Expanding across the pond: US sales and use tax guide

The e-commerce sector in the US has witnessed immense growth in recent years, escalating from $1.04 trillion in 2022 to $1.119 trillion in 2023 (an increase of 7.6%) according to Digital Commerce 360. Carving a niche in this booming economic sphere offers enticing opportunities for businesses worldwide. Notably, many European businesses are looking towards market expansion as a strategy to increase their revenue, and the US market stands out as an ideal territory.

Exploring and delving into this vast commercial landscape promises huge potential. However, understanding and effectively managing the complex US sales and use tax laws of each state is imperative for a seamless and profitable journey.

Traditionally, sales tax in the US is a state-imposed tax on the purchase of goods and services where the vendor has a physical presence in that state. The US allows each state, county, city, and local district to determine its tax rate and regulations. There are 45 states that currently impose sales tax. It is pertinent to note that sales tax is generally imposed on retail sales, leases, rentals of most goods, and on some services.

Individual tax jurisdictions can choose to exclude certain goods or services from tax or apply a reduced rate to certain items. With the growth in digital services, states are working to define these technologies within their tax framework, leading to increased complexity in tax laws and regulations.

Many states lack a precise definition of how and where sales tax applies to digital products or services. With cloud-based sales, such as software as a service, the situation becomes even more complex, as states adopt a wide range of approaches. One example of these approaches is states using different sourcing rules to determine the taxability of digital products or services, based on the location of the buyer, the seller, or the server hosting the digital product or service. Another approach some states are adopting is taxing certain digital goods, while others may be exempt, or applying a reduced tax rate.

A quasi-governmental body known as the Multistate Tax Commission is working to create a uniform act that could eventually be adopted by all 45 states and the District of Columbia. This uniform act will likely be discussed and adopted during state legislative sessions in 2025.

Seller's use tax is a form of tax imposed on vendors that do not have a physical presence in a state but sell products or services within that state and are registered to collect tax. Essentially, this tax is the counterpart to sales tax for out-of-state sales transactions.

‘Nexus’ refers to a significant business presence or connection in a particular state that triggers the obligation to collect and remit sales tax on transactions involving that state. Nexus could be established by physical presence (e.g., a store or an office) or by sales revenue volume/number of transactions, through laws commonly known as 'economic nexus' laws.

Economic nexus is established when a business reaches a certain threshold of sales revenue value or transaction number within a state (even without a physical presence). This nexus standard was established by the US Supreme Court’s Wayfair decision in 2018.

The concept has become more relevant with the growth of e-commerce and online sales, as businesses can have a significant economic impact on a state without having a physical presence there. For instance, California imposes sales tax obligations on retailers with over $500,000 in sales in their state, even without a physical presence. Understanding state-specific nexus laws such as this one can help businesses to proactively manage their tax liabilities.

It is essential for European businesses to understand the depths of sales and use taxes throughout the US: at state, county, city, and local district levels. Grasping these nuances can mean the difference between under- or over-collecting tax – a discrepancy that could lead to penalties or adversely affect the profitability of, and customer satisfaction regarding, your goods or services in the respective market.

The process of reporting US sales and use tax and the level of information required varies from state to state. Here are some key aspects to consider.

The frequency of filing sales and use tax returns is determined by each state's tax authority. Some states require businesses to file monthly, while others may require quarterly or annual filings. The frequency may also depend on the amount of sales tax collected by the business. For example, businesses with higher sales tax collections may need to file more frequently than those with lower collections.

It is crucial to understand the specific filing requirements for each jurisdiction where you have a tax obligation, to avoid penalties and ensure compliance.

When filing sales tax returns, businesses must report their sales and tax collected for each jurisdiction where they have a tax obligation. This includes reporting at state, county, city, and local district levels. Reports should include details such as the total sales and the amount of tax collected for each jurisdiction where you have a tax obligation.

Some sales may be exempt from sales and use tax, but businesses must track and report exempt sales separately from taxable sales on their sales tax returns. To support exempt sales claims, proper documentation, such as exemption certificates, is necessary. Normally, exemptions from sales and use tax are allowed when selling to non-profit entities or when the product is used in a manufacturing process or is sold during a sales tax holiday; e.g., for back-to-school items.

The US market provides a lucrative opportunity for European businesses, but to unlock this potential and navigate the complexities of the system, a clear understanding of US sales and use tax regulations is vital. Grasping the intricacies of nexus, complying with unique state, county, city, and local district-level regulations for sales and use taxes, accurately registering, and consistently reporting tax collections are parts of the foundations of success.

With a clear understanding of these obligations and by creating robust processes around them, European companies can successfully harness the potential that the US e-commerce market offers.