Selling to customers in multiple states sounds exciting (and lucrative), but it comes with added responsibilities. Recent laws mean you may now be on the hook for paying sales tax in states outside of where your ecommerce business is based.
From understanding where you need to collect sales tax (yes, that can vary by state or country) to figuring out the right rates to charge, there’s a lot to unpack—and a lot of potential pitfalls.
The penalties for mishandling sales tax can be steep, both financially and legally, and nobody wants to end up in hot water over something that could have been managed early on. While it might seem complicated, setting up a solid approach to sales tax can make a world of difference.
How does ecommerce sales tax work?
The topic of tax isn’t exactly thrilling, but it’s worth getting your head around the basic concept of sales tax so you don’t fall foul of the rules and regulations.
How it all began: the 2018 South Dakota v. Wayfair, Inc. case
The South Dakota v. Wayfair, Inc. case was a landmark ruling that completely changed the way online businesses manage sales tax.
Before 2018, most states required businesses to have a physical presence (like a store or warehouse) to charge sales tax. But Wayfair changed that, allowing states to require out-of-state sellers to collect and remit sales tax if they make a certain number of sales or transactions within that state.
Basically, Wayfair redefined what it means to have a “nexus” (a connection that obligates you to collect sales tax) with a state.
While the decision gives states more flexibility in how they define nexus, it also means online businesses now have to pay closer attention to where their sales are happening and whether those sales hit the threshold for collecting tax.
Understanding nexus
In ecommerce, “nexus” is the term used when you have enough of a presence in a state to require sales tax collection. But figuring out where you have nexus isn’t always straightforward and can hinge on a number of factors.
A traditional nexus is based on physical presence.
If you have a store, office, or warehouse in a state, you almost certainly have nexus there. But since the Wayfair case, even businesses without a physical footprint in a state could have nexus if they meet certain sales thresholds. Most states now require you to collect sales tax if you reach a certain amount in sales (often around $100,000) or a set number of transactions (typically around 200) within the state.
For example, if you’re an ecommerce brand selling to Californians and your sales there exceed $500,000 each year, there’s a good chance you have nexus there and need to collect sales tax from California customers.
Businesses need to calculate the correct rates
Once you’ve identified where you have nexus, the next step is calculating the correct tax rate—and here’s where things can get a little complex.
Sales tax rates can vary at both the state level and local jurisdictions. This means you might need to collect a base state rate and an additional county or city-level tax depending on where a buyer lives.
For instance, Texas has a base state sales tax rate of 6.25%, but some cities and counties add their own taxes on top, meaning the total rate could reach up to 8.25% in certain areas.
Once you know the rates you need to collect, you must register for a sales tax permit in every state where you have nexus.
To register, you submit an application to each state’s Department of Revenue. After you’re registered, you need to start filing returns immediately—a.k.a. reporting and paying the sales tax you’ve collected.
Filing frequency varies by state and can be monthly, quarterly, or annually, depending on your sales volume.
The importance of getting it right
Not collecting or remitting sales tax in states where you have nexus isn’t something the tax authorities take lightly.
If you fail to collect sales tax where you should, the state can actually require you to pay what you should have collected out of your own pocket. For a growing business, that can add up quickly and create a hefty tax bill you weren’t planning for. Many states also tack on interest and penalties for underpayment.
Failing to stay compliant might also get you audited. This can be costly and time-consuming because you need to dig up years’ worth of records.
7 best practices for handling sales tax
Understanding where you have nexus is probably the most complicated part of the process. Once you’ve done that, you can determine how much sales tax you need to collect in each location and when you need to file.
Here are some tips for keeping it simple.
1. Determine where you have nexus
Start by reviewing each state’s nexus criteria and identifying the states where it applies to you. Each state sets its own thresholds, so check if you meet them based on factors like sales volume or transaction count.
Another important aspect to consider is sourcing—whether sales are taxed based on your location (origin-sourced) or the customer’s location (destination-sourced).
Origin-based sourcing is simpler, as you only need to apply sales tax rates based on your own location. However, destination-based sourcing, which most states use, means you’ll need to calculate rates according to each customer’s location.
2. Register for a sales tax permit in your nexus states
Once you know where you have nexus, register for a sales tax permit with the authority in each of those states.
These permits let you legally collect and remit sales tax and the costs range from free to around $100. Nearly all states offer online registration.
Note that these permits often have expiration dates. Some, like Arkansas, are active until canceled, while others, like Colorado, need renewing every two years. It’s really important to keep track of these renewal dates to avoid accidentally doing business without a valid permit.
3. Classify products correctly
States have different rules about which products are taxable, and they sometimes charge different tax rates for different kinds of items. As a result, e-commerce sellers must correctly classify each product so they can determine both if they must collect tax on it and how much tax to collect.
This can be far more complicated than you'd think because state tax rules on which items are taxable can be very detailed.
For example, in some states, clothing is not generally taxable, but athletic wear is. In other states, clothing or footwear costing over a specific dollar amount is subject to sales tax, but not less expensive items. Likewise, in 24 states that are members of the Streamlined Sales and Use Tax Agreement (SST), candy that contains flour is taxed differently than candy that doesn't. For example, a candy-like Kit Kat, which does contain flour, may be taxed at a lower rate than a Hershey’s bar, which does not contain flour.
Because of these complicated rules, it is crucial that products are correctly classified as either taxable or exempt, and are also correctly classified based on product type, so they can be taxed at the correct rate. It's best to automate this process due to the myriad rules that apply to the taxation of goods and services.
4. Understand state-specific exemptions
Sellers do not have to collect tax on all products they sell. There are exemptions. Exemptions exist for two primary reasons:
- Certain products are exempt from tax. For example, many states make food, clothing, and some professional services non-taxable. This means when a seller sells these items, they should not collect sales tax on them. Look out for sales tax holidays too. Some states temporarily waive sales tax on select items, like school supplies or clothing during back-to-school season.
- Certain buyers are exempt from tax. This can include government entities, non-profits, schools, and resellers. When a seller sells goods or services that are normally taxable to these exempt buyers, the seller should not collect sales tax
To avoid taxing exempt products, sellers must correctly classify the goods and services they sell as taxable or non-taxable. Things become more complicated when it comes to exempt buyers, though. Since these buyers aren't paying taxes on items that ordinarily would be subject to sales tax, they must provide exemption certificates. These prove to the seller that they should not be taxed on their purchases.
Sellers must ensure that they have a valid exemption certificate on file for any buyers who are not charged sales tax on a transaction that is ordinarily taxable. If a seller is audited, they will need these exemption certificates to show they are in compliance with the law.
Exempt transactions can sometimes count toward establishing economic nexus, too, so sellers must know the rules so they can properly track when they have sufficient economic connections with a state to become responsible for sales tax collection.
5. File your sales tax returns on time
Your next priority is filing accurate sales tax returns.
Each state has specific filing schedules, and these are often tied to your sales volume. For instance, if you’re collecting under $100 in tax monthly, you may only need to file quarterly, while higher monthly collections could mean filing monthly.
It’s important to file a return for every state you’re registered in, even if you didn’t collect any tax during the period. Submitting a zero return means you avoid late fees or penalties some states impose for missed filings.
It helps to keep a visible, updated filing schedule for each state. For example, in Missouri, monthly sales tax returns are due on the very last day of the month, while quarterly returns are due on the last day of the month following the quarter’s end.
Tip: create a tax calendar that maps out every due date and filing frequency for each state where you’re registered.
6. Document everything and stay on top of changes
Keep meticulous records of the sales tax you’ve collected, any exemption certificates, filing deadlines, rate changes, and historical records of all your filings.
It’s important to stay on top of any changes or upcoming changes, too. Tax laws change more often than you think, and it can be a nightmare trying to stay compliant if you have nexus in multiple different states.
Tip: set up alerts for rate changes in your nexus states, new marketplace facilitator laws, changes in economic nexus thresholds, and product taxability updates.
7. Automate your sales tax tracking and filing
Manually tracking sales tax might work when your business is just starting and only has nexus in one or two states. But as you expand, manual filing can quickly eat up your time and leave you open to mistakes. With over 12,000 tax jurisdictions across the US, a dedicated sales tax automation tool can help you streamline the process.
Ecommerce sales tax software can simplify everything, from identifying nexus to automatically calculating the right tax rates based on each buyer’s address, and even filing your returns on schedule. As your business grows, investing in a tool like Numeral, TaxJar, or Avalara can help you confidently stay compliant, save time, and reduce the risk of errors.
Note that certain tools will handle just the rate calculations, some will handle just the registrations and filings, and others will do both.
What happens if you’re selling on Amazon or eBay?
If you’re selling through platforms like Amazon or eBay, your sales tax process can look a little different. These platforms have Marketplace Facilitator Laws, which means they’re responsible for collecting and remitting sales tax on your behalf in states where such laws are active.
Marketplace facilitator laws
For example, Amazon, Walmart, and Etsy all sell products from third parties. Under Marketplace facilitator laws, they are required to collect and pay sales tax on these transactions.
Marketplace facilitator laws can greatly simplify e-commerce sales. Small sellers who choose to put their products on these marketplaces don't need to worry about whether those transactions create economic nexus with multiple states. These sellers do not have to worry about having to register to collect sales tax in multiple locations and comply with all of the individual state tax rules.
Nearly every state in the U.S. has marketplace facilitator laws in place. Typically, these laws require the marketplace to collect and remit sales tax on behalf of sellers immediately, regardless of sales volume, though a few states set a small-dollar threshold before enforcement begins.
For example, Amazon offers an automated tax collection service. You can configure tax settings based on the states where you have nexus, and Amazon will calculate, collect, and remit sales tax on your behalf. Note that it’s still up to you to determine where you have nexus and properly set up the platform’s tax settings.
On eBay, sellers are also given the option to charge sales tax, and eBay automatically collects and remits tax for certain states due to marketplace facilitator laws. But again, you’ll need to keep track of any states where you might have additional obligations beyond what the platform collects, as well as stay on top of your filings.
What about Shopify?
If you’re selling on Shopify, you’re in the driver’s seat for sales tax compliance as the platform doesn’t automatically collect or remit sales tax for you. Instead, Shopify provides tools to make managing sales tax easier, but it’s up to you to set them up based on your nexus obligations.
To get started, you’ll need to configure sales tax collection in your Shopify settings.
This means identifying where you have nexus and entering the right tax rates for those regions. Shopify can calculate these rates automatically, but it’s up to you to stay on top of where your business has nexus and update your settings as things change.
While collecting sales tax through Shopify is pretty straightforward, remember that you’re responsible for filing and remitting it to the right states. The easiest way to do this is to use a Shopify app or third-party sales tax software like Numeral to automate tax collection and filing.
Read our step-by-step guide to setting up sales tax on your Shopify store.
What happens if you get audited?
State officials can perform a sales tax audit on your business in order to make sure you're in full compliance with sales tax laws.
Audits can happen to any business for any reason but often occur if the taxing authorities believe you have under-reported your sales or if something doesn’t quite match, for example, making payroll returns in a given state which may signify physical nexus, but not remitting sales tax.
The purpose of the audit is to determine if your business has collected and paid the required amount of sales tax that you owe based on your total taxable transactions.
When you are audited, you'll be asked to provide your financial documents. Auditors will review your records and will take a close look at your taxable transactions to make sure that you collected and paid taxes as required by state and local laws. Auditors typically look at:
- Whether there is a discrepancy in the sales tax returns you submitted and your primary source data
- Whether you charged customers the correct amount of sales tax on all purchases where tax was due
- Whether you have valid sales tax exemption certificates on file for any exempt sales
- Whether you paid state and local taxing authorities the full amount of sales tax that you collected from customers
If you fail a sales tax audit, you will need to pay all past-due taxes as well as penalties and interest. In the event that the auditors determine you intentionally defrauded the state, you could also face criminal charges.
What if you owe sales tax from previous transactions due to non-compliance?
If you owe sales tax from previous transactions because you didn't comply with state laws, you are at risk of being audited and being made to pay back taxes plus penalties and interest. It's best to be proactive in resolving the situation instead of waiting until a state begins investigating you.
One option is to participate in a sales tax amnesty program. States sometimes offer amnesty programs at the discretion of taxing authorities to encourage companies to come forward, voluntarily report unpaid taxes, and come into compliance.
When an amnesty program is offered, the state may waive or reduce penalties and interest. It may also provide relief from audits during the period covered by the program. However, you'd have to wait for the states where you're out of compliance to choose to offer one of these programs, and they don't happen that often.
Voluntary disclosure agreements (VDA) are another alternative, and this may be a more viable option since you control when you enter into one. When you create a VDA, you negotiate an agreement with the Department of Revenue for the state where you owe back taxes. If there are multiple states, you can choose to submit a Multistate Voluntary Disclosure Application.
You can reach out anonymously to negotiate the terms of a VDA, often using an accountant or lawyer as your agent. This allows you to agree on the terms -- including the waiver of penalties and interest -- before you officially come forward to report unpaid sales tax.
Your agreement should address the specific fines and fees that will be waived, as well as limitations on the look-back period and the creation of a payment plan. Once you have an agreement, you can comply with it to resolve your tax issues and come into compliance.
Origin v. destination rules
States and local areas have different rules for how sales taxes are calculated. When a seller sells an item to a customer, the seller must determine which tax rules apply to that particular transaction. That can depend on:
- Whether a state follows origin-based or destination-based rules
- Whether the seller is a remote seller or operating out of their home state.
If your home state is origin-based and you're doing business in your home state, you collect sales tax based on the rules where your business is located.
For example, Pennsylvania is an origin-based state which has a 6% state sales tax. Philadelphia also charges a 2% local tax. If your business is located in Philadelphia, then no matter where you are sending the items in PA (even to areas without the 2% local tax), you must charge 8% tax because you follow the tax rules in Philly -- the place where the sale originates.
By contrast, if your home state is destination-based, you collect sales tax based on where the item is going. South Carolina is a destination-based state with a 6% sales tax. If you are headquartered in Chesterfield, which has a 2% local tax, but you send your goods to a buyer in a different area of the state without the local tax, you'd only charge a 6% tax because you follow the rules that apply in the area where your item is going.
Things are different for remote sellers though, as states often have different rules for businesses that are paying taxes due to establishing economic nexus (including Pennsylvania). Specifically, even many origin-based states apply destination-based rules to remote sellers. This means they require remote sellers to charge taxes based on the rules in the area where the item is going.
What is SST?
SST stands for Streamlined Sales Tax. It is an initiative to streamline or simplify the collection of sales tax across multiple jurisdictions.
Around half of all U.S. States that impose sales and use taxes are members of the Streamlined Sales Tax Project, including Arkansas, Georgia, Indiana, Iowa, Kansas, Kentucky, Michigan, Minnesota, Nebraska, Nevada, New Jersey, North Carolina, North Dakota, Ohio, Oklahoma, Rhode Island, South Dakota, Tennessee, Utah, Vermont, Washington, West Virginia, Wisconsin, and Wyoming.
SST member states are typically required to have just one local tax rate, and they must use standard definitions for administrative terms, products, and services. Sellers can also use a single platform, the SST Registration System, to register for sales tax in all of the member states and can use a standard one-page exemption certificate for all exempt transactions within the SST states.
What should drop shippers know?
Drop shippers send products directly from manufacturer to consumer, without keeping items in inventory. Unfortunately, sales tax compliance can become complicated for drop shippers. In general:
- Drop shippers collect taxes from customers when the transaction is taxable if they have nexus in the state where the product is being shipped.
- Those drop shippers provide resale certificates to the supplier they get products from. The drop shippers don't pay taxes on the items they're buying directly from the supplier to send to customers.
- The drop shippers pay the taxes that they collect from customers to states where they have economic or physical nexus
- Suppliers keep the sales tax exemption certificate on file as proof that the transaction was exempt in case of an audit.
Both suppliers and drop shoppers have obligations under this framework.
Suppliers must ensure that there is a valid exemption certificate for every drop-shipper to which they are providing products to without charging taxes. The drop shippers must make sure they track when they reach economic nexus or determine if they have physical nexus in a given jurisdiction. And it is worth noting that some states do not accept out-of-state resale certificates, further complicating things.
As soon as a drop shipper has established nexus with a state, they must begin collecting the appropriate amount of tax from customers to avoid falling out of compliance and risking an audit that leads to back taxes and penalties.
What sellers need to know about cross-border sales and tax compliance
Cross-border sales usually require Value Added Tax (VAT) or Goods and Services Tax (GST) on top of any other local sales taxes. Unlike US sales tax, VAT and GST are consumption taxes paid by the end customer, and they’re often included in the product price.
The requirements and rates for VAT or GST vary from country to country. If you’re selling to customers in the EU, VAT generally applies across the board, with rates varying between 17% and 27% depending on the country.
Some countries have specific rules for low-value goods or digital products. For example, Australia requires a 10% GST on imported goods over AUD $1,000, while the EU has a threshold-free VAT policy for all imported goods.
For most regions, the rule of thumb is if you’re selling to individual customers (as opposed to businesses) and your sales exceed the country’s threshold, you’ll need to register, collect, and remit the appropriate tax.
Register for tax collection in each country with significant sales
Once you know where you’re likely to have tax obligations, the next step is registration. Countries set different thresholds for when to register for VAT or GST, usually based on annual sales volume.
For instance:
- European Union: As of 2021, the EU introduced the One-Stop-Shop (OSS) system, which makes VAT easier for ecommerce sellers. If your annual sales to EU customers exceed €10,000, you need to register for VAT in an EU country and can use OSS to remit VAT for all EU sales, rather than registering in each individual country.
- United Kingdom: Post-Brexit, UK VAT regulations now apply separately from the EU. Cross-border ecommerce sellers shipping to the UK need to collect and remit VAT if the consignment value is £135 or less. For amounts above £135, the buyer is responsible for paying VAT at customs.
- Canada: GST/HST registration is required if your Canadian sales exceed CAD $30,000 annually—rates are different in each province.
Understand “distance selling” rules and import duties
Distance selling rules often dictate when you need to start collecting tax based on the destination country’s laws, especially in the EU. Once you pass a certain sales threshold, you need to collect VAT at the buyer’s rate, not your own. This applies even if you’re based outside the buyer’s country.
On top of this, you might need to pay import duties, especially if you’re selling high-value goods. Import duties are separate from VAT or GST and are usually calculated based on the product type, country of origin, and declared value.
Final thoughts
Understanding and managing sales tax is definitely not the most glamorous part of running an ecommerce business, but it’s a non-negotiable.
With laws now placing more responsibility on sellers to collect and remit taxes across various states (and even countries), it pays to get it right from the start.
By identifying where you have nexus, understanding the specific rules for each region, and investing in automation tools, you can make sure you’re compliant from the get-go—and avoid any nasty, expensive surprises while you’re at it.
