Avalara TaxQuest: Sales tax implications for foreign businesses that use third-party warehouses in the U.S

Today’s global ecommerce landscape offers more opportunities than ever for businesses to sell products internationally. However, customer expectations are not limited to product quality and pricing. There’s a growing demand for rapid delivery and lower shipping costs. To meet this demand, foreign companies are relying on centralised warehousing solutions managed by third-party logistics providers. These warehouses help businesses streamline operations, manage inventory effectively, and maintain a competitive edge by improving customer satisfaction through faster delivery times.

While warehousing offers significant operational benefits, it also introduces complex sales tax obligations. If your business plans to use a third-party warehouse in the U.S. to store and fulfil orders, here are the key tax implications to consider and strategies to navigate them.

Let’s begin by understanding the basics of warehousing.

Warehousing involves storing goods in a central location, often managed by a third-party logistics provider. This strategy is critical for several reasons:

• Enhanced customer service: It enables faster delivery times and reduces shipping costs, improving customer satisfaction and competitive pricing.
• Operational efficiency: It allows businesses to scale operations, manage inventory effectively, and ensure products are readily available to meet customer demand.
• Market penetration: It helps businesses reach a broader customer base and strengthen their market presence.

Physical presence nexus: Using a third-party warehouse in the U.S. can establish a physical presence nexus. Physical presence nexus refers to a tangible link to a state. This means that merely storing inventory in a warehouse located in a state can create a sufficient connection to that state, obligating your business to collect and remit sales tax on sales made to customers in that state.

For instance, if you store your inventory in a warehouse in Texas, you establish a physical nexus there, making you responsible for collecting and remitting sales tax on sales to customers in Texas. The presence of inventory, even if managed by a third-party logistics provider, creates a sufficient connection that subjects your business to that state’s sales tax regulations.

Economic nexus beyond physical presence: Even if your business doesn’t have a physical presence in some states, economic nexus laws may still apply. These laws are based on the volume or value of sales made into a state.

Economic nexus laws were enacted to address the increasing volume of online sales and ensure that states could collect tax revenue from remote sellers. For example, if your business sells a significant amount of goods to customers in California but doesn’t have a physical presence there, you might still be required to collect and remit sales tax if your sales exceed California’s economic nexus thresholds.

State nexus thresholds: Each state has different thresholds for economic nexus. Thresholds are often based on annual sales revenue or the number of transactions. It’s important to understand applicable thresholds to determine if your business needs to collect sales tax in the states where customers are located. Here are some examples:

• California’s economic nexus threshold is $500,000 in sales to customers in the state in the current or previous calendar year
• South Dakota’s threshold is $100,000 in sales or 200 sales into the state annually
• New York’s threshold is $500,000 in sales and 100 sales into the state within a year

Understanding these thresholds is important as crossing them means you must comply with that state’s sales tax collection and remittance requirements. Regularly monitoring your sales data helps ensure compliance and avoids potential penalties.

• Temporary storage: Even short-term warehousing can trigger nexus. If your business uses a warehouse temporarily, you could still establish nexus if the state considers any presence significant enough.
• Third-party logistics providers (3PLs): If you use 3PLs, it’s important to track where your inventory is stored. Different 3PLs may have warehouses in various states, potentially triggering nexus in multiple locations.
• Documentation: Keep detailed records of where your inventory is stored and the duration of storage to ensure you can accurately determine where nexus might be established.

Tracking complex sales tax regulations that vary from state to state is anything but easy. Here are some strategies to help you navigate these requirements and ensure your business remains sales tax compliant:

• State registration: Once you’ve established nexus in a state, register for a sales tax permit with that state’s tax authority. Each state has its own process for registration, which may include forms, documentation, and fees.
• Compliance checklist: We recommend preparing a comprehensive checklist to ensure you meet all sales tax obligations, including registration, collection, and remittance.

• Tax software: Consider using automated tax compliance software like Avalara to manage the complexities of sales tax collection and remittance. These tools can help you accurately calculate the applicable tax rates and ensure timely filings.

• Real-time updates: Tax software can also provide real-time updates on tax rates and regulations, helping you stay compliant even if laws change. Additionally, such software can alert you when your warehousing activities are close to triggering nexus in a particular state.

Managing the complexities of U.S. sales tax for warehousing and fulfilment requires careful planning and ongoing compliance. Understanding nexus triggers specific to each state and leveraging technology can help your business effectively manage its tax obligations and thrive in the U.S. market.