Sales tax for small businesses: when you have to collect it, and in which states

Sales tax confuses more small business owners than income tax, for a simple reason: there isn't one set of rules. There are dozens. Each state with a sales tax decides what's taxable, how much to charge, when an out-of-state business has to collect it, and how often to file. Cities and counties often add their own rates on top.

The good news is that the decision follows a clear sequence, and for many small businesses the answer is simpler than it first looks. This guide walks through it.

Sales tax and use tax

You'll see both terms. Sales tax is collected by the seller at the point of sale. Use tax is the matching tax a buyer owes when sales tax wasn't collected, for example on goods bought from an out-of-state seller. When states require out-of-state sellers to collect, they often call it use tax, as California does, but for the seller the job is the same: charge it, collect it, file it.

Use tax matters to your business as a buyer too. If you buy equipment from an out-of-state supplier that didn't charge sales tax, your state may expect you to report and pay use tax on it.

Five states without a statewide sales tax

Alaska, Delaware, Montana, New Hampshire and Oregon have no statewide sales tax. Alaska allows local sales taxes, so some Alaskan towns charge one, and a few local jurisdictions in Montana charge resort taxes. Selling into these states is simpler, but not always tax-free.

The four questions that decide it

1. Where do you have nexus? That's the legal connection that lets a state require you to collect its tax.
2. Is what you sell taxable there? Physical goods usually are. Services and digital products vary.
3. Do you sell through a marketplace? If so, the marketplace may collect for you.
4. What rate applies? That depends on the state's rules for where a sale happens and any local rates.

Nexus: physical and economic

Physical nexus

Having a physical presence in a state almost always creates nexus there. That includes an office, a store, a warehouse, employees working in the state, and in many states inventory stored there, even in a third-party fulfillment center. Your home state, if you sell taxable goods, is the obvious first one.

Economic nexus

Until 2018, a state generally couldn't make a business collect its sales tax without a physical presence. The Supreme Court's decision in South Dakota v. Wayfair changed that, allowing states to require out-of-state sellers to collect once their sales into the state pass a threshold. Every state with a statewide sales tax now has some form of economic nexus rule.

The thresholds differ, and so do the details of what counts. Four large states show the range:

Read the details carefully. Texas counts total revenue into the state, including nontaxable sales. California counts sales by related businesses and sales through marketplaces toward its $500,000. New York requires both the dollar and the transaction test. Florida counts only taxable remote sales.

Many other states use a $100,000 threshold, and several have dropped the transaction-count tests they started with. Check each state's revenue department for its current rule.

Is what you sell taxable?

Physical products

Most states that have a sales tax tax most physical goods, with exemptions that vary, such as groceries, prescription drugs or clothing in some states. If you sell physical products, assume they're taxable until you've checked.

Services

Services are more mixed. Many states tax few services, and some tax many. Consulting and professional services are often exempt, while services such as repairs, installation or landscaping are taxed in some states. Check each state where you have nexus.

Software, SaaS and digital products

This is the least consistent area of all. Some states tax downloaded software, streaming, e-books or SaaS subscriptions. Others exempt them, and some tax only certain kinds. If you sell software or digital products, get advice for the specific states where your customers are concentrated.

Marketplaces collect for you, mostly

Most states have marketplace facilitator laws. They make large marketplaces, such as Amazon, Etsy, eBay and Walmart Marketplace, responsible for collecting and remitting sales tax on the sales they facilitate. California's Marketplace Facilitator Act is one example.

For a seller, that means sales made through those platforms usually aren't yours to collect on. But two things remain your job. Sales through your own website or store aren't covered. And some states, California among them, count marketplace sales toward your own economic nexus threshold, so marketplace sales can create a duty to collect on your direct sales.

Registering, collecting and filing

Register first

Never collect sales tax before you're registered. Collecting tax you aren't authorized to collect creates its own problems. Register with each state's revenue department where you have nexus. Many states issue permits for free, such as California's seller's permit and Texas's sales and use tax permit, though a state may ask for a security deposit or bond.

Collect the right rate

States decide whether the rate is based on where you are (origin-based) or where the customer is (destination-based). Most states are destination-based for sales delivered to customers, which means rates can vary by city and county within a state. Ecommerce platforms and tax software calculate this by address.

File on the state's schedule

Each state assigns a filing frequency, usually monthly, quarterly or annually, based on how much tax you collect. You file a return and pay what you collected, even if it's zero in some states. Missed returns bring penalties quickly, so put every state's due dates in your calendar.

Keep exemption certificates

When you sell to a business that's buying for resale, or to an exempt organization, collect a valid resale or exemption certificate. Without one, a state can hold you responsible for the tax you didn't collect.

A worked example

An online store based in Texas sells handmade goods through its own website and on Etsy. Last year it sold $60,000 to Texas customers, $40,000 to Florida customers through its website, and $30,000 to California customers, mostly on Etsy.

• Texas: it has physical nexus, so it registers for a Texas sales and use tax permit and collects on taxable Texas sales from its website.
• Florida: $40,000 of taxable remote sales is below the $100,000 threshold, so no Florida collection yet.
• California: $30,000 is far below $500,000, and Etsy collects on its California marketplace sales anyway.

As the store grows, it reviews its sales by state every quarter, and registers in Florida in the year after its Florida sales pass $100,000.

Tools and help

Once you sell into several states, software saves a lot of work. Most ecommerce platforms calculate sales tax at checkout, and dedicated sales tax tools can track your sales against each state's thresholds, calculate rates by address, and file returns for you. For a business with nexus in only one or two states, the platform's built-in tools and a calendar are often enough.

A sales tax specialist is worth paying when you sell software or services, when you've sold into many states for years without collecting, or when a state contacts you about past sales. Many states run voluntary disclosure programs that reduce penalties for businesses that come forward before they're contacted.

If you've already sold without collecting

Many small businesses discover economic nexus after the fact, when a state's threshold was passed a year or two earlier. Don't ignore it, and don't start collecting quietly without dealing with the past.

1. Work out the exposure. Total your taxable sales into the state since you passed its threshold.
2. Talk to a sales tax professional. They can tell you whether a voluntary disclosure agreement is worth pursuing.
3. Use voluntary disclosure where it fits. Many states reduce or waive penalties, and limit how far back they look, for businesses that come forward before the state contacts them.
4. Register and start collecting from a clear date going forward.

The cost of fixing it is almost always lower before a state's letter arrives than after.

The checklist

1. List every state where you have a physical presence.
2. Total your sales by state, and compare them with each state's threshold.
3. Check whether your products or services are taxable in each nexus state.
4. Note which sales go through marketplaces that collect for you.
5. Register before you collect.
6. Collect the right rate, file on schedule, and review your sales by state each quarter.

If you're selling online and still choosing a platform, our guide to the best state to form an LLC explains why where you form the business doesn't change where you owe sales tax, and our guide to business licenses covers the permits that often come with it.