You probably don’t think much about taxes when you sell goods or services to customers in another state.
However, if you are part of an e-commerce business, out-of-state-vendor, or other entity like a corporation or partnership connected to another taxing jurisdiction (like a municipality, state, or even another country). In that case, your company must pay attention to the concept of nexus to avoid an audit by other states or territories.
Nexus can be a confusing term. However, it can directly affect an entity’s tax liability and, therefore, the bottom line.
One type of nexus, sales tax nexus, comes up frequently when businesses sell products online or ship things to other states. Surpassing the sales tax nexus means that a company must collect and remit sales tax on certain sales. Additionally, some states also impose income tax nexus, which requires companies to file income tax returns for that state in certain circumstances.
In general, if your business has tax nexus in another state, you need to be aware of some additional rules and obligations. Tax nexus is a trigger that often sets off a chain reaction of secondary responsibilities for small businesses with out-of-state operations.
This guide will help you understand what tax nexus is and how it applies to your company.
Tax nexus is a concept used by states to determine when an out-of-state entity – such as a business, sole proprietor, partnership, corporation, trust, or estate – has a sufficient financial connection to their state to trigger the application of state tax laws. Tax nexus can be broad and general or very specific. However, regardless of the type of nexus, it almost always refers to the potential for a tax liability based on some measure of economic activity between two parties.
A state may have the ability to tax businesses with tax nexus under two primary circumstances: physical presence or economic presence. They’re two different standards, but both essentially measure whether a company has an impact in their state beyond simply selling products there.
A typical example of general tax nexus is if an entity conducts business activities in a jurisdiction; this creates tax obligations based on whether those activities trigger income taxes, sales taxes, excise taxes, or other legal obligations. For example, if you have employees doing work in another jurisdiction, that would create nexus with that jurisdiction because you have employees there. If any of your employees drive their cars for company use while working in another jurisdiction, you may also have car registration and licensing requirements. Any time you conduct business activities in another jurisdiction (even if it’s something simple like having an office there), it creates nexus with that jurisdiction and triggers a potential tax liability from that activity.
Individual states set tax nexus standards; not all states have them, and many have not codified them. This makes it essential for companies doing business across state lines to understand where they have tax nexus and what that might mean for their business.
Before getting into the details, it’s essential to understand the difference between sales tax and income tax.
Sales tax is a tax collected on the sale of goods in a specific state. Income tax refers to the taxes that a business owner or company pays. These taxes apply to different sources of income. For example, a business with taxable nexus in a state must collect sales tax from the customers who purchase products from the company in that state. In general, a company must collect and remit sales tax on all sales to customers in that state. If the company does not have taxable nexus in the state, it does not have to collect or pay sales tax on its sales in that state.
Before 2018, a longstanding rule barred states from compelling out-of-state retailers to collect and remit sales tax unless the company maintained a physical presence in the state (meaning a place of business, such as an office). The Supreme Court’s 2018 decision in the case of South Dakota v. Wayfair, Inc., however, changed the rules.
The Court found in favor of the state and expanded remote retailer sales tax obligations in states nationwide. Unfortunately, the exact nexus laws that may apply to your business vary state by state, and no two states are alike.
The rules that determine what constitutes taxable nexus can be confusing, but a few rules of thumb can help you understand when taxable nexus applies to your business.
If your business has a physical presence in a state, you likely have a taxable presence and should collect sales tax. This means that if you own a brick-and-mortar store, offer products as a delivery service, or otherwise operate in a particular state; you should collect sales tax.
In many cases, you are given a grace period after you begin operating in a state before you must start collecting sales tax. In some states, you must register before operating in the state and meet specific requirements to have taxable nexus. Other states simply consider your business to have taxable nexus if you have a physical presence in the state.
If your business has no physical presence in the state where you have sales, you may think you have no taxable nexus and don’t have to collect sales tax. However, there are situations where you do have to collect sales tax even if you have no physical presence in that state.
If your business sells to customers using an intermediary like a wholesaler or distributor to purchase your product. In this case, the company that buys your product and resells it to the end customer is responsible for collecting sales tax. In some states, if you ship your products to customers in the state or use common carriers like FedEx or UPS to deliver your products, you have a taxable presence in that state and must collect sales tax.
Although each state has its tax nexus laws, in general terms, they all require businesses operating in their state to register and collect sales tax if they meet specific requirements.
However, considering that each state has its own rules, businesses such as online retailers that conduct an activity or generate revenue in multiple states will likely find it challenging to keep track of the various sales tax requirements of the different states.
This is especially true since the aforementioned 2018 Supreme Court ruling in South Dakota v. Wayfair, which may cause some businesses to be subject to nexus in significantly more states than previously.
On the other hand, remember that nexus is not an all-or-nothing concept. You may have nexus in one state but not in another — even if your activities or revenue in both states are similar.
This state-by-state nexus chart from the Sales Tax Institute contains key information on the nexus for each state.
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Jeff Coyle, CPA, Partner of Rosenberg Chesnov, has been with the firm since 2015. He joined the firm after 20 years of business and accounting experience where he learned the value of accurate reporting, using financial information as a basis for good business decisions and the importance of accounting for management.
He is a diligent financial professional, able to manage the details and turn them into relevant business leading information. He has a strong financial background in construction, technology, consulting services and risk management. He also knows what it takes to create organizations having built teams, grown companies and designed processes for financial analysis and reporting.
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Prior to joining the firm in 2015, Jeff was in the private sector where he held senior financial and management positions including Controller and Chief Financial Officer. He has experience across industries, including construction, technology and professional services which gives him a deep understanding of business.
Jeff graduated from Montclair State University, he is a CPA and member of the American Institute of Certified Public Accountants, New York State Society of Certified Public Accountants and New Jersey State Society of Public Accountants.
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He takes a pragmatic approach to accounting, finance and business. His work has supported many companies on their path to growth, including helping them find investors, manage scaling and overcome hurdles. His experience and passion for business reach beyond accounting and he helps businesses focus on what the numbers mean organizationally, operationally and financially.
He has a particular expertise in early-stage growth companies. His strengths lie in cutting through the noise to come up with useful, out of the box, solutions that support clients in building their businesses and realizing their larger visions.
Prior to joining the firm in 2004, Jody was in the private sector where he held senior financial and management positions including General Manager, Chief Financial Officer and Controller. He has experience across industries, which gives him a deep understanding of business.
Jody graduated with a BBA in Accounting from Baruch College, he is a CPA and member of the American Institute of Certified Public Accountants and New York State Society of Certified Public Accountants.
In addition to delivering above and beyond accounting results, Jody is a member of the NYSCPA’s Emerging Tech Entrepreneurial Committee (ETEC), Private Equity and Venture Capital Committee and Family Office Committee.
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