Sales Tax Considerations When Selling Gift Cards
- March 12, 2015 | Ryan O'Donnell
Did you know gift cards are the second-most given gift by consumers in the US? Did you know that gift cards are the most-wanted gift by women and the third most wanted gift by men? Each year 50% of all US consumers claim to have purchased a gift card. What you might not know is how to think about gift cards from a seller perspective as well as some of the tax rules around gift cards purchases.
Gift Card Purchases Are Tax Exempt
First a gift card is an obligation, an IOU of sorts from the vendor. The vendor promises to give the customer goods or services valued at the purchase price of the card. At the time the gift card is purchases, the purchaser and the vendor have no idea what the card will be used for. This makes it impossible to charge sales tax on the purchase of the gift card. It's possible the card holder may use the card to purchase tax exempt goods. As a result, no sales tax is collected on the sales of gift cards.
When the card holder uses the gift card, sales tax for the item purchased is then included in the total purchase price and deducted from the balance of the gift card. For example, if a shopper in California with a gift card valued at $10 uses the card to purchase a sweater with a list price of $8, sales tax may or may not be collected depending on whether the purchase was made online or in person and whether or not the vendor has nexus within the state of California. Let's consider both situations:
- Sales Tax Collected: Let's first assume the purchase was made in a physical store. A physical presence like a brick and mortar store triggers nexus in California (or any other state that collects sales tax). In such a situation, the total charge to the gift card equals the retail price of the sweater ($8.00) plus any applicable sales tax.
- Sales Tax Not Collected: If, in the other hand, the purchase was made online and the site owner has no physical presence in California. In such a situation, the total charge to the gift card equals the retail price of the sweater ($8.00) plus no sales tax.
Finally, remember that some purchases aren’t taxed at all. This is a state by state and sometimes a county by country decision. Food is frequently not taxed depending on a number of factors including how it is prepared, served, and consumed. In fact, some states consider certain foods to be luxury items and, as a result, they are taxed accordingly. Your $10 gift card might be able to purchase a ham tax-free. But if you try and buy truffles your purchase may include applicable taxes.
Mind Your Point of Sale System
If you are planning on selling gift cards, be aware that it is possible to mistakenly charge sales tax on the purchase. In such a situation, hopefully you realize your error when you collect more than $10 for a $10 gift card. Sometimes this is the result of an honest mistake. The manner in which you process gift card purchases may simply be set up wrong in your Point of Sale system. Be sure to check receipts carefully for processing errors during customer checkout.
In the event of an error, be prepared to issue a sales tax refund should the customer return with gift card and receipt in hand.
"Shoppers who have been charged sales tax when buying gift cards or gift certificates should return to the store with their receipt and ask for a refund," said Connecticut Revenue Services Commissioner Kevin B. Sullivan.
Gift Cards for Employees
If you are an employer giving gift cards as an employee gift, the gift card is considered taxable. Most employers let their employees know this up front so there isn’t a surprise at tax time. But some employers aren’t aware of this. As an employer you must report the value of the gift card on a W-2 as supplemental wages and withhold taxes from the employee's paycheck. The IRS taxes gift cards because it considers them a cash equivalent.
To avoid employee grumbling about paying taxes on a gift card, consider including taxes in the value of the card and let your employees know this up front. For instance, if you plan to give gift cards worth $100, make them $125 to account for a typical income tax rate of 25 percent. Give the gift card at the last payroll of the year and make sure the W2 reflects this correctly.