Key information such as effective dates, thresholds, and includable sales for out-of-state sellers making sales into states that have enacted economic nexus legislation both before and after the South Dakota v. Wayfair Supreme Court decision.
Consumers are purchasing online today more than they ever have – e-commerce sales as a percentage of total retail have grown from 8% in 2012 to 19.1% in 2021, according to Digital Commerce 360. This gives e-commerce merchants a unique opportunity to expand their customer base and grow their business. But with tax laws and regulations constantly changing – 88 sales tax rate changes across 18 states went into effect on January 1, 2022 – it can be difficult to stay compliant.
However, you should not let sales tax hold you back from getting your products into the world! To help you get started, we’ll cover three major sales tax issues every e-commerce business like yours needs to understand: nexus, marketplace facilitator laws, and drop shipping.
For e-commerce businesses, nexus has become a top of mind sales tax issue since the Supreme Court ruling South Dakota v. Wayfair in 2018. Nexus is a Latin word, meaning to bind, join or tie. Sales tax nexus occurs when your business has some kind of connection to a state; you only have to charge sales tax in the states in which you have sales tax nexus.
There are two main types of nexus: physical and economic. If you have offices, warehouses, inventory, or employees in a state, you likely have physical nexus there. (Drop shipping can also trigger nexus, which you can read more about below.) Economic nexus is a little trickier – if merchants hit a certain threshold of revenue or transactions in a state, they must collect sales tax from buyers there. For a deeper dive into nexus, TaxJar has written this handy guide.
The rules around nexus are not set in stone. For example, multiple states have been reviewing the transaction threshold requirements for economic nexus, as there’s a sense they may not be fair to smaller sellers. While each state is different, it’s helpful to look at Colorado as an example of how states are viewing transaction thresholds – and subsequently changing sales tax legislation as a result.
In 2018, Colorado ruled that online sellers have an economic threshold of $100,000 per year in gross revenue, or a transaction threshold of more than 200 separate transactions in the previous or calendar year. Colorado’s transaction threshold – and other states with similar thresholds – had the unintended consequence of creating an additional compliance burden for smaller businesses with plenty of transactions (200+), but who may have been selling lower cost items that didn’t add up to a significant stream of revenue. Colorado removed its transaction threshold in 2019, along with Iowa, Massachusetts, North Dakota, Washington and California (which also raised its economic threshold in the same year to $500,000). More recently, Wisconsin removed their transaction threshold in February 2021 and Maine joined the trend effective January 2022.
Keep in mind that some states require sellers to register and file even if they don’t meet certain thresholds due to physical nexus, so it’s advisable to seek the help of a tax professional if you have specific questions.
For merchants that sell through marketplace facilitators like Amazon and eBay, sales tax may seem cut and dry. It’s their responsibility to collect and remit, right? The short answer is yes. But that doesn’t mean it’s not critical for you to keep track of those sales. That’s because those sales may or may not count towards your nexus threshold, depending on the state, so it’s important to keep track of all sales.
As of November 2021, 20 states do not count sales from marketplace facilitators towards a company’s economic nexus, including Colorado, Florida and Georgia. States like California, Connecticut, New York and 23 others do count marketplace facilitator sales towards the threshold, but many states have additional rules and guidelines, and those laws and administrative rules are subject to change. For a full list of states and how they treat marketplace sales in calculating economic nexus thresholds, check out this Sales Tax Institute chart.
Merchants who utilize drop shipping (as in, when third-party vendors fulfill customer orders) know that it can be a cost-effective way to reduce inventory. But it’s important to keep sales tax in mind when incorporating drop shipping into your business strategy.
It can be difficult to figure out who collects and remits sales tax when drop shipping is involved. In general, if you have nexus in a state, your company is likely responsible for collecting sales tax. If your vendor has nexus and you do not, the vendor is probably on the hook for collecting sales tax unless you can issue a resale certificate to them. And if neither your business or the vendor has nexus in the customer’s home state, sales tax is not collected, and it would be the customer’s responsibility to pay use tax on the item.
Things can get complicated for retailers who use drop shippers and receive resale or exemption certificates from their customers. If a retailer does not have nexus in the state where the product is delivered, the supplier may be required to collect and pay sales tax on the sale to the retailer, unless the retailer provides an exemption certificate. Each state has their own rules and procedures for obtaining and verifying exemption certificates – here’s an explainer on how to use and obtain one in each state.