State and local governments face economic challenges that require them to seek new revenue streams. As a result, state and local governments are more aggressive than ever in conducting field audits and enforcing penalties on taxpayers who fail to comply with the state and local tax laws. Therefore, if you are a dealership, you may be doing business with other states unknowingly, and it is imperative that you mitigate your risk with proactive state and local tax planning.
Multi-State Tax Headaches
There are a variety of issues that dealers encounter every day that put them at odds with other state taxing authorities. Our goal is to get you thinking proactively about potential state and local tax issues and not simply reactionary. The following are common dealership topics to consider: Delivery and Freight, Maintenance and Warranty Contracts, Nexus, Sales Tax Sourcing Rules, and Use Tax.
Delivery and Freight
If you takeaway only one message from this article, it should be to ship your products via third-party common carrier when doing business with customers from other states! In doing so, you may be able to limit your exposure to other state tax liabilities. If you do this, it is imperative that your dealership hires the third-party common carrier rather than your customer. If the customer hires the common carrier, the third-party common carrier will be acting as an agent for the customer and the transaction would likely be taxed as if the customer received the goods at your business location subject to tax in your home state.
If you decide to deliver the product yourself via a company-owned vehicle, be sure to obtain the necessary documentation and evidence to show where the delivery occurred. HBK recommends that your driver take a photograph of the delivery location, obtain a fuel receipt from a local gas station, and acquire a signed affidavit from the customer stating that he received the product. Last, but not least, include the "ship to" address reflecting the customer’s location on both the purchase order and sales invoice. Warning: Having this type of evidence does not ensure that your dealership will be successful on audit. Many state revenue agents are assessing tax, penalties, and interest on these transactions, even though dealerships have provided this type of evidence. I like to use the term "cavalier" to best describe these aggressive state revenue agents.
If the underlying product being sold is tax exempt, then the delivery and freight charges are exempt from the state sales tax. If the underlying product being sold is taxable, then the delivery and freight charges are subject to the state sales tax. Be very careful-if you are selling a mixture of exempt and taxable items, you must itemize them on your sales invoices. If they are not bifurcated, then the entire transaction will be considered “bundled” and the entire sale will be subject to sales tax.
Maintenance and Warranty Contracts
Most equipment is sold with a warranty, and sometimes a maintenance contract is included. If the piece of equipment is sold to a customer in another state and you or a hired third party performs the service work, there will be both state corporate income and state sales tax obligations on all sales into their home state. Also, if you have a salesperson working from a home office soliciting sales of equipment that include service contracts, you may have state corporate income tax obligations on all sales into their home state.
Nexus is a fancy word for saying an out-of-state company has an obligation to pay state and local taxes to that state. The most common way to create nexus within a state is by having a physical presence within that state. Some examples of physical presence include:
- having an employee;
- having an office;
- having a warehouse;
- storing inventory;
- engaging a third party for services; and
- attending a trade show.
State and local governments are becoming more aggressive in finding ways to create nexus. Many states have enacted economic nexus standards, which may require you to have a state tax obligation simply for exceeding a sales threshold in their state. These nexus standards do not require you to have a physical presence! Being proactive with state and local tax planning can help you avoid these economic nexus standards.
Dealerships can stub their toe when operating under the assumption that they are protected when their salespeople are selling tangible personal property with maintenance and/or warranty contracts. Public Law 86-272 restricts a state from imposing a net income tax on receipts derived within its borders from interstate commerce if the only business activity consists of solicitation of orders for sales of tangible personal property. However, if the service contract is executed within the state where the salesperson resides, it may cause the dealership to have a state corporate income tax filing requirement.
Sales Tax Sourcing Rules
When it comes to charging sales tax, sellers need to know whether they are in a destination-based or an origin-based sales tax state. In origin-based states, sales tax should be collected based on where you, the seller, are located. In destination-based states, the sales tax rate is based on where the buyer is located when possession of the goods is transferred to them. This can be problematic because some states have hundreds of tax jurisdictions. Unfortunately, there are not many origin-based states. Most states follow destination-based sourcing.
Sales tax is imposed on retail transactions. It applies to all retail sales of tangible personal property, and in some states services, in the state. Use tax is the compliment to sales tax. The use tax is imposed on consumers of tangible personal property that is used, consumed, or stored in this state. In an interstate transaction where the seller does not have nexus in the destination state, a customer will be responsible for accruing and remitting state use tax on the taxable purchase. State government agents are targeting out-of-state purchases during audits. This is an increasing trend nationwide and should only continue to grow during the internet-age we live in.
Shane Finn directs HBK’s State and Local Tax Practice with special emphasis on the impact of state and local taxation on dealerships. Shane can be reached by email at email@example.com; or by phone at 215-628-8080.