New sales tax rules for online sellers

Ecommerce sales tax facts

Online sales tax is one of those nagging but important administrative details online sellers have to contend with to stay in legal compliance. For a long time, collecting sales tax was fairly simple for ecommerce sellers: just collect sales tax from buyers in any state where you have “nexus” (a location or other business presence.)

However, the U.S. Supreme Court’s 2018 ruling in Wayfair v. South Dakota changed all that. And these days, many online sellers are finding the rules around when and from which customers to collect sales tax harder to parse.

Disclaimer: This article will go over the recent changes in sales tax law. However, every business is different, and individual state sales tax laws vary. Consult a sales tax advisor to determine how your business should collect sales tax.

Related: 2020 tax calendar for small business owners

A brief history of sales tax for online sellers

To understand what has changed about the sales tax landscape, it’s important to know how sales tax worked in the past.

Forty-five U.S. states and Washington D.C. have a sales tax. Each state makes its own sales tax rules and laws. That’s why you might pay 4% sales tax when making a purchase in one state and 8% when making a purchase in another state.

Until the law changed in 2018, online sellers were only required to collect sales tax from buyers in a state where they have a location or some type of business presence, called “nexus.”

Say Joey lives and runs their business in Iowa, stores their inventory in a warehouse across the border in Nebraska, and has a remote employee in Nevada. Until the rules changed, Joey would have had nexus in just those three states. That meant that if they made a sale to a buyer in Iowa, Nebraska or Nevada, they’d be required to collect sales tax from that buyer. But if they made a sale to a buyer in California, they would not be required to collect sales tax on the transaction.

However, states like California became annoyed every time Joey made a sale into their state and didn’t have to collect sales tax. States use sales tax revenue to pay for stuff like schools and roads. States thought that sellers like Joey should be collecting sales tax from their in-state buyers and remitting it to state coffers.

As ecommerce grew, more and more states saw the fact that online sellers were not required to collect sales tax from buyers in their state as a source of lost revenue.

 

Litigation ensued, and in Wayfair v. South Dakota, the Supreme Court sided with the states. The ruling means that states can now expand their definition of sales tax nexus, and can pass laws to require online sellers with no other connection to the state to collect sales tax from in-state buyers.

Important note: This ruling does not affect current sales tax nexus rules. Therefore, if a seller has nexus in a state due to having an office, warehouse, employee, etc. in the state they are still required to collect sales tax from buyers in that state.

“Economic nexus” sales tax laws

Economic Nexus Map
Image: TaxJar

So as an online seller, does this mean you are now required to collect sales tax from all of your customers located in every U.S. state?

Not quite.

Instead, what this ruling does is allow states to pass their own economic nexus sales tax laws that affect online sellers.

Before the court decision, a seller had to have some kind of physical or business presence in the state to be required to collect sales tax. Now a seller only has to make sales in a state to be required to collect sales tax.

To complicate matters, every state’s economic nexus laws are different.

For example, online sellers who have no other nexus in the state and who gross more than $500,000 in sales per year in California are now required to collect sales tax from California buyers.

But in most states, like Colorado, that threshold that requires ecommerce sellers to collect sales tax is much lower.

In Colorado, online sellers who have no other nexus in the state and gross more than $100,000 in sales per year from Colorado purchasers are required to collect sales tax from Colorado buyers.

Economic nexus is not the only new sales tax law in town. Remember how each state gets to create their own sales tax rules and laws? Some states have chosen to go in a different direction.

“Notice and report” laws

Pay Your Tax Now Here Written on Storefront Window

A handful of states found a way to compel online sellers to collect sales tax even before the Wayfair v. South Dakota judgment was handed down.

In most states with a sales tax, if a consumer doesn’t pay sales tax at the time of purchase, they are technically required to calculate how much sales tax they should have paid and remit to the state on their individual state tax return. Of course, this is almost impossible to enforce, and most consumers do not even realize they face this particular tax obligation.

These states passed laws that applied to any seller that grossed over a certain threshold of sales in the state (usually $100,000 per year) and conducted more than a certain number of transactions (usually 200 per year), no matter where that seller was based and if they had nexus in the state.

With these laws, sellers were required to issue an annual notice to each buyer in that state informing them that, since the seller did not collect sales tax on their transaction, the buyer was now required to pay “use tax” directly to the state’s government.

The ecommerce seller was then also required to send a notice to that state’s government informing them to expect a use tax payment from the buyer.

Of course, this creates a paperwork burden for the seller.

On top of that, buyers are not happy to receive a “Psst! You owe tax on his purchase” notice in the mail following an online purchase. For this reason, many sellers chose to just collect sales tax because it was much easier than following the various states’ notice and reporting requirements.

“Marketplace facilitator” laws

There is some good news for sellers buried in all these new sales tax requirements.

If you sell on an online marketplace such as Amazon, Etsy or eBay, some states now require those marketplaces to collect sales tax on your behalf.

At this time, about 30 states have laws that require online marketplaces to collect sales tax on behalf of sellers and remit those sales taxes to the state.

But there’s one big caveat: If you sell on a marketplace AND on your own online store, you are still required to collect sales tax from buyers on the sales you make via your own online store.

For example, say you sell on Etsy and have your own independent branded store elsewhere. While Etsy will collect and remit sales tax on your behalf for sales conducted there, you are still required to collect and remit sales tax on sales you make in your own online store.

Verify you are in compliance with sales tax rules

Sales tax rules for online sellers have changed quite a bit over the past two years.

If you haven’t reevaluated how you collect sales tax since the Wayfair v. South Dakota decision was handed down in 2018, you will want to double check and ensure you are meeting all of your sales tax obligations.

The above content should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation.