In a 5-4 decision in South Dakota vs. Wayfair, Inc., the Supreme Court ruled in June of this year that South Dakota could collect online sales tax from a business that did not have a physical presence in the state. If your business conducts online transactions, pay close attention. Tax revenue can now be realized from previously exempt internet retailers selling goods and services in the state.
While there are efforts to create a uniform sales tax, it doesn't exist yet. For retailers, the online sales tax ruling means deciphering and complying with layers of state, county and municipal tax due dates, regulations, and filings. Otherwise retailers could risk serious repercussions in the form of fees, interest, and other penalties. Even retailers with the best intentions can get easily tangled in the nearly 10,000 tax jurisdictions that currently exist in the United States.
Here is some information to help you better understand the Wayfair decision, and some considerations to help you prepare for this significant change.
Background on sales tax collection
Prior to Wayfair, there were two landmark tax cases (1967 and 1992) related to the collection and tax remittance on a transaction. These set the precedent that physical presence is the standard. However, commerce has changed significantly since 1992, particularly as many retailers focus on conducting business online.
Nancy Manzano is a tax director in the Chief Tax Office at Vertex, which provides insights on the impact of tax regulations, policy enforcement, and emerging technology trends on national and global tax department operations.
"States have been relying on the end consumer to pay tax on the transaction. In reality, states are getting about 5 to 6 percent. This is a huge dent in states' overall tax collection and their budgets. Revenue that is rightfully theirs is gone," she explains.
That is until Wayfair, Inc. challenged South Dakota's law, which the state passed in 2016, declaring that the state was entitled to collect the sales tax if online sellers earned more than $100,000 or had more than 200 separate sales transactions into South Dakota. The Supreme Court ruled in South Dakota's favor, essentially overruling its own 1992 decision.
Tangled tax laws
The Wayfair ruling has opened the door to a surge of online sales tax laws.
"Keep in mind the Supreme Court said South Dakota's thresholds and rules are a reasonable way to approach it, but there was no explicit approval of any specific standard. Different states have different thresholds and rules. Effective dates are all over the map including some rules that are retroactive," Manzano says.
Most large businesses are often already equipped with technology and processes that track, collect, and remit online sales tax. Smaller and mid-sized businesses could be the ones that find this considerably challenging.
It’s important to start figuring out what you should track and put a process in place to do so. Your business may not be affected now, but if you're planning on growth, you need to be ready.
"I hope small and mid-sized companies are taking Wayfair seriously. Repercussions are grave. Auditing, penalties, loss of income – these are real costs if you're not ready," Manzano says.
Manzano shares retailers' biggest concerns along with explanations and answers so they can be prepared and confident with the new online sales tax ruling.
- Thresholds and compliance: Start figuring out in which states you will need to track and remit online sales tax. The Remote Seller State Guide from Vertex can help you figure out where you have a remote seller presence. Even if your business is currently operating below current thresholds, start planning now so you can stay compliant through a growth period.
- Retroactivity: Some states are asserting that their online sales taxation rules were in place, the Supreme Court justified their validity, and businesses should have been complying all along. Penalties and interest that can be issued against back taxes can be significant. Instead of waiting on the slim chance that Congress will address this issue, businesses should be proactive. Manzano recommends voluntary disclosure where a business acknowledges that it owes a state money and is calculating how much. This may increase your chances of the state waiving penalties and interest. "Some states may offer amnesty. Pay attention to those opportunities … if they come around," Manzano says.
- Internal systems and processes: Assess your current systems and processes from a calculations standpoint. You will have a lot more tax returns to file each month. The more states you pay tax to, the more audits you could be subjected to each year. If a state averages an audit every three years and you're remitting taxes in four to five states, you may face multiple audits each year. Conduct a gap analysis and figure out how to complete the process. You may need better technology or an external tax service provider to ensure tracking and compliance. “In my experience, state sales tax auditors are very specific and thorough. It's up to them to ensure you are compliant and understand the details,” Manzano observes.
- Jurisdictions: Businesses may find different thresholds at the local and state level. Once you cross a threshold in a state, even if you don't meet the threshold in a jurisdiction, collect the sales tax, Manzano says. But pay attention to future developments. There is complexity at the local level. Some are administered by the state while others collect their own. Cities and counties may even develop their own rules, adding another layer of complexity.
- Goods and services: Some states' thresholds cover both goods and services, essentially covering all transactions.
- Wholesalers: Be careful not to make assumptions. Wholesalers often have a retailer division. Check with applicable state regulations.
Manzano’s observations ring true for all small and medium-sized businesses when it comes to managing the deep complexity and evolving nature of the online sales tax ruling. Calculating sales tax, keeping pace with tax rates, tracking, collecting, and remitting is time-consuming, and could be costly in the event of an error. Outsourcing sales tax services, especially now, can save you time and reduce your risk of potential fees and headaches leaving you free to do what you do best: nurturing your business growth, caring for employees, and focusing on the organization's core purpose.
"You want to be focused on growing the business, not filing tax returns. Think about it now so you are not surprised later," Manzano says.