Every organization should understand how to determine where they have a sales tax obligation, especially as they expand into more locations or adopt ecommerce options. Both physical nexus and economic nexus can dictate how states can impose sales tax collection and remittance responsibility on businesses.
Often, determining nexus lands on accountants and bookkeepers as their clients may or may not understand the requirements.
Almost exactly three years ago, the Supreme Court ruled in South Dakota v. Wayfair, Inc. that states can enact remote collection requirements. Essentially, sellers that do not have a physical location (or presence) in a particular state - but do make sales into that state - can be charged sales tax. At this point, nearly every state has established economic nexus requirements for remote sellers and marketplace facilitators and those requirements have gone into effect. Failing to account for these changes can lead to regulatory fines and unnecessary risk.
What is physical nexus?
Before we discuss economic nexus, let’s review the basics of physical nexus, which is established through people or property:
- Fulfillment centers
- Inventory locations
- Trade Shows
Physical Presence nexus standards exist in every state that has a sales tax and should still be the first question sellers ask when determining their nexus profile. Do I have people or property physically in a state? Your obligation to collect and remit tax generally begins the moment that nexus is established.
What is economic nexus?
Economic nexus is created by either sales volume or number of transactions in a state, and has been permissible since June 2018. It is the economic connection that remote sellers and marketplace facilitators have to a state. The most common thresholds are $100,000 or 200 transactions. However, it does vary from state to state, so be sure you verify the requirements in each separate state in which you have economic nexus. This table provides details for each state.
It’s also important to note that some states only count certain sales (gross versus retail versus taxable) and some don’t count the number of transactions. For example, the Alabama economic nexus requirement is $250,000 of retail sales of tangible personal property delivered into the state for the previous calendar year. However, California’s threshold requirement is $500,000 for total combined sales of tangible personal property for delivery in California by the retailer and all persons related to the retailer. California’s requirement also applies to the previous or current calendar year.
Economic nexus can also apply to marketplace facilitators, which are businesses that facilitate sales of a third-party seller’s product. The specific definition of a marketplace facilitator can vary from one state to the next, and just because a state has certain requirements for remote sellers, it may not have the exact same ones for marketplace facilitators.
Economic nexus complexities
Once a remote seller or marketplace facilitator crosses a state’s economic nexus threshold, the obligation to register is often (but not always) immediate. Furthermore, if you drop below the threshold you may have the right to cancel your registration. But it’s essential to still be careful of physical presence requirements.
As discussed above, each state will have its own complexities, especially with regard to the threshold measurement period. For example, the Minnesota economic nexus threshold measurement period is the 12-month period ending on the last day of the most recently completed calendar quarter. Comparatively, New York counts the immediately preceding four sales tax quarters, while Rhode Island uses the immediately preceding calendar year as a threshold mark.
There are still some sellers that are playing catch-up in a post-Wayfair world. Accountants and bookkeepers may need to look back to identify when economic nexus was first established to reduce the risk of notice assessments and penalties. If a state enacted an economic nexus requirement concurrent or subsequent to the 2018 Wayfair, Inc. decision, those rules can be enforced. This means that companies could be assessed back to the date those rules became effective.
Remote sellers and marketplace facilitators cannot afford to assume that they do not meet economic nexus requirements. Take the time to understand the requirements for each state in which you have sales, and don’t assume that you can do it all on your own. Working with sales tax experts will ensure that you can continue to avoid risk and stay compliant.