Post Wayfair: Economic Nexus and Sales Tax Compliance

In 2018, in South Dakota vs. Wayfair (“Wayfair”), the U.S. Supreme Court denied a challenge to South Dakota’s law requiring remote sellers who sell into the state to collect sales tax if they exceed the state’s economic nexus threshold. The decision has materialized into new laws—every U.S. state that imposes a sales tax has passed “economic nexus” legislation—that require out-of-state businesses selling to customers in their states to collect and remit sales taxes on those sales once they have reached the certain sales or transaction thresholds.

Before Wayfair, businesses were required to collect and remit sales taxes only if they had a physical presence in a particular state. Physical presence could refer to an office or other property, or to an employee entering the state to sell or provide services. But in the wake of Wayfair, a physical presence is no longer required for a state to compel sales tax collection. Economic nexus is sufficient and triggered when a business from outside the state sells a product or taxable service into the state.

Economic nexus laws on remote sellers generally require out-of-state sellers to register, then collect and remit sales taxes when the sellers meet sales or transaction count thresholds, which are set independently by the each state. Some use strictly a dollar amount as a threshold, others a dollar amount and/or a number of transactions. Many states have chosen $100,000 in sales or 200 transactions as the levels of activity that trigger economic nexus, but each state has its own thresholds, rules, and guidelines.

What Nexus Means to Businesses

Many small and mid-size businesses have been slow to react to the new economic nexus laws. Complying can be cumbersome as well as expensive, especially if the business sells into several states, as each state may have different nexus requirements and sales tax rules. The sales tax nexus thresholds apply to annual activity, but sales tax filings are typically required on a monthly or quarterly basis, which can require the seller to add employees, make modifications to its accounting or resource planning systems, or engage an outside consultant or resource to keep up with all their sales tax compliance requirements.

Despite complexity and cost, businesses small as well as large clearly are obligated to determine what additional states they will have to file in. They will have to register with the revenue departments in those states, collect sales tax from their customers, then file returns and remit the taxes. As well, some states have begun to apply the economic nexus standards to corporate income taxes, which could require sellers into their states to file and pay income taxes.

Still, there are subtleties that require examination to determine where and even whether to register. Some states count only taxable sales towards their thresholds; others include gross sales or receipts. For example, a manufacturer that sells parts to a wholesaler for resale will not include those “sales for resale” in states where exempt sales are excluded from the threshold measure. However, that manufacture should ensure it receives an exemption certificate from its customer. Tracking and maintaining exemption certificates is key to avoiding any issues with a state that might later challenge the manufacturer’s nexus or filing determination.

There are also the matters of materiality and practicality. A business could technically have an obligation to register and file sales tax returns, but will it do so if no tax liability exists and no taxable sales are planned? It is not uncommon for these businesses with minimal exposure to eschew registration. Often the minimal exposure is manageable compared to the administrative burden and costs associated with registering and regularly filing sales tax returns.

HBK SALT Solutions

How do you measure all those thresholds to determine where you need to register for sales tax? If a state economic nexus law went into effect in 2018, but your business hasn’t registered yet, what do you owe for prior years? There is often more than one solution to the economic nexus puzzle and more than one answer to the question of how to address the related sales tax compliance. The solution for your business needs to consider the quantified tax liability and associated risk. HBK can review your business activity and provide a concise economic nexus analysis.

The HBK SALT professional team has been helping businesses address economic nexus and resolve their sales tax compliance issues with state revenue departments since Wayfair broke in 2018. We have sales tax nexus and compliance conversations with clients on a daily basis. We help clients evaluate their sales tax nexus and quantify their exposure.

Identifying where your business has sales tax nexus is simply the first step on the road to compliance. There are many factors to consider in assessing sales tax nexus and what steps to take. HBK asks the right questions to craft a solution tailored to your business and its resources. There are many factors that go into determining the best course for addressing sales tax issues arising as a result of economic nexus. Our discussions with you will clarify your company’s issues and needs. The following questions provide a sense of the nuance involved in sales tax and also help identify the options available to taxpayers as they plan for sales tax compliance.

  • Is your product or service taxable in states where nexus has been established?
  • Does your business have a process in place to obtain exemption certificates from customers?
  • Does your business have past tax liability that is best addressed through a voluntary disclosure agreement?
  • Does your business have the resources to handle sales tax registrations in multiple states?
  • Does your business have the resources to file sales tax returns in multiple states?
  • Are your systems capable of calculating sales tax rates and reports in all jurisdictions?
  • Does your business need a sales tax software solution?
  • Has your activity in other states created nexus or filing obligations for income/franchise or gross receipts taxes?

HBK will evaluate your obligations based on your response to these and other questions and provide an efficient solution. We will develop a plan with your input to address your sales tax responsibilities in an effective manner while considering risk and materiality. Our plan will consider a number of solutions from voluntary disclosure agreements to prospective registrations. A voluntary disclosure agreement is a proactive approach that allows us to contact a state without disclosing the taxpayer’s identity and typically results in the abatement of penalties and a limited lookback period in exchange for payment of tax and interest. If the economic nexus has been more recently established, we may put together a plan for prospective sales tax registration and documentation of prior periods. Through our experience and work, we have established relationships with state and local revenue departments throughout the nation. Our expertise and these relationships have allowed us to save our clients millions of dollars in reduced obligations while also increasing our clients tax compliance.

As state and local governments seek to generate more revenue, they are leaving few stones unturned. We expect a substantial increase in state sales tax examinations in the coming years. States spent freely to combat the COVID pandemic and as business returns to normal they will be seeking to refill their coffers. Economic nexus is a tool they can use to generate substantial revenue and its primary target is out-of-state businesses. It is imperative that taxpayers engage their state and local tax expert to help them negotiate the current sales tax landscape and prepare to protect their bottom lines.

About the Author(s)

Tim Adams is a Principal and National Director, State and Local Tax, with HBK CPAs & Consultants. He joined the firm in 2021. His background includes work with a Top 100 and a Big 4 accounting firm, and more than 25 years’ experience advising clients on multi-state tax matters. Tim and his teams have advised clients regarding multi-state income/franchise, sales/use, gross receipts, and personal property taxes, along with incentives/credits and unclaimed property. He has identified and recovered tens of millions of dollars in overpaid income/franchise and sales/use taxes for his clients. Further, he has significantly reduced state and local tax assessments for clients across the country.

Matt Dodge is a member of the HBK State and Local Tax (SALT) practice with a focus on sales/use tax. Matt has vast experience in the construction, oil & gas, manufacturing, retail, service provider and transportation industries. He can be reached at 724-934-5300, or by email at mdodge@hbkcpa.com.

Hill, Barth & King LLC has prepared this material for informational purposes only. Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding the matter.

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