For small business owners, understanding the nuances of sales tax obligations at the federal, state, and local levels is vital for sidestepping financial pitfalls during tax season. Yet, with varying regulations across jurisdictions, the process of collecting and remitting sales tax can feel overly complicated to business owners who are just getting their bearings.
Here’s what you should know about collecting sales tax for your business.
What is sales tax?
Sales tax, a consumption tax charged to the end user of goods and services, is imposed by governments, to which businesses pay that money directly. However, most tax laws allow businesses to collect that fee from their customers at the point of purchase, which is why everything from groceries to appliances is almost always more expensive than the sticker price.
Each state imposes its own tax policy on businesses that operate within its jurisdiction, with rates varying from state to state, though it generally falls somewhere between 4 and 7%. In addition to state sales tax, local and municipal governments may also impose their own sales taxes.
Alaska, Delaware, Montana, New Hampshire, and Oregon are the only states in the country that do not levy a sales tax, though Alaska does permit city and county governments to charge up to 7.5% local sales tax.
Is my business required to collect sales tax?
While there are a few exemptions to collecting sales tax — such as nonprofit organizations, which can occasionally obtain tax exemption — depending on what products you sell and for what purpose, most businesses are required to collect it. Not collecting sales tax can result in costly consequences plus jail time and fines; therefore, it’s important to be aware of your tax obligations by answering the following questions:
- What’s your sales tax nexus, or the locations your company serves and conducts business?
- Is obtaining a license to sell or a sales tax permit mandated by your state or local government?
- Do state and local laws subject your products and services to sales tax?
- What are the rules for collecting sales tax from online sales, and how do they affect the states where your sales occur?
Your business is responsible for paying sales tax in any areas in which your company conducts business. There is no flat sales tax rate for all cities and counties in the country. The more areas your company serves, the more individual sales tax rates you’ll need to calculate.
In addition, the size of your company is almost always irrelevant as to whether you're required to pay sales tax. Even if you’re a sole proprietor who operates from within the confines of your home, you still have to pay sales tax if the product or service you offer is taxable within your state.
Does the federal government impose sales taxes?
While the federal government technically imposes no sales taxes of its own, it taxes a handful of products no matter which state your company is incorporated in via a federal excise tax. This tax is the merchant’s responsibility to collect and pay to the government, and it’s imposed on specific products and services, including gasoline, alcohol, cigarettes, indoor tanning, airline tickets, and a few other goods and services.
Unlike sales tax, which consumers see added to the total at the point of sale, the excise tax is generally hidden from the consumer by being built into the final price of an item or service. By doing so, merchants pass on the tax responsibility to consumers who then indirectly pay it when they purchase the product.
Collecting sales tax from customers has been made relatively easy, thanks to technology like point-of-sale (POS) software, accounting software, and other useful tools.
How do I register to pay sales tax?
Registering your company to pay sales tax is a relatively straightforward process. Registering entails the following steps:
- Ensure that you have your employer identification number (EIN) handy. You’ll need this number to obtain a sales tax permit from your state.
- Find the tax authority in your state that oversees sales tax. The Federation of Tax Administrators maintains an online list of such agencies in each state. You can find your state’s respective taxing authority here.
- Register for a sales tax permit. A sales tax permit will allow you to begin collecting and paying sales tax as needed. The permit registration process varies from state to state, though it always requires the aforementioned EIN and generally involves queries about your company’s industry, founder(s), and number of employees.
How do I determine my company’s sales tax rate?
Finally, determine your company’s sales tax rate. This rate is informed by several pieces of arithmetic, including where your products are sold and each area’s tax policy. For example, some states, cities, and counties charge sales tax based either on the location of the seller or the location to which the product or service your company sells arrives.
To determine the sales tax rate for your business, you’ll need to do the following:
- Research local sales tax rates in the states where your business has a presence.
- Combine all sales tax rates — including state, county, and city — to get your total rate. For multistate businesses, calculate combined tax rates from each jurisdiction to determine the tax rate.
- Identify which products or services are subject to sales tax. Certain items may be tax-exempt, particularly during sales tax holidays.
- Calculate the total price of all taxable products or services. For single taxable items, its price tag is the total sales price. For multiple taxable goods or services, add up the individual prices of each taxable item to calculate the combined total sales price.
- Determine the sales tax rate and the total price to be charged to the customer using the sales tax formula.
[Read more: CO— Strategy Studio: Navigating Tax Season]
How do I collect sales tax from customers?
Registering to pay sales tax is arguably the hardest part of the entire process. Collecting sales tax from customers has been made relatively easy, thanks to technology like point-of-sale (POS) software, accounting software, and other useful tools.
Here’s how to begin collecting sales tax from customers:
- Define your tax liabilities. First, considering your business’s nexus, determine your tax obligations. For online retailers, you’ll need to determine state requirements regarding collecting and paying for sales tax on online transactions.
- Register in each sales state. Next, register with the taxing authority for each state you are selling in. You will not be permitted to collect sales tax on each transaction until you do.
- Determine your rates. Determine the sales tax rates that will apply to your customers' purchases and establish your system for collecting those taxes. Businesses are legally obligated to display an item’s sales tax on whichever transaction system they use. Fortunately, the vast majority of modern POS software handles that calculation automatically, as do various apps that smaller businesses may opt to use instead.
- Collect sales tax. Finally, as you begin collecting sales tax, maintain accurate records of sales and the corresponding taxes charged to customers. Many POS systems automatically catalog sales tax after processing it during a purchase. Some accounting and POS systems can account for sales tax levied in various locations, automatically calculating your sales tax and enclosing that information within your records.
[Read More: 4 Types of Technology That Can Help Grow Your Sales ]
How do I remit sales tax?
Remitting sales tax to the government requires more than simply sending payments to the state. Most states require business owners to file sales tax reports, which detail each taxable transaction with its sales tax noted on the invoice, to serve as a record for both the business and the customer of the tax collected.
Each state has specific requirements as to what information is required within these reports — some require a breakdown of the tax collected by different jurisdictions, such as cities or counties, while others have a more straightforward process. However, most require that company owners include information on all of their sales, including tax-exempt transactions.
Though each state imposes different sales tax payment rates, it’s important to remember that the more sales your company makes, the more frequent your sales tax payments will be. Most states require businesses to pay sales taxes once per quarter, but this frequency may increase to once a month or more if your company makes a lot of sales.
Some states may offer a discount if you file your sales tax payments early. As with virtually everything else that pertains to sales tax, this too depends on where your business is headquartered.
Late payments, though, are another story, as state governments quickly respond to businesses that don’t pay their sales tax on time. Most states typically charge a heavy fine for late tax payments, but others may hold business owners personally liable for late or withheld tax payments.
The federal government may get involved as well. Though the IRS is a federal entity, the organization retains the power to impose a trust fund recovery penalty on any business that it judges to be willfully ignorant of local sales tax provisions. As it happens, this penalty also applies to any late payroll taxes, so paying on time is pertinent.
[Read more: What Are Estimated Tax Payments For Businesses?]
How can I keep track of regulatory updates?
Business owners who pay their sales tax on time are in good shape, but it never hurts to keep current on your state’s regulations. Taxes change frequently at the local, state, and federal levels, and it's important to make sure that you’re not missing out on a new rate or regulation.
There are several ways that you can keep track of your state and local area’s tax policies. The aforementioned state tax authorities can be great resources for that information. It may also be helpful to check-in with your local chamber of commerce or other business organization for sales tax updates.
This story was originally written by Ian Coppock.
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