6 Essential Steps for Managing Sales Tax Compliance

The good news is that managing sales tax compliance doesn't have to be an impossible task. In fact, if you follow just six simple steps, you can ensure that you operate within the rules and protect your company from getting into trouble with tax authorities trying to collect unpaid funds. 

From understanding sales tax nexus to properly registering for sales tax permits to correctly calculating sales tax and remitting payments due, this guide will explain all your business must do.  

Step 1: Understand Sales Tax Nexus

Businesses don't have to pay sales tax everywhere they sell products or services. Their connections with the location must be significant enough to establish nexus.

Traditionally, a company needed a physical presence in a state to have nexus and be required to collect tax. However, the Supreme Court overruled the physical presence requirement in a case called South Dakota v. Wayfair, Inc, opening the door to states taxing online purchases.

Under the current rules, nexus can now be created in one of several ways, including the following:

• Physical nexus: Physical nexus is created if a store has in-person connections to the state. This can happen if it has office or retail locations, stores inventory, or employs many people within the state.  
• Economic nexus: Economic nexus is created if a company engages in a certain level of economic activity in a state, even if it has no physical presence there. State laws differ on how much business a company must do. Typically they must either have a certain number of transactions or their transactions must exceed a certain economic value.

Companies could also have affiliate nexus if they have a specific relationship with another entity that has a physical presence in a state, such as a subsidiary relationship. Or, if the company has a relationship with a third-party seller with a physical presence in the state, this could create nexus as well.

Companies must track their physical and economic connections with each state they do business in or have other connections to. Tracking enables them to ensure they begin fulfilling tax obligations as soon as nexus is established. Otherwise, the company could end up being penalized by a state where they should have paid taxes but didn't. 

Programs like Numeral make it easy to track nexus. Numeral monitors when a business has established nexus and can send an alert and even take care of registering with the state on the company's behalf. 

Step 2: Register for Sales Tax Permits

Once a company has established nexus and has tax obligations to a state, the business must register for a sales tax permit.

Each state has its own registration process. For example, in Florida, companies can register online or submit a paper form, Form DR-1. This form requires specific information about the registering business including:

• The legal name of the business entity and the trade name or Doing Business As name if the company operates under a different name than its legal one
• The company's mailing address
• The physical street address of the business location
• The date that the company first engaged in taxable activity at the location where the business is being registered
• The North American Industry Classification System (NAICS) Code for all business operations 
• Information about owners, managers, general partners, directors, officers, grantors, trustees, personal representatives, or LLC members -- depending on how the company is structured 
• Information about the number of employees in the state, the type of employees, the kinds of services they will provide, the wages paid to employees, and whether the company uses a payroll agent 

Other states have different forms and different requirements. However, most jurisdictions require this basic information. Be sure to pay careful attention to the registration requirements, deadlines, and fees that apply in each location to avoid consequences for non-compliance with sales tax rules. 

Step 3: Determine Taxable Products and Services

Sales tax collection is complicated by the fact that not all products and services are taxable, and the rules for exempt goods vary by jurisdiction. Some examples of items that are often considered non-taxable include:

• Unprepared foods (groceries)
• Prescription drugs
• Residential property leases
• Fertilizers and seeds
• Prosthetic and orthopedic devices
• Single-use medical products

Software as a service (SaaS) and digital goods may also be non-taxable, although a growing number of jurisdictions are starting to tax products and services delivered electronically. 

When it comes to services, on the other hand, some states default to not taxing most services, but some services remain subject to sales tax. Services to businesses, services to real property such as carpentry work, and professional services such as legal work are often not taxed, but the rules do differ by location.

Companies must understand what products and services they provide are taxable versus non-taxable. They also must have plans in place for handling mixed transactions, which occur where some taxable and some non-taxable items are sold. This means having a system to correctly classify items at the point of sale and collect tax only on those items that require it.

The right software solutions can automate this process, integrating with your billing platforms to ensure that when customers across different states make purchases, they are taxed only on items that are taxable within their location. 

Step 4: Collect the Right Amount of Sales Tax

Like other sales tax rules, sales tax rates also vary by location. For example, while California charges a 7.25% sales tax rate, New York's sales tax rate is just 4%. Further complicating matters, some cities and counties impose an additional sales tax. For example, customers in Philadelphia may be required to pay:

• A 6.00% state tax
• A 2.00% county tax

Some states follow origin-based sales tax rules, with the sales tax rate based on where the seller is located. Others use a destination-based system, which means the sales tax rate is based on the location where the product is being delivered.

Companies must determine whether origin or destination-based rules apply to a given transaction and then apply the correct tax rate for the relevant location.

If this sounds complicated, that's because it is -- for businesses that attempt this process manually. With Numeral, however, this process is effortless. Numeral can automatically determine what rules apply to each transaction, what tax rates apply, what products are taxable, and how much tax is due. Customers are charged the correct amount instantly and effortlessly, and your business stays in full compliance with tax rules in each state where you have nexus.

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Step 5: File and Remit Sales Tax

Companies don't just have to collect sales tax from customers. They also must file the appropriate forms with taxing authorities in areas where they have established nexus and must pay the required sales taxes due to the state, county, or city that is collecting the money.

Different states impose different filing schedules, which are often based on the volume of sales a company does and the amount of sales tax collected. It's common for companies to be required to file tax forms and make payments on a monthly, quarterly, or annual schedule.

In most cases, forms can be filed and payments can be made electronically but it's important to avoid mistakes during the filing process including:

• Missing the deadline: A missed deadline can result in fines, interest on unpaid taxes, and other penalties. Since each state has its own schedules, missed deadlines can be an especially big issue for companies with nexus in multiple jurisdictions. 
• Failing to register in all required jurisdictions. If a company does not realize that it has nexus in a particular location, it may not file the required forms and could risk owing back taxes, interest charges, and penalties. 
• Failing to keep accurate records. Companies need documentation to prove compliance with state tax laws. Keep all supporting documentation after filing sales tax forms --  until the statute of limitations has passed for an audit. 

When mistakes occur in filing and are found later, companies can submit an amended return. This can usually be done electronically. When an amended return shows more tax is owed, it's important to make payment at the time of filing. If the change shows that too much tax was originally paid, then the company will need to report an overpayment. 

Amended returns typically should be accompanied by documentation including accounting records, an explanation of the error, proof sales tax was refunded to customers if applicable, and an explanation of how the updated sales tax amount was computed. 

Step 6: Maintain Proper Records and Stay Audit-Ready

Departments of Revenue conduct audits periodically to ensure sales tax is paid as required. Companies must be prepared and ready in case they become the target of these audits as they will need to demonstrate that they complied with their obligations. 

This means businesses must keep records of:

• Invoices
• Returns
• Exemption Certificates, which are collected when items are purchased by a tax-exempt buyer such as an eligible non-profit or government agencies

All of these documents must be stored until the time deadline for an audit has passed. The statute of limitations varies by jurisdiction but is usually several years. This means businesses must maintain a substantial amount of records for a long period of time.

Software solutions like Numeral can help. With Numeral, all of the exemption certificates your company collected as well as invoices, returns, and other key documents will be stored in one central place. Records are easily searchable to find the information needed, and licensed tax experts can help answer questions to ensure that every business is audit-ready. 

Challenges in Managing Sales Tax Compliance

Managing sales tax compliance presents challenges for every company, and it's crucial to be well-prepared for them. Some of the biggest challenges in managing compliance include:

• Multi-state compliance requirements: The more states in which a company has nexus, the more difficult it is to fulfill all of their tax obligations due to differing laws,  multiple forms to file, and payments to make on different schedules. 
• Changing tax laws: Laws are evolving, with a growing number of states expanding the digital products that they tax. Keeping abreast of new developments is critical as it's a company's responsibility to follow tax rules. 
• Industry-specific challenges. Some companies, such as eCommerce businesses and companies providing SaaS, face added complexities due to doing business in many jurisdictions, some with complicated rules. For example, Connecticut mandates that SaaS is taxed at full tax rates, but SaaS for business use is taxed at a reduced 1% rate. Companies must know these details. 

Overcoming these challenges is crucial to successfully scale operations across multiple states or internationally. 

Solutions for Simplifying Sales Tax Compliance

Although businesses face challenges when it comes to sales tax compliance, they can also find solutions. Some of the best ways to simplify sales tax compliance include:

• Training staff to understand and follow best practices such as collecting exemption certificates at the point of sale when exempt entities make purchases. 
• Making informed choices about in-house compliance management vs. outsourcing. For some businesses, especially those with complicated tax situations, outsourcing compliance could be the best choice to avoid costly fines and penalties. For others, outsourcing is cost-prohibitive. 
• Using tax automation tools such as Numeral. With Numeral, companies can spend as little as five minutes monthly on sales tax compliance while enjoying the peace of mind that comes with knowing they've embraced a solution trusted by leading eCommerce and SaaS businesses. 

Implementing effective solutions as early as possible helps companies establish best practices that protect them against audits and ensure successful sales tax management. 

Final Thoughts

By taking the time to understand nexus; registering in required jurisdictions; and implementing processes to accurately calculate and collect taxes and file and remit payments on schedule, companies can ensure that sales tax issues don't stand in the way of their growth or cost them money in the form of fines and penalties.

The right software solutions can make accomplishing all six of these steps simple. Numeral requires no monthly contracts, provides 24/7 customer service, and guarantees sales tax returns are filed on time. Contact Numeral today to see how we can take sales tax compliance off your plate.