The United States does not have a national sales tax system; rather indirect taxes are imposed on a subnational level. Each state has the authority to impose its own sales and use tax, subject to U.S. constitutional restrictions.
Under the U.S. Constitution, a taxpayer may only be subject to tax in a particular state if the taxpayer has established the requisite level of nexus. The nexus standard, for sales and use tax purposes, has historically been a bright-line test which required a taxpayer to have some sort of physical presence, either on their own behalf (e.g., an office or employees) or through representatives acting on their behalf (e.g., representatives assisting in distribution, marketing, or installation) within the state to be subject to a sales/use tax and corresponding collection obligations. Recently, a number of states have adopted attributional/agency and click-through nexus provisions expanding the situations in which an in-state agent or representative is considered to establish nexus for an otherwise out-of-state taxpayer.
Generally, a sales tax is a transactional tax imposed at the point of purchase on the end use or consumption of a product or service. A sales tax is imposed by 45 states and the District of Columbia. Alaska, Delaware, Montana, New Hampshire, and Oregon do not impose a state level sales tax; some municipalities in Alaska do impose a sales tax.
In most cases, sales tax is also imposed at the county or municipal level, in addition to the state sales tax. The United States federal government does not impose any type of national sales tax. Sales tax is only imposed by the state and its political subdivisions.
Unlike a traditional value-added tax, sales tax is generally imposed on the sale to the end user of the product or service, and not at each intermediate level of production. However, under certain circumstances business purchases (inputs) may be taxable at an intermediate level because the business was deemed to be the end-user of the property, without a corresponding credit for the tax paid. For example, a service provider purchasing property in order to render a service is generally deemed to be the end user of that property, the purchase of which is subject to sales tax regardless of whether the service performed is also taxable.
A use tax is a tax complementary to the sales tax and is imposed when a state sales tax was not paid. States levy a compensating use tax on purchases of goods when the seller and buyer are in different states. Use tax is typically levied on the use, storage, or other consumption of tangible personal property that has not been subject to a sales tax in the state in which the property is used, stored or otherwise consumed.
Generally, sales tax is due when the seller and the buyer are in the same state, and use tax is due when the seller is in a different state than the buyer.
A state’s use tax is generally imposed at the same rate and in the same manner as the sales tax as if the sale had had occurred in the state. However, a handful of states may impose a different rate for sales versus use tax, and may also allow for different exemptions/credits for sales versus use tax. Use tax may not be imposed at a higher rate than the sales tax or on goods or services to which the sales tax is not applied.
States imposing a use tax generally allow for a credit against the use tax owed for any sales tax legally due and paid to another state on the same property. However, not all taxes paid are entitled to a credit, and each state must be separately analyzed to make such determination.
Use tax is generally self-accrued and remitted by the purchaser, but where an out- of-state seller has nexus, it may have an obligation to collect use tax from the purchaser on behalf of the state.
Scope and Rates
Generally, sales tax is imposed upon:
- all retail sales of tangible personal property; and
- the retail sale of services specifically enumerated in state law as taxable.
The sale of intangible property and real property is generally excluded from the imposition of sales or use tax.
A sale is generally defined as the transfer of title or possession for consideration. A retail sale is generally defined as any sale for any purpose other than for resale. A sale typically includes the following transactions when occurring for consideration:
- the transfer of title to or possession of taxable tangible personal property;
- the exchange, barter, lease, or rental of taxable tangible personal property; or
- the performance of a taxable service.
Note: There are a limited number of services taxable in various states.
There is no national sales tax in the United States and therefore no standard rate. The sales or use tax rates vary by state, ranging from 2.9 percent to 7.5 percent at the state level. In addition to the state rate, local governments in 35 states impose an additional sales or use tax, ranging from 1 percent to 5 percent. As an example, the combined state and local sales tax rate in Chicago, Illinois is 9.25 percent, comprising a 6.25 percent state sales tax, 0.75 percent county sales tax, 1.25 percent city sales tax, and a 1 percent special purpose district tax.
Yes, states provide various exemptions from sales or use tax. Exemptions are specifically stated within a state’s sales or use tax statute, and the burden of proving an exemption is on the taxpayer. Various states also offer reduced or zero rates on certain types of property such as food for home consumption, residential utilities, and manufacturing-related machinery.
Generally, exemptions are based upon either the type of entity purchasing the property, the type of property being sold, the intended use of the property, or the type of transaction. Exemptions that apply at the state level generally also apply at the local level. Exemptions are generally applicable to both sales and use tax.
- Entities: Types of entities exempt from sales or use tax include the federal government, Native American tribal governments, and certain religious, charitable, and educational institutions.
- Type of Property: A wide variety of property may be exempt from sales or use tax. Common types of exempt property include food for home consumption, prescription drugs, medical equipment, newspapers, and residential utilities.
- Intended Use: Almost every state provides a complete or partial exemption for machinery, equipment, and consumables that are to be used in the manufacturing of other property on the theory that the tax will be imposed on the finished product, which is consistent with the sales tax system. Exemptions based on the use of the property also provide a tax incentive to encourage economic development in specific industries.
- Type of Transaction: The sale for resale exemption is the most widely available sales tax exemption; it exempts from sales tax the sale of property to a purchaser who intends to resell that same property, either as it is or as a component part of other property.
Typically, every person or corporation that is engaged in the business of selling tangible personal property at retail or furnishing any taxable service must register with the state to obtain a sales tax license, permit, or certificate before making sales or providing services. In general, persons that must register to collect sales tax include the following:
- retailers or vendors of tangible personal property;
- retailers or vendors that lease or rent tangible personal property to others in the state;
- contractors, subcontractors, repairpersons, and others performing taxable services; and
- wholesalers, manufacturers, or producers making sales for final use or consumption.
Persons registered to collect sales and use tax must file returns and remit the tax. Once a person is registered for sales tax, the state establishes a reporting schedule for the taxpayer depending on the volume of sales.
Out-of-state retailers or service providers that have established sufficient nexus with the state for sales and use tax purposes may be required to register and collect use tax. Substantial nexus means a non-trivial physical presence in the state which may include the following:
- maintenance of business and employees in state;
- agents in state;
- advertising in state;
- delivery trucks in state;
- title passing in state;
- solicitation in state;
- promotional activities in state;
- owning real, tangible, or intangible property in state; and
- servicing property in state.
There may be both civil and criminal penalties for failing to register for sales or use tax prior to engaging in business in the state. Generally, the more significant penalties are for collection of sales tax without remitting it to the state or for the failure to file returns.
Criminal penalties may arise where there is gross negligence or some criminal intent (that is, fraud) to evade sales taxes. Penalties may be waived or mitigated where it can be shown that there is a reasonable excuse for the non-registration, but such waiver is heavily dependent upon each taxpayer’s facts and circumstances. Major sales or use tax assessments generally arise from the failure to charge and collect tax on taxable sales, and not from the mere failure to register for a sales or use tax permit.
If an overseas or out-of-state company has substantial nexus in a state, registration for sales or use tax is required, even where such company may be protected from income-based taxes or other types of taxes by treaty (e.g., taxpayer without a permanent establishment in the U.S. pursuant to a tax treaty).
An overseas or out-of-state company may engage in a drop shipment-type transaction using a third party to fulfill an order for its customer, thereby avoiding any contact with the state in which its customer resides. Without that contact, nexus would not exist, and no filing responsibilities would arise. It is important to note a trend among the states, in drop shipment transactions, to enact legislation that would require the drop shipper (the third-party) to step into the shoes of the overseas or out-of-state company and require the drop shipper to collect tax as if it were the party making the sale to the customer.
Yes, an overseas/out-of-state company without substantial nexus in a state may voluntarily register for collection of sales or use tax. A taxpayer voluntarily registering for sales or use tax is subject to the same duties and obligations as a taxpayer who is required to register and will be required to file returns and comply with the laws of that state.
A majority of the states may require or permit the filing of a consolidated sales and/or use tax return when a single legal entity operates more than one location within the state. A few states require a minimum number of business locations before a consolidated return is allowed. Some states require prior approval to file on a consolidated basis.
The state treatment of businesses with more than one division (location) varies. Thus, one must look to the specific state statutes to determine whether the divisions must file a consolidated sales and/or use tax return or each division is permitted or required to file separate returns. One must also determine whether the divisions are permitted to request separate sales and use tax registration numbers.
Separate legal entities are not allowed to report their sales and/or use tax on a consolidated basis. Sales and/or use tax filings are specific to each legal entity and each legal entity is required to have its own permit, where necessary, and to file its own returns.
No. Most, if not all, states require each legal entity to register and file its own sales and/or use tax return. Therefore, an overseas/out-of-state company has to be registered for sales and/or use tax itself and file a return of that legal entity on a standalone basis.
Sales and use tax returns must be filed either annually, semiannually, quarterly, monthly, or semimonthly, depending on state requirements. Filing frequency is commonly based the taxpayer’s sales volume and/or the amount of tax that the taxpayer collects during the period.
Generally, as the total gross sales or the amount of tax collected rises, the frequency of filing returns increases. Consequently, it is necessary to examine the filing frequency of each state in which the taxpayer is required to file and remit sales and/or use tax to determine the frequency with which the taxpayer is required to file sales and use tax returns.
States, in most cases, will inform the taxpayer upon issuance of a sales tax permit of the filing period for that taxpayer, and will also notify the taxpayer if that the filing periods change.
Sales and use tax returns must be filed even though no sales are made during the period. Some states have separate sales and use tax returns; therefore, a taxpayer may have to file two separate returns for the same period. In addition to state returns, some local jurisdictions may also require separate sales/use tax returns.
Taxpayers should be aware that there may be other taxes beyond sales and use tax that may apply to specific goods or services being sold (such as, contractor’s tax, fuel excise tax, gross receipts tax on utilities, etc.)
Any taxpayer or vendor who has paid sales or use tax in error or who has collected sales or use tax in error may recover the tax paid in error. Requests for refunds of improperly paid taxes must be made within the statute of limitations applicable for that state, typically 3 to 4 years from when the tax was due. The methodology in requesting any refund of taxes varies by state.
A vendor may always request a refund of taxes paid or collected in error, provided that the vendor shows proof the tax was refunded to the customer. The right to a refund of improperly collected or paid taxes belongs to the party liable for the tax (generally the vendor’s customer); therefore, a vendor receiving a refund for tax improperly collected must refund the tax to its customer. In general, a vendor may either, file an amended return, file a request for a refund, or in some rare instances take a credit of overpaid taxes on its next return. A customer who has overpaid tax may request a refund from either the vendor or the state, depending on each state’s process.
Some states allow taxpayers to utilize sampling techniques (such as, statistical sampling) to determine the amount of refund due. Sampling is typically permitted only where the taxpayer has a large volume of transactions making it infeasible to conduct a detailed review of all transactions.
Not applicable to the United States.
Interstate or Foreign Commerce Transactions
How are interstate or foreign commerce transactions treated?
Generally, sales tax does not apply to items shipped out-of-state pursuant to a contract of sale if the item is delivered out-of-state by the seller, or the seller delivers to a common carrier, customs broker or forwarding agent for shipment to the out-of-state destination. Evidence of delivery to a carrier, customs broker, or forwarding agent, such as a bill of lading, for out-of-state shipment must be retained by the seller.
Shipments of Taxable Goods into Taxing State
In general, use tax applies to the use of any property purchased for storage, use or other consumption and stored, used, or consumed in-state. Vendors shipping goods into another state do not have an obligation to collect use tax on such purchase unless it has established nexus with that state. When the vendor is not required to collect tax, it is the responsibility of the purchaser to accrue and remit use tax on such purchases.
Services in and out of the State
In general, if a taxable service is performed in state, a taxable event has occurred in that state and the sales or use tax must be collected and remitted to the state where the service was performed. However, some states source the sale of the service to where the benefit was received regardless of where the actual service was performed.
Generally, where services are performed both in-state and out-of-state under a single contract, an apportioned value of each service is taxable in the state the service was performed in or alternatively to where the benefit was received. When operating in multiple states with varying sourcing rules, it is possible to perform a service that is taxable in more than one state resulting in sales tax imposed by multiple jurisdictions on the same value or service.
Note: Most services are not taxable.
In general, the retailer must add the sales tax as a separate line item to the selling price. Many states do not allow for the vendor to absorb the sales tax in the selling price. The initial invoice, bill, charge ticket, sales slip, or receipt must separately state the amount of the tax charged. If not separately stated, it is presumed that sales tax was not charged to or collected from the customer.
Many states require non-taxable items to be stated separately from any taxable item on the invoice; if not separated, the entire amount on the invoice may be considered taxable (such as, separately stating the shipping charge from the cost of the property).
States imposing a gross receipts type tax may not require sales tax to be shown on the invoice, although it is permitted.
Yes. The use of Electronic Data Interchange (EDI), advanced digital signatures and other forms of electronic invoicing is permitted by most states. However, for a taxpayer that uses EDI processes and technology, the level of record detail, in combination with other records related to the transactions, must be equivalent to that of an acceptable paper record. The requirements for an EDI accounting system should be similar to that of a manual accounting system.
Transfer of Business
Most states provide an exemption from sales or use tax for casual, isolated, or occasional sales; however, the requirements and variations of such exemptions differ significantly among the states. Even though many states provide broad exemptions for casual, isolated, or occasional sales, it is important to note there are many exceptions and variations based upon the type of transaction and the property being transferred. Accordingly, each state’s statutes should be examined to determine the specific requirements for the transfer of business assets.
A casual, isolated, or occasional sale exemption is usually limited to taxpayers not regularly engaged in selling the type of tangible personal property sought to be exempt. Other states limit the exemption to a specified number of sales or a specified dollar amount of sales per year.
A few states provide an exemption specific to a business reorganization or exclude from the definition of a sale subject to sales tax specific transactions such as an incorporation, merger, liquidation, or a sale of the entire business.
Note: Sales tax generally applies to only the sale of tangible personal property and specifically enumerated services; therefore, with a transfer of a business, there may be portions of the business that are outside the scope of sales tax (such as, real property, trademarks, patents, or other intangible rights).
Most states generally subject intercompany sales (not classified as occasional, isolated, or casual as discussed above) to sales or use tax. For sales or use tax purposes, each legal entity is considered to be a separate taxpayer.
A few states may have exemptions that are applicable to intercompany transactions. Each state’s statutes should be consulted to determine the specific requirements for treatment intercompany sale.
Bad Debt Relief
Yes. In the case of a worthless account receivable, some states may provide for the filing of an amended return or for a bad-debt deduction or credit.
As a general rule, states impose penalties for the failure to timely file a return and pay taxes due. The maximum penalty imposed by most states, in cases other than fraud, is 25 percent of the amount of tax due; however, some states are much more aggressive, assessing and imposing maximum penalties is excess of 25 percent. Generally, a state’s penalty for late payment of tax is imposed at the same rate as its penalty for late filing.
Penalties may also be assessed for underreporting or underpaying sales or use tax. Since in most states, sales or use tax collected from a customer is held in trust by the vendor (generally referred to as a trust fund tax) until paid over to the state, there may be greater penalties, including personal liability for officers and directors of the company, for the failure to remit sales or use tax collected on behalf of the state.
All states allow for a taxpayer to request abatement of penalties, but each taxpayer’s facts and circumstances will determine whether penalties will be abated/waived.