Sales Tax for Small Business

Collecting, calculating, reporting, and paying sales tax continues to be one of the most confusing — and sometimes annoying — aspects of running a small business. The issue has only become more complicated as online sales have skyrocketed over the past few years.

Whether state or local, each taxing authority has its own laws, tax rates, timetables, and exemptions. It’s no wonder that the Small Business Administration reports that questions about sales tax are among the most frequent inquiries from small business owners across the county.

If you find it’s too complicated to deal with the ins and outs of collecting sales tax for your small business, hiring a professional tax accountant to help you is a good business investment. You can also find help at your local SCORE, which offers free mentorship to small businesses, and your local Small Business Development Center, another organization under the SBA umbrella that offers free and low-cost guidance to small businesses. While they won’t do the work for you, mentors at SCORE and SBDCs serve as experienced resources. If they don’t have answers for you, they can help you find them somewhere else.

What Is a Sales Tax?

A sales tax is a point-of-purchase tax paid by consumers who buy certain goods and services within the borders of the taxing authority. In the United States, the authority is a government: the state and sometimes a county, city, or township. The levy adds to the cost of the item or service, and it’s included in the ultimate price for the buyer.

Sales tax usually gets triggered when someone makes a retail purchase of a tangible product (something that can be seen, weighed, measured or touched), but the types of sales tax vary from state to state. It can get added to some services.

While buyers bear the legal burden of paying a sales tax, sellers have the responsibility to collect and send it to the correct government agency. Unless specifically exempted, sales taxes are added to cash transactions, credit sales, installment sales, layaway sales and sales involving trade-ins or exchanges of property.

Also, the federal government — in this case, the Internal Revenue Service — has little to do with sales taxes, which are governed by states and other municipalities. Unfortunately for businesses that sell products in more than one state, this means navigating a web of rules and rates.

» Learn More: Understanding Taxes

Do I Need to Collect Sales Taxes?

If you own a small business or are starting one, you must understand your tax obligations. Otherwise, it could lead to serious trouble, including fines and jail time.

Collecting taxes from your customers and paying taxes to the government should be part of your business plan — and part of the homework you do when you set up your business. If you sell your products online and have customers from other states, this can get tricky. Not knowing the rules can cost you money.

You should be able to answer these questions:

• What is your sales tax nexus? – Nexus is where your business has a presence, but like all other things sales-tax related, it’s not that simple. It’s always in the state where you live and conduct business, even if you’re doing it from your kitchen table, but it extends from there. If you have more than one physical location, particularly in different communities or states, affiliates, or more, that is part of the nexus. Some states also count employees who work remotely in another state, or contractors. Warehouses and distribution centers count, too. If your business sells online to other states, it may have an economic nexus (more about this later).
• Does your state or local jurisdiction require you to get a license to sell or a sales tax permit? – Start by registering with your state’s taxing agency. Find out, too, if you must register in other states where you do business.
• Are your products and services taxable in your state and community? – Once you know that, you also have to determine what rate to charge, as well as if it differs in other states you sell in, as well as if it differs among products.
• What are the specific requirements for collecting sales taxes if you sell online, and how do these apply to the states you sell in? – In 2018, the U.S. Supreme Court decided in South Dakota v. Wayfair that each state sets its own rules for out-of-state sales. Many states give a break to businesses with less than $100,000 in sales, or a certain number of transactions, but some have rules even for small businesses.

How Do I Actually Collect State Sales Taxes?

Once you know where you stand in the sales tax picture, it’s time to figure out how you go about collecting state and local sales taxes, and how to get the collected money to the proper place. The major steps are getting a seller’s permit, understanding and staying on top of the local tax rate, and filing the tax returns with the state or taxing entity. If you find it too complicated to navigate on your own, this is where getting help from a professional or mentoring agency would help. It’s worth the investment to avoid legal tangles and fines.

Taxable Goods

While the list of taxable goods seems endless, there are some common categories.

Taxable goods include:

• Furniture
• Motor vehicles
• Computers
• Home appliances
• Electronics
• Books
• Toys
• Raw materials (lumber, cloth, etc.)
• Gardening items, including plants
• Rental Properties

Taxable Services

Services can also be subject to a sales tax. While these vary too, some of the common ones include the following.

Taxable services include:

• Personal property services like installing, inspecting, maintaining, and repairing items for customers
• Real property maintenance services on customers’ property, like lawn mowing and landscaping, snow removal and repairing utilities
• Business services such as advertising, consulting, marketing, public relations, and human resources
• Personal services including beauty care, pet grooming, dry cleaning, tour or outdoors guide

Digital Goods and Services

Online transactions changed the sales tax landscape, and it continues to evolve as taxing agencies figure it out (and covet more money). More and more businesses — even small, home-based businesses — are “remote sellers,” meaning they sell goods in areas where they have no nexus.

The emergence of marketplace sellers like Shopify, Etsy, Bookshop.com and other places where entrepreneurs can sell goods without having to manage their own selling website, boosted online sales for small businesses. And shutdowns from the COVID-19 pandemic spurred many small businesses that were focusing on brick-and-mortar sales to sell online.

According to the U.S. Census Bureau, which tracks online sales, e-commerce sales accounted for 14.6% of total sales in 2022. The total was $1.03 trillion. Sales in 2010, the first year of Census Bureau figures, were $165 billion.

The South Dakota v. Wayfair decision made online sales subject to sales tax. The court left it to the states to determine how to tax online sales, since the states are already setting their own tax rates and rules.

In most states, online taxes don’t apply to smaller businesses, with size determined by sales, number of transactions, or sometimes both.

The general maximum is $100,000 in sales, or 200 transactions, but that differs widely by state.

Some states base the tax dollar amounts on sales. For others, it’s transactions. And some use both. Further complicating things, the sales threshold may mean gross sales, gross revenues, retail sales or taxable sales, depending on the state.

The Streamlined Sales Tax Governing Board provides state-by-state updates, including a chart, on how the online taxes work for remote sellers, but also urges business owners to check with individual states for the last word on what’s required.

Sales Tax Exemptions

Each state has its own rules for exemptions from sales tax. It is extremely important for a small business owner to know what state and local tax rules apply to the business, as well as which exemptions apply. It is the responsibility of the buyer to prove eligibility for exemption by presenting a valid certificate that documents the buyer’s permission to waive sales tax payment.

Businesses, as well as those seeking exemptions, must check their state rules. That said, there are universal exemptions based upon the type of goods, or “property,” being sold, the use of the property and the identity of the buyer.

Exemptions Based on Type of Property

Most states offer product-specific exemptions on items that are considered necessities, including food (though there are a variety of exceptions to this, depending on the state), medicine and medical devices. In some states, these items are still taxed, but at a lower rate. Most states also offer an exemption from sales tax for occasional, casual, or isolated sales, such as a yard or garage sale, or estate sale.

Exemptions Based on Use of Property

Wholesale items being resold aren’t usually subject to sales tax. Raw materials for an ingredient or component of an item being manufactured, processed, assembled, or refined for future sale are also typically exempt.

In addition, there are exemptions for products provided to support certain industries — such as agriculture, manufacturing, and industrial processing — or to encourage certain activities for the public good, like pollution control.

Exemptions Based on Identity of Buyer

States cannot tax sales that are made to the federal government or its agencies, state governments or their agencies, cities, counties, or other local jurisdictions. Also exempt, in most states, are sales made to nonprofit, charitable, religious, and educational organizations if the sales are specifically for the organization’s nonprofit purpose.

The Internal Revenue Service determines nonprofit status, and the states follow that guidance when deciding if an organization must pay sales tax. You can find information on how to apply for nonprofit status and what businesses that are already nonprofits on the IRS website.

To be considered a tax-exempt nonprofit, an organization must fall into one of these categories:

• Educational
• Religious
• Charitable
• Scientific
• Literary
• Fostering certain national or international sports competitions
• Testing for public safety
• Preventing cruelty to children or animals

Sales Tax Permit

All businesses that sell taxable goods and services must have a sales tax permit, sometimes called a certificate. The place to start is your state’s revenue department. In most states, getting the permit is free, though some charge a fee. You’ll need your Employer Identification Number, as well as other information about your business, so be sure you have all your business formation paperwork handy when you apply.

Sales Tax Rate

To determine the sales tax rate your business will charge, start with your state’s revenue agency. Check with your municipality as well – many, particularly large cities, and some counties, also charge a sales tax. Rates may differ for different goods and services you offer, so be sure you’ve checked the details. Sign up for updates if your state has that service, because sales tax rates can change frequently.

Records & Reporting Sales Taxes

Documenting taxes collected, including in your invoices, is vital for a small business and is part of the record you must maintain to make reporting and paying taxes legal and efficient. While requirements vary from state to state, all will want records of the tax collections your business has made in some form.

Know what your state and local requirements are for reporting. Some may ask for receipts from each sale. Your state will also have a schedule for reporting the sales tax your business has collected and how the reporting must be done. This, like everything else regarding sales taxes, varies from state to state.

Paying Sales Taxes

So, you’ve learned your state and local tax requirements, have collected sales taxes, and have kept detailed records. Now what?

The state or other taxing entity may collect taxes every month or every quarter, depending on the volume of business you conduct. Businesses remitting their collected sales taxes file a return, either a simple one, or one with specific breakdowns. Each state has a specific form with specific guidelines about how much information to provide. Some states have a variety of tax forms that are specific to an industry. If you do a low volume and don’t have a large variety of goods and products, it may be simple. If your sales are more complicated, you may need to provide a specific breakdown of what you sold and what taxes you collected for different items, or for different sellers. Most states allow businesses to file electronically.

Also, keep track of exempt buyers and resellers. Even though they’re not paying taxes, you must include that sales information on your return.

Businesses must file a sales tax return, no matter what they sell or to whom they sell it. Even if you are a service-based business that doesn’t sell a product, you must submit a sales tax return (full of $0.00s). Not filing can trigger fines and legal issues.

Calculating Sales Tax

Staying informed about your small business’s sales tax obligation is an important priority, and this includes calculating the sales tax rate. This may seem simple on the surface — it’s the price of the item, plus the amount determined by the tax rate. For instance, if an item is $10, and the sales tax is 8%, then the price the buyer pays, with tax, is $10.80.

But that’s assuming that all your products are taxed at the same rate and all your sales take place person-to-person. In reality, you must account for the differences in sales tax rates, and set up your records for different tax groups.

Tax groups include:

• Store sales: What is sold directly to customers in your store or from a vendor or trade booth.
• In-state sales: Sales to customers in your state, which is also simple if your state doesn’t have county and local sales taxes and has an origin-based tax method, meaning the rate is based on the seller’s nexus. If your state has varying sales taxes and a destination-based method, where the rate depends on the buyer’s location, this requires more attention.
• Out-of-state sales: Taxes on sales to buyers in other states also can vary depending on whether the state where your business is located is origin or destination-based, as well as whether your business is large enough to exceed online sales tax exemptions in other states.

You should also calculate what your business must pay in sales taxes for supplies, equipment, and other goods, relying on the same criteria, but with your business as the consumer.

What Businesses Need to Know

Small business owners have to be prepared and knowledgeable about their sales tax obligation. Mistakes in reporting or remitting sales taxes — or even missing a scheduled payment — can result in penalties or criminal charges. The pitfalls are many, and it is easy to overlook or forget something.

Common stumbling blocks are confusion over what makes a resale and what to do about them; understanding terminology; and even what, specifically, to tax.

Your State Guides Your Sales Tax Rate, Rules

America has no federal sales tax, but 45 states do, along with the District of Columbia and Puerto Rico. (States without sales tax are Alaska, Delaware, Hawaii, Montana, New Hampshire, and Oregon).

In addition, 38 states permit local municipalities to charge sales taxes to exceed state rates. Alaska and Montana, which don’t have state sales tax, allow local sales taxes.

Resale Forms

When a business sells wholesale to another business, which then will resell the goods or use the goods in to make its own product, the second seller must provide a resale form to the original seller. This documents what goods were resold, making the business-to-business sale not subject to sales tax.

Most states accept the Uniform Sales & Use Tax Certificate as a reseal form, but some ask for different forms.

Businesses must pay sales tax on products they use for their business. The wholesaler exemption applies only to goods it buys and then resells.

Example: Bethany’s soap-making business buys ingredients from local farms and producers to make her soap. She doesn’t pay sales tax on those ingredients because they’ll be part of the soap she sells to consumers. The form she fills out and gives to the farmers and producers documents her use of their products for resale.

But when she buys molds for her soaps and a new cooker to make it, she must pay sales tax on those items because she’s using them and not reselling them.

People and businesses that distribute and consult for direct sales businesses like Avon, Mary Kay, Tupperware, Amway, and others may not have to apply for a resale form. The businesses they represent have a state merchant certificate and collect sales tax.

Sales Tax Terminology

People who start a business may feel like they need to learn a new language to navigate the sales tax landscape.

Common tax terms to be familiar with include:

• Sales Tax Nexus: This is where the business is located. Not only does it include where the office is, even if it’s at home, but also can include the location of warehouse and distribution centers, remote workers or contractors, or an economic nexus in another state.
• Economic Nexus: This is an extension of the sales tax nexus. A business that meets the threshold to collect sales taxes in other states, whether through online sales, trade show sales or some other method. You can find information about what states have an economic nexus requirement on the chart provided by the Streamlined Sales Tax Governing Board.
• Sales Tax Exemption: When a business or organization buys goods, but doesn’t have to pay sales tax, they get a sales tax exemption. This applies to exempt organizations, businesses and people buying for resale.
• Origin-Based Method: States that base how a business collects sales tax on where the business is located, no matter where the item is sold. There are 10 origin-based states: Arizona, Illinois, Mississippi, Missouri, New Mexico, Ohio, Pennsylvania, Tennessee, Texas, Utah, and Virginia. California is considered origin-based, because city, county and state taxes are origin-based, but supplementary district taxes are destination-based.
• Destination-Based Method: The state’s tax rate is based on where the buyer is located. This is particularly complicated for the small business collecting the sales taxes in places where there are local sales taxes besides state sales taxes. The states that collect sales taxes not listed above as having an origin-based method have a destination-based one.
• Use Tax: This is a tax that consumers pay to use an item in their state that they bought in a different state. Since it gets paid by the consumer, not the seller, it’s one tax your business doesn’t have to worry about. For instance, if you buy a car in sales tax-free New Hampshire, but live in Massachusetts, you still have to pay a tax on it in your home state when you register it.

Sales Tax vs. Value-Added Tax

Another tax that is like a sales tax is the value-added tax (VAT). This is a consumption tax that gets levied on a product throughout the various stages of production.

Sales tax gets charged at the end of the sales cycle. A VAT gets added at each stop along the production chain, from the purchase of raw materials to the final sale to a customer. At each step along the manufacturing process, someone is adding value to the product.

Only U.S. businesses who make products internationally are likely to run into a value-added tax. The United States is one of the few major economic countries that don’t have a VAT.

What Happens When a Business Doesn’t Pay Sales Tax?

If a business doesn’t pay sales tax or falls behind on its sales tax filings, it can expect a letter from the state sales tax agency. Even if the only offense was a missed filing deadline by a few days, the business can expect to be charged a late fee and interest on the taxes that are due.

The 45 states that collect sales tax each have their own penalty structure — and criminal structure. Penalties can be a flat fee, or a percentage of the tax amount owed. New York State, for instance, charges add up to 25% for a penalty on late sales tax payments.

States punish businesses that don’t pay sales tax in the long-term by taking them to court on misdemeanor or felony charges. Businesses can face large fines and even incarceration.

Businesses with outstanding sales tax bills can also be subjected to government liens. Those would have to be satisfied before the business could get sold.

If a business closes without paying overdue sales tax, the tax doesn’t go away in most cases. States can follow business owners for tax collection.

Should I Charge Sales Tax on Everything?

The complexity of sales taxes may tempt you to charge a sales tax on everything you sell. That’s not a good idea. You can’t tax your customers for non-taxable items. If you do, you risk being fined by the state or, worse, being charged with tax fraud.

Take the time to learn the nuances of your state’s laws. Start with the state revenue department and walk a representative through your product line to identify all the taxable items. Let the rep know what you sell and whether you also sell it online.

When you sell online, if your store meets the threshold for the states you sell goods in, the items will be subject to the sales tax of those states.

Items that you’ll want to cover if you sell them, including food, beer, wine, and liquor. While food usually isn’t taxed, 15 states do it. Some charge taxes on all groceries, though most at a lower rate than other retail items.

One way to keep track long-term is to use point-of-sale software that does the heavy lifting for you. You could also hire a business tax service.

But start with the state tax revenue department. Because the state wants you to comply, it’s often generous with its help.

Debt Help for Small Businesses

The complexity of sales taxes can create headaches for a small business. If business owners don’t handle their finances correctly and get into a habit of falling behind on taxes, they’ll face late fees and penalties on top of their taxes. They can also find themselves in financial hardship.

If you’re a business owner struggling to pay monthly sales tax because you have too much debt, get the tax debt help you need. Business debt can have long-term consequences that can cripple a business.

Business and financial experts are available to help you secure business debt relief. They can outline multiple strategies for tackling your debt and can get you on a path to financial stability.