By definition, nexus means a connection exists. The term nexus is used in tax law to describe a situation in which a business has a “nexus” or presence in a state and is thus subject to state income taxes and to sales taxes for sales within that state.
What Determines Nexus?
Nexus is determined differently for income taxes and for sales tax purposes, this blog focuses on sales tax purposes.
For Sales Tax Purposes
Nexus for sales tax purposes is less defined than for Income Tax purposes. Here are some examples where a business might have a sales tax nexus in a state:
- If the business has a physical location in the state
- If there are resident employees working in the state
- If the business has property (including intangible property) in the state
- If there are employees who regularly solicit business in the state.
The issues relating to whether a business has nexus in a state and is subject to the state’s taxing authority can be complex. Each state views the concept of nexus differently.
In the past, nexus for state sales tax purposes has required a physical presence in that state. Recently nexus has been expanded to include the use of affiliates in a state.
Since the early ‘90s, states haven’t required multi-state online retailers to collect sales tax, unless they had a significant physical presence (i.e. warehouse, office, sales force, etc.) or other demonstrably direct connections within that state.
Years of legal battles between multi-state online retailers like Amazon and states like California hinged on whether these retailers had enough of a connection to trigger a nexus obligation. Meanwhile, many states enacted Amazon laws to require more multi-state online retailers to collect sales tax for the first time. These laws expanded definitions of nexus to include online-specific relationships such as affiliate and web advertising. Multi-state online retailers, catalog retailers, and businesses that make significant sales over the phone must also keep track of proposals at the federal level that would allow all states to change nexus. The days of tax-free online shopping may be over, but the debates rage on. Amazon laws vary from state to state and typically contain one or more of the following elements.
- Affiliate and Related Entity Nexus
- Click-Through Nexus
- Consumer Use Notification
By incorporating affiliate and click-through language within the statutes, Amazon laws effectively remove the traditional nexus loophole—wherein a company without a significant physical presence is not obligated to collect sales tax.
Affiliate and Related Entity Nexus
One strategy states use to capture more sales tax revenue is to define the kinds of affiliate or subsidiary relationships that trigger nexus for out-of-state companies. Affiliate nexus describes a type of relationship between an out-of-state seller and its in-state affiliate that triggers a nexus obligation. An affiliate is usually considered an entity within a state with activities directly benefiting an out-of-state seller. Many state laws designate what kinds of affiliate relationships trigger sales tax collection obligations on remote sellers, so tracking each state is a good idea.
Click-through nexus is another method states employ to capture more sales tax revenue. It is specifically aimed at multi-state retailers that use web advertising—when that in-state web advertisement clicks through to a remote e-commerce portal in order to complete a sale. More states have adopted affiliate laws than click-through laws, but many are now considering click-through nexus legislation.
Consumer Use Notification
Some Amazon laws also include a consumer use tax notification component, which requires vendors to notify consumers of their use tax obligations and/or to report in-state sales to revenue authorities normally on their personal tax return. Consumer use tax is a tax paid by the consumer on tangible items, for which they were not required to pay sales tax by out-of-state retailers. Technically speaking, there is no such thing as tax-free online shopping. It’s just that rather than pay sales tax at the time of purchase, consumers are required to submit consumer use tax at a later date to the state. They’re effectively paying tax on the use of the product. Consumer use tax is intended to offset sales tax revenue not collected by multi-state businesses. Very few consumers ever actually pay consumer use tax, but that is likely going to change soon. While most states don’t yet require online retailers to send out use tax reminders to customers who don’t pay sales tax, some do.
According to many media outlets, states that let multi-state online retailers out of collecting sales tax from customers, give those retailers an advantage over brick-and-mortar stores. Cries of unfairness have resulted in a host of bills, notably the Marketplace Fairness Act of 2013, which passed the Senate in early May, 2013. If the bill is eventually signed into law by the president, it would give states the authority to require remote retailers, such as online sellers, to collect sales tax. The bill would apply only to remote retailers who have annual remote sales in excess of $1 million (though this threshold is likely to change in the final legislation). The bill as written would give states the authority to collect sales tax from remote sellers, if they sign the Streamlined Sales Tax Agreement (SST) or if they implement a number of sales tax administration simplifications. The SST, currently signed by more than 20 states, works to simplify and create uniformity in sales tax administration rules. States adhering to the SST follow guidelines intended to ease the burden of sales tax collection and remittance for multi-state businesses. These guidelines include:
- Uniform definitions within tax laws.
- Rate simplification.
- Uniform-sourcing rules.
- Simplified exemption administration.
If federal legislation passes as proposed, SST states would have the authority to collect remote sales tax 180 days after passage. Non-Streamline states would get that authority 6 months from the day it’s enacted. Some states will be ready immediately, while it will take several years for other states to comply with federal requirements.
Retailers need to be ready, but should carefully monitor which states have authority so they can start collecting when required.
The bottom line is that statutes are changing at the state and federal level to require more out-of-state retailers to collect sales tax. And it’s not just the online retailers or mail order companies that will feel the pinch. Any businesses that sell across state lines need to be paying close attention. “It’s the end of nexus as we know it,” the detective concluded, wrapping up the involved tale. “Whether it’s affiliate and click-through nexus, or consumer use notification requirements … or even through passage of a blanket federal law, it’s very likely that multi-state sellers will soon have to collect sales tax.” “Those are the facts, ma’am. It’s up to you what you do with them.” He paused, looking at her over the top of his glasses. “You may or may not be ready for this. But I’ll guarantee you one thing: The state auditors will be on this like white on rice.”
*information summarized from whitepaper by Avalara (www.avalara.com)