Small Business: Five common sales tax registration mistakes
When you started your business, you may not have realized that you’d also be taking on a second role: collecting sales tax on behalf of one or more states.
Collecting sales tax is a reality for businesses, however, and one of the first things you need to take care of is registering with all tax jurisdictions relevant to your business and getting the required sales tax permits and ID numbers.
As a small business, you probably don’t have a resident sales tax expert on staff to guide you through this process. It’s also likely you don’t have a lot of time and resources to spend learning things the hard way. So why not learn from others’ mistakes?
Here are some of the most common sales tax registration pitfalls that can catch small businesses — and tips on how to avoid them.
1. Failing to register in the right states
If you don’t register in the states where you have a sales tax obligation, you run the risk of penalties, fines, and audit. To make sure you’re registered in the right states, you need to know your nexus.
Nexus is a relationship your business has with a state or locality that obligates you to collect sales taxes there. In the United States, there are two principal kinds:
Physical nexus is always triggered in a state where your business is physically located, but there are plenty of other ways to establish nexus outside your home state. This can include having employees in a state, having online affiliates, regularly attending trade shows, storing goods, using a drop shipper or a distributor based in the state, or having branches in a particular state. Learn more about how to determine nexus.
Economic nexus impacts businesses with no physical presence in a state, also known as remote sellers. The connection is established when annual sales revenue and/or the number of transactions a remote seller has into a state reaches a threshold set by that state, requiring the business to register for sales tax. Each state has its own thresholds.
2. Registering in the wrong states
Registering where you aren’t required to register can cost you extra time and money. In addition to paying any registration fees, once you’re registered, you’ll be required to file each reporting period. In the vast majority of states, you’re required to file even if you haven’t actually collected any sales taxes. This unnecessary burden can be avoided by knowing your nexus and only registering where you have an obligation.
3. Streamlined Sales Tax
The Streamlined Sales Tax program, or SST, is an effort by states to reduce the burden of sales and use tax collection, administration, and compliance. In the 24 states that participate, businesses can use one registration form to automatically register in all SST states. SST member states are Arkansas, Georgia, Indiana, Iowa, Kansas, Kentucky, Michigan, Minnesota, Nebraska, Nevada, New Jersey, North Carolina, North Dakota, Ohio, Oklahoma, Rhode Island, South Dakota, Utah, Vermont, Washington, West Virginia, Wisconsin, and Wyoming. Tennessee is an associate member state so registration is optional.
Registering for SST can make sales tax compliance in SST member states much more streamlined and less burdensome, especially for businesses with a high volume of sales into multiple SST states. Additionally, businesses that qualify as volunteer sellers can avoid the standard fees for registration, transactions, and filing in SST member states when they use a Certified Service Provider like Avalara.
Click here to learn more about SST requirements and benefits.
One thing to note: During the SST registration process, you can indicate that you don’t have any sales in a given SST state, and though you’ll be licensed, you won’t be required to file returns until you have applicable sales.
4. Using the wrong NAICS code
When you register for a sales tax permit, you must categorize your industry with a North American Industry Classification System (NAICS) code. For example, one commonly used NAICS code is 454110 for “internet retail sales.” All internet retailers, regardless of the specific products they sell, register using the same code. You can search for your code on the NAICS website.
It’s important to use the right code because states use this to send you any information you might need to know regarding sales tax in your industry. If you use the wrong code, you may miss crucial updates.
5. Failing to deregister properly
When your situation changes and you no longer have an obligation to collect sales tax in a state, you need to follow a formal process to deregister. This can vary from state to state.
Some states have adopted a standard of “trailing nexus.” Those states consider your business as having nexus for six months or longer after, for instance, ceasing to have physical or economic nexus with the state. Other states require companies to maintain registration for more than a year.
In Iowa, for example, a business that establishes economic nexus in the state in 2021 must remain registered throughout the 2022 calendar year even if its sales into Iowa drop below Iowa’s economic threshold of $100,000. If the business doesn’t meet or exceed Iowa’s economic nexus threshold in 2022, it may cancel its sales tax permit and stop collecting and remitting Iowa sales tax as of January 1, 2023.
Trailing nexus works a little differently for physical presence nexus than it does for economic nexus. By definition, a business must collect in the year following any year in which the business exceeds economic nexus, regardless of the number of sales made in that following year. Iowa, like all the other states, imposes a collection requirement based on sales in the immediate preceding year.
It will be interesting to see if states adjust trailing nexus rules for businesses that had physical presence nexus.
6. (BONUS!) Manually collecting, preparing, and filing sales tax returns
Once you’ve successfully registered your business, the next step is collecting, filing, and remitting sales taxes. For a small business, figuring out the requirements and carrying them out can be a lot of work that takes resources away from the core of your business. Sales tax automation software, such as Avalara Returns for Small Business, which integrates seamlessly into popular ecommerce or accounting systems, can help.
This is an update to a post first published in 2016.
Stay up to date
Sign up for our free newsletter and stay up to date with the latest tax news.