depending on the state, non-taxable property can include some or most:
- Services, such as legal or home renovation services
- Digital products, such as music, video games, or software
- Prescription and non-prescription drugs
Services and digital products can be especially confusing, as the line between the two is often blurred. Many services today are delivered through digital products, such as graphic design or software-as-a-service, like Shopify.
If you sell a product you think might be non-taxable, check with your state to make sure.
3. Register for a sales tax permit
States where you have nexus require you to secure a sales tax permit before you begin collecting sales tax. To register for a sales tax permit, go to your state’s Department of Revenue website or give them a call.
States use sales tax funds to pay for things like schools, roads and public safety, so they are very invested in any merchants with nexus in their state collecting and remitting sales tax.
Sales tax permits are free in most states, while others cost a small fee ranging from $10 to $100. Just Google “apply for sales tax permit” and the name of the state.
Once you’ve registered, your state will tell you when and how often they want you to file taxes. This is generally monthly, quarterly, or annually, with most annual due dates falling in January.
Don’t skip this step! States generally consider it unlawful to collect sales tax without a permit.
Here’s a sample sales tax permit application from the state of Florida:
4. Set up sales tax collection
Once you’re registered in the states where you have nexus, it’s time to set up sales tax collection.
If you’re using Shopify, you can turn on sales tax collection by simply going to Settings > Taxes and duties. Shopify applies default tax rates in many cases, which are updated regularly but can also be overridden for your particular circumstances.
The Shopify Tax Manual quickly and thoroughly walks you through how to up your store to collect sales tax.
Multi-channel sellers should keep in mind that they must collect sales tax from buyers in states where they have sales tax nexus through every channel they sell on. Again, this is usually fairly easy if you only have sales tax nexus in one state. If you have sales tax nexus in multiple states, check with every platform on which you sell to make sure you’re automatically collecting sales tax from the correct buyers.
Some of the new state laws born from South Dakota v. Wayfair target marketplaces specifically. If you’re selling on Amazon, eBay, Etsy, or another marketplace platform, these companies are now obligated to collect and remit sales tax on behalf of their sellers in states with these marketplace facilitator laws. Still, you should confirm that the marketplace is collecting and remitting tax on your sales made through the marketplace.
5. Calculate how much sales tax you’ve collected
As your sales tax filing due date approaches, now is the time to figure out how much sales tax you’ve collected from buyers in every state where you have nexus.
If you only sell via Shopify and are on the Professional or Unlimited plan, this can be fairly simple to determine by using Shopify Reports to create a custom sales tax report.
If you sell on multiple channels or accept payments through multiple platforms, this gets more and more complex. Some accounting software or Shopify Apps and integrations can make this task easier, but if you choose to do it yourself, you must pull a report on how much sales tax you’ve collected from buyers in each state where you have nexus, from each channel on which you sell.
Certain states keep it simple—they just want to know how much sales tax you collected from all buyers in a state. But a majority of states are becoming instantiated. Not only do they want to know the total amount of sales tax you collected from buyers in their state, they want you to break that amount down by county, city, or district.
This can mean going back over your sales with a fine-toothed comb to determine where each of your buyers lived. This is where sales tax compliance can quickly get messy.
6. File your sales tax return(s)
Now comes the part where you turn in the sales tax you’ve collected from buyers to the state or states where you have sales tax nexus.
Most states make it fairly easy to file online. In fact, some states require that you file online or pay a penalty. Check with your individual state on when and how to file.
Don’t think you’re off the hook if you didn’t collect any sales tax over this taxable period. Many states still require that you file what is known as a “zero return” even if you don’t have any sales tax funds to remit to them. A zero return is a sales tax return that just tells the state that you didn’t collect sales tax during that taxable period. They basically want you to check in and assure them that you’re still in business. If you forget to file a zero return, you can receive a penalty just like if you forgot to file your taxes when you do have funds to remit.
Speaking of paying, it pays to file your sales tax returns on time. Many states realize that sales tax is a burden and will award merchants a sales tax discount for paying early or on time. Don’t leave that money on the table.
So mark those sales tax due dates in your calendar.
Is sales tax accrued? Yes. Are you alone? No.
Once you’ve run through these steps, you should have a basic handle on how to charge sales tax. Still feel overwhelmed? That’s why many business owners consult a tax professional to ensure they’re compliant with sales tax laws.
If your business is powered by Shopify, be sure to check out Sales Tax Insights under your settings, which was built to help small business owners manage their tax liability and offer guidance on how to register and remit sales taxes with the relevant authorities.
Charging sales tax FAQ
How do you know if you need to charge sales tax?
Check the conditions for establishing a physical or economic nexus in the states you’re selling in. If you meet the conditions, you should be charging your customers sales tax. Consult a tax professional if you’re unsure.
How do you calculate sales tax?
Sales tax is calculated by multiplying the price paid when selling an item against the tax rate (eg, $20 x 7%). The exact rate varies by the state with some also levying a local sales tax or taxing shipping in certain situations.
How do you charge tax on a product?
If you sell online or through a point-of-sale solution, it should enable you to set up sales tax collection for each customer you transact with. You can exclude or override the default sales tax for specific products so sales tax is applied automatically and consistently.
What is the difference between sales tax and VAT?
Sales tax and value-added tax (VAT) are both consumption taxes, but where sales tax is only applied at the final point of sale, VAT is applied at each stage of the supply chain process where the good is bought and sold. The United States does not have a VAT.