It’s no secret that cash-strapped states are becoming more aggressive in collecting taxes. To raise more funds, states have turned their attention to online shopping, which has continued to chip away at local sales tax revenues, a major source of state funding.
Although it’s a complex issue, not fully understanding “nexus” or what gives a state the ability to tax a person or business could cause businesses to find themselves in hot water down the road.
Traditionally, a state’s ability to collect taxes would normally be based upon a physical presence, such as an office or employees in the state. To address the increase in online sales, states have imposed sales tax nexus on remote sellers based on relationships with in-state entities.
Another type of nexus is called click-through nexus. Click-through nexus is triggered if compensation is paid as a result of a customer clicking through a website link that generates a sale. This is commonly referred to as the "Amazon tax."
Nexus can also be established during the inventory fulfillment process. For example, if a business engages Amazon to handle its fulfillment – inventory, shipping, returns, etc. – otherwise known as FBA services, nexus is created wherever Amazon is conducting this process on behalf of that business. As a result, a business physically located in Arizona that has FBA services through Amazon’s warehouse in Michigan would also have nexus in Michigan.
Many businesses, especially e-commerce businesses, may not be aware of these rules, much less that they are subject to paying these potential taxes. Oftentimes, businesses don’t even realize that nexus has been established.
So, what happens if your business is not compliant with nexus rules? Unfortunately, the consequences can be steep. Usually we see states issue a tax assessment that includes interest and penalties for not filing/paying tax. These assessments can go back to when nexus was first established, which can be several years for some companies.
What should you do if you find your company has nexus in states where it is not currently filing?
First, contact a tax consultant well-versed in state and local tax issues. There are ways to clean up the situation so the tax bill isn't as hefty.
Essentially, there's a voluntary disclosure program that almost every state offers that would allow your tax representative to contact the state, often anonymously, and get your company into the program. In exchange for voluntarily coming forward, the state will generally limit the lookback period to three or four years and agree to waive penalties.
Your tax consultant will assist you with securing the voluntary disclosure agreements and getting penalties waived. Generally, the company will be stuck with tax and interest for the lookback period and will have to agree to file prospectively, but at least it doesn't go back to the beginning of nexus.
For more information on nexus rules and to stay abreast of changes, click here.