Supply chain disruptions and worker shortages might be exposing you to compliance problems if you’re not tracking tax changes carefully, specialists said in a webinar hosted by finance software company Avalara.
If you’re in a manufacturing company that’s had to switch suppliers to get around supply chain problems, these new suppliers could be exposing you to tax nexus that you didn’t face before, said Liz Armbruester, Avalara’s global compliance senior vice president.
Tax nexus occurs when you have a physical presence in a state, whether that’s an office, store or even just a single salesperson. Since 2018, nexus has been expanded to include an economic presence. That’s a presence based on sales in the state, even if you don’t have a physical presence. That means online or mail-order sales can trigger nexus for tax collection purposes. All 45 states that impose a sales tax also recognize some form of economic nexus today, said Armbruester.
States differ on how they apply physical and economic nexus, so getting tax compliance right requires knowing those differences and staying on top of changes in rules. Although physical nexus tends to be easier to determine, since you either have an office, warehouse, retail presence or salesperson in the state or not, it can still come with complications. Some states tax all sales, for example. Others exempt sales to nonprofits or governments. And not all products and services are taxable.
There’s more variety in how states apply economic nexus. They typically require companies to track, collect and remit taxes on sales that exceed a volume and dollar-amount threshold. In South Dakota, for example, which launched the economic nexus era when it won a U.S. Supreme Court case against online retailer Wayfair in 2018, companies are to collect and remit taxes once they reach $100,000 in gross sales or have 200 transactions in the calendar year.
The obligation is for both the current and the previous calendar year, so even if you believe you’re meeting the threshold for the first time this year, you still need to go back and track sales the previous year to be certain you don’t owe back taxes, too.
"This is an area of the law where folks should really have some professional advice because if you get a good CPA or attorney, they’re going to ask you these same questions [that the state is going to ask]," said Scott Peterson, Avalara’s vice president of tax policy.
Even if much of your sales are through an online marketplace like Amazon or Etsy, you still need to track and be prepared to report your obligations even though it’s the marketplace that has the requirement to collect the tax, said Armbruester.
It’s also important to track and prepare to report sales even if you’re not physically shipping to a buyer and therefore don’t know where the buyer is. That’s often the case for software purchases that are downloaded online or accessed on the cloud. The location of the buyer might be irrelevant to you as the software provider, but you still need to track the buyer’s state for reporting purposes, the specialists said.
Companies have had since 2018 to understand and organize compliance around economic nexus requirements. But the pandemic has thrown a curve ball into the equation to the extent companies have had to shift their supply chains to get around bottlenecks and supply shortages. They now must understand how new suppliers are changing where companies owe taxes and how much. It depends not just on where the new suppliers are located but the types of goods or services they’re getting from the suppliers, since states tax products and services differently.
The same thing applies to worker changes companies have made in response to the pandemic. Since they’ve gone remote, companies are employing more people in states where they previously didn’t have physical nexus. All it takes is one person in another state to create nexus. In many cases, especially when it comes to salespeople, independent contractors can even trigger nexus. That means people you don’t hire but who are under a contract to provide you a service can change your tax obligations.
"A 1099 salesperson in lieu of a W-2 employee can create a physical presence," said Peterson.
Not all contractors trigger nexus, but salespeople typically do, he said.