State filings have traditionally not been a top priority for businesses. Rather, their attention has been concentrated on getting provisions correct and federal returns done and filed in a timely manner. State tax issues have largely been an afterthought.
Now, faced with huge budget deficits, that “catch me if you can” approach is proving to be fraught with risk. States are aggressively trying to find new ways to raise revenue. According to the Center on Budget and Policy Priorities, 44 states are projecting budget shortfalls in 2011, 2012, and 2013 (www.cbpp.org/cms/?fa=view&id=711). As a result, businesses of all sizes are receiving notices that they will be under audit as states conduct a witch-hunt to find extra income and sales tax revenue from companies doing business within their borders.
With regard to sales tax specifically, though, determining a company’s tax obligation in each jurisdiction can be tricky. Companies that determine they have nexus in a particular jurisdiction must further determine whether their sales are taxable or not. The rules for determining taxable sales swing wildly from state to state, and between local jurisdictions within the same state. The presumption is that all sales are subject to sales tax unless exempt. For example, Colorado has a manufacturing exemption, so qualifying equipment purchased for manufacturing purposes would not be subject to sales tax.
States approach nexus issues differently. Some states, such as New York and California, are typically more aggressive than others in going after businesses. In 2009, the New York Supreme Court upheld a ruling that required Amazon to collect sales tax on those purchases that were made through a link posted on New York based companies’ websites (Amazon.com v. N.Y. Dept. of Finance & Taxation (N.Y. Sup. Ct. Jan. 12, 2009). Each time Amazon and other online retailers pose as the storefront for a business located in the State of New York, sales are taxed by the State. This is commonly referred to as “click-through” nexus; similar rulings have been made in other states. Elsewhere, states may not be collecting from buyers when the sellers do not have a physical presence or nexus in the state where the buyer makes the purchase.
Generally, determining whether a multi-jurisdictional company has an obligation to collect and remit sales tax requires a nexus study, which in itself can be cost-prohibitive for many organizations. In the absence of a nexus study or research on whether the sale is actually taxable, some companies may opt to collect and remit taxes across the board to eliminate all exposure. However, in doing so, companies should weigh the cost of collecting and remitting sales tax against the cost of any competitive disadvantage that sales tax collection may create. Companies in states like Colorado, where the sales tax rate exceeds 7%, could be at a large disadvantage if they decide to collect taxes where in fact they are not required to do so.
The risk in ignoring potential requirements around nexus can be significant. The exposure may not materialize for years until the company receives notification from a jurisdiction that the company should have acted as an agent. Should this happen, the company could transition from agent to taxpayer because of the missed opportunity to collect sales tax from customers at the point of sale. In addition, the company is responsible for any penalties and interest that the jurisdiction imposes.
While the state statutes require filing in jurisdictions where you are doing business regardless of materiality, many companies are taking a practical approach to dealing with the uncertainty around nexus issues by weighing state exposures and alternatives. For example, some companies are segregating jurisdictions by revenue to focus on areas of high-revenue concentration. In jurisdictions where revenues are substantial, these companies determine whether to collect and remit sales tax or live with the exposure based on information they have on hand. These are “risk management decisions” undertaken by educated taxpayers in managing complex business situations. If taxpayers discover, after the fact, that they should have collected taxes, they could potentially participate in a state’s voluntary disclosure program. Voluntary disclosure programs are an anonymous way for taxpayers to file back tax returns, typically filing returns for the current and three to four preceding years, and getting a percentage of interest and penalties waived.
Companies will have to make the decision on how to proceed with the most current information in hand. During 2010, many states were busy adding, deleting and modifying statutes to provide for nexus designations and other nuances that would allow these states to collect sales tax revenue on out-of-state business transactions. It is important to note that nexus rules are different for sales tax and income tax, while one activity would create sales tax nexus, the same activity might not create income tax nexus. For a listing of the most up-to-date nexus designations and other top tax issues by state, see the AICPA’s Tax Advisor Current Corporate Income Tax Developments, Parts 1 and 2.
Current Corporate Income Tax Developments, Part I
http://www.aicpa.org/Publications/TaxAdviser/2011/March/Pages/Boucher_March2011.aspx
Current Corporate Income Tax Developments, Part II
http://www.aicpa.org/Publications/TaxAdviser/2011/April/Pages/Boucher_apr2011.aspx
