The holiday shopping season is well underway! Of course, things are going to look a little different this year with a larger percentage of shopping happening online. The USPS has already notified customers of its holiday shipping deadlines in anticipation of increased traffic leading up to the holidays.
No matter how gifts make it to the end customer, retailers – both brick and mortar and online – need to understand and be prepared to handle sales tax for a number of issues that arise at this time of year.
When you understand sales tax issues across the whole customer shopping cycle from loading up a virtual or physical shopping cart to potential product returns, you ensure the shopping experience will be as seamless as possible for both you and your customers.
Depending where your customer is located, they may see sales tax included in their checkout total for the first time due to new economic nexus and marketplace nexus laws implemented across the states. Unexpected tax amounts can lead to cart abandonment issues. No one particularly likes seeing their purchase become more expensive after the tax is calculated – especially since many have enjoyed tax-free online shopping the past.
To mitigate lost sales due to cart abandonment, take the time to educate your customers. Every online retailer should have a sales tax FAQ on their website that explains why tax is due on applicable customer purchases based on shipping address. Clarify that due to changes in state laws, states in which your company has physical or significant economic presence require your company to charge sales tax to the customer on taxable sales.
Explain that no matter if a customer shops online or in a physical store, it is much more likely that they will be charged tax today. List the states where your company does or does not collect sales tax (whichever is shorter). For the states where you don’t collect sales tax, make sure to relay to the customer that they will owe consumer’s use tax to the state on their taxable purchases.
You can include some supporting sentences in the FAQ about the purpose of sales tax to encourage customer purchases. Sales tax revenue funds essential state services like public schools, roads, and healthcare. When your customer pays sales tax, they are supporting their communities.
Make sure whoever answers customer service calls or emails is prepared to explain to customers why they’re being charged sales tax.
The sales tax treatment of layaway sales varies from state to state. Under layaway sales, a customer makes a partial payment on an item to reserve it, then receives or is delivered the item upon making final payment. Some retailers may call the initial payment a down payment while others call it a deposit.
Down payments are often not refundable if the customer cancels the order, whereas deposits often are. In many states, the sale is considered complete when the retailer delivers the property to the customer, and sales tax is reported on the full sales price in the period when the customer takes possession. Sales tax is not due at the time of the deposit or partial payment. Let’s look at some state-specific examples.
In California, unless the parties agree that title will transfer to the customer at an earlier date, the retailer does not report and remit tax on the taxable sales price of a layaway sale until the goods are delivered and the customer assumes possession.
In Arizona, the retailer’s gross receipts from a layaway sale are taxable when title or possession transfers to the customer or at the time receipts from the transaction are determined to be non-refundable (for example, if the sales agreement states that payments are non-refundable if the customer fails to claim their item from layaway after a certain date), whichever occurs first.
With the holidays approaching, many shoppers may take advantage of gift wrapping at retail stores or even for online sales. Retailers must understand how sales tax applies not only to gift wrapping charges to customers but also to retailers’ purchases of the gift-wrapping materials. Whether there is a charge for the gift wrapping is the key consideration to determine how to apply sales tax.
Generally, purchases of complimentary gift wrap materials provided to customers qualify for the resale exemption as packaging. Since this gift wrap is included in the cost of the goods sold to the customer and the gift wrapping is for the benefit of the customer, it qualifies for the resale exemption.
In states that tax gift wrapping services, such as South Carolina, the purchase of gift wrap materials by the service provider also generally qualifies for the resale exemption since the service is taxable. However, there are exceptions, as seen in Texas.
In Texas, sales tax must be paid on the purchase price of gift wrapping by the person who provides the service. Additionally, sales tax must be collected on charges for gift wrapping services if the person who provides the gift-wrapping service sold the item that is being wrapped and does not provide the service on a stand-alone basis.
In states that don’t tax gift wrapping services, the resale exemption does not apply since there is no tax charged on the service. The retailer must pay tax on the gift-wrapping supplies.
The challenge is when a retailer provides both complimentary and for-charge gift wrapping services and the gift-wrapping service is not taxable. In this case, they must be able to distinguish the materials and supplies in order to correctly claim the resale exemption and remit use tax on the taxable purchases.
During the holiday season, many shoppers forgo gifts altogether and give gift cards instead. Generally, gift cards are considered cash equivalents. Therefore, the purchase of gift cards is generally not a taxable transaction. When gift cards are redeemed, the same laws apply as if the customer is using cash. The act of using a gift card is not taxable itself. Tax is calculated on the total purchase price, and then the gift card is applied as a payment method.
Retailers should note that outstanding unredeemed gift cards may be considered unclaimed property by a state. Tracking gift card sales and redemptions is critical for accurate reporting under these provisions.
During the holiday season, retailers are guaranteed to see gifts being returned. There are a few key items to remember when processing customer returns. When processing the return, a credit memo/receipt should be issued to the customer showing the amount of the returned goods as well as the amount of tax refunded on any goods that were originally taxed. It’s important to refund the tax at the rate and jurisdiction which were originally charged when the goods were purchased.
Retailers should retain documentation of the return and refund. You’ll need proof of the refund of tax to the customer before you can get your refund from the state. Given that gifts might be returned after January 1 – which is one of the most frequent tax rate change dates, this can be challenging – particularly if returns are allowed without a receipt. In these cases, for returns made after January 1, sales tax should be refunded at the rate that was in effect at the time of the sale and not the new rate in effect at the time of the return. Remember that although there might not be a state-level sales tax rate change, there may be a rate change on the local level you need to account for.
A surge in online sales is expected this holiday season. Since customers are more likely to return items purchased online than in-store, you need to be prepared to manage a greater volume of returns in January. Getting sales tax right on these returns will be essential.
The taxability of the various products you sell often differ by state. If you are an online or remote seller, you must know the taxability of your products in all the states you are registered. Pay particular attention to the states where you weren’t registered last holiday season.
A couple of products particularly relevant to the holiday season (as they are often given as gifts) to pay attention to for taxability purposes are food, clothing, and digital goods. Several states, such as Minnesota, New Jersey, and Pennsylvania generally exempt clothing from sales tax with a few taxable exceptions. Other states, like Massachusetts, New York, and Rhode Island exempt clothing from sales tax up to a certain dollar amount per item.
Food is a universally popular gift during the holidays. The taxability of any food you sell will vary greatly based on its classification. One key divide to watch for is the distinction between groceries and candy. Thirty-two states and D.C. exempt groceries from the sales tax base. Around half of the states treat candy differently than groceries for sales tax purposes.
Although digital goods are intangible, states are increasingly broadening their sales tax base to include them. If you sell digital goods such as e-books, downloadable music, streaming services, or digital magazine subscriptions, make sure you know how the states you sell into treat digital goods for sales tax purposes. You need to be prepared to account for varied rates, especially if you also sell their tangible counterparts like physical books, CDs, or hard copy magazines.
There is no doubt that the holiday season is a stressful time for retailers. Businesses across the spectrum from small brick and mortars to massive online retailers rely on revenue from this time of year (perhaps this year more than ever!) and it takes a ton of planning to get every detail right from inventory to shipping to returns.
Given that online sales will be king this holiday season, creating a frustration-free online shopping experience for your customers will be more important than ever. Sales tax cannot be an overlooked part of that experience.
Taking stock of these tips will hopefully help reduce any sales tax-related holiday stress!
All of us here at the Sales Tax Institute wish you and your families a joyous and thankful holiday season!