U.S. Tax Basics
- Updated on 9 February 2024
- 8 min read
Heads up: we hope the info we provide here can get you started, and our auto-tax feature can take a lot of the guesswork out of how to charge tax. But if you have any uncertainty, we'd recommend consulting with a tax pro.
Since tax law is unique to your own scenario (and we're not in the business of providing tax advice š¤), a trusted accountant can help you navigate requirements based on what (and where) you sell.
With that out of the way, let's get a lay of the land. If you own a brick and mortar shop, it makes sense that you charge the required state and local sales tax to each customer that makes a purchase in your store. Your sales are just made in the state where you are located, so you pay taxes to that state - pretty straightforward.
But, selling online may be a tad more complicated. Let's say you make sales online to customers in other states and even countries. Certain products may be taxed at different rates in different locations, and some products may not be taxed at all. Bottom line: there are many different scenarios that you may need to account for when it comes to taxes and online selling.
A note on permits
Before you start charging tax in your shop, you'll likely need to register for a sales tax permit - again, checking in with an accountant is a good idea before you dive in. You can learn more about that here from our pals at TaxJar.
Shop location
In the U.S. šŗšø, online retailers are required to collect sales tax from buyers in states where they have āsales tax nexus.ā Essentially this means you'll want to collect tax in any state where your business has a presence.
This could be as simple as collecting tax where you create and ship your products from and for most shops this is the case. This means youāll collect the applicable sales tax for orders placed by customers in the state where your business is located. In this simple scenario, if an out of state buyer places an order you arenāt responsible for collecting or remitting any tax for their purchase.
But weāre talking about taxes here, so of course, it can get more complicated. š Hereās what we mean. Sales tax is generally collected at the point of purchase, like a store, right? So for online sales, this would be the place the order is shipped to. This is why you donāt typically need to collect tax on out of state orders.
When a buyer makes an online purchase from an out of state seller, and sales tax isnāt collected, they become responsible for paying that tax (generally by reporting it on their state income tax return). Since almost nobody does this, and online sales are a huge thing these days, states are trying to find as many creative ways as possible to get businesses to bear this responsibility.
A number of common scenarios can cause you to have what the state considers enough of a presence to require you to collect and remit tax in that state as well. You need to be aware of these either to avoid them and keep your tax collecting and reporting simple, or to stay on the up-and-up with the tax man.
Here are some sales nexus scenarios you may need to consider:
A location: This includes an office, warehouse, store, or other physical place where you do business. If you make, package and ship your products from your home or studio, then you'll likely need to remit taxes in the state where your studio is located.
Personnel: An individual who is an employee, contractor, salesperson, installer, or other person doing work for your business is considered personnel.
Inventory: Most states consider storing inventory in the state to cause nexus even if you have no other place of business or staff. If you keep inventory in your mom's basement and she lives in another state, then you may need to pay taxes in that state.
Affiliates: Someone who advertises your products in exchange for a cut of the profits creates nexus in many states. If you pay your buds to promote your products, then you may need to pay taxes in the states where they are located.
Drop shipping or fulfillment: In some situations, a third-party shipping to your buyers may create nexus. Maybe you use a service like Printful to produce your tees and ship them out. This could mean you have economic ties to other states.
Selling in-person at an event: Some states consider you to have nexus even if you only sell there temporarily. If you use the app to sell in-person at an event like a festival or craft fair, you may need to pay taxes on those sales to that state.
Keep in mind, it's possible to have more than one sales tax nexus. Let's say you create and package some products in New York, and you drop-ship some of your products via Printful in California, and your pal in New Jersey also stores some inventory for you in their basement. In this case, you may have sales tax nexus in three states.
Product type
Different types of products or services may have discounted tax rates, and some may even be tax exempt. While this is great news for your customers, it means a little extra work for you (sorry)!
These exemptions or discounted product types can vary by state, use, customer, and sales total, and it can get pretty weird. For example, in Iowa, candy with flour in it is non-taxable, so tax is not charged on a Milky Way candy bar since it contains flour. Milky Way Midnight, however, is taxed.
Regardless of how odd these tax breaks may seem, you want to make sure you are passing them along to your customers. If you're not sure if your products fit into a specific class or category, check with a tax pro.
Economic nexus
Shop owners in the U.S. are required to collect sales tax from buyers in states where they have āsales tax nexus.ā Essentially this means you'll want to collect tax in any state where your business has a presence.
In addition to location, your business can also have a nexus or āpresenceā in a state based on revenue or number of transactions that exceed a certain threshold. In other words, if you have lots of sales in a particular state, you may be required to collect and remit sales tax there. If you're looking for a more detailed explanation, you can read up on the court ruling on South Dakota vs. Wayfair.
State laws on economic nexus vary. The sales thresholds can range from $10,000 to $500,000 in sales, and some states donāt have a transaction threshold at all. Running through your sales history with a tax professional can ensure that you are paying the correct taxes in states where you may have economic nexus.
Looking for more info on sales tax nexus, tax class or just taxes in general?