Effectively Managing Sales Tax Exemptions
- Mar 14, 2015 | Ryan O'Donnell
If you’re running a small business, it’s likely you have experienced the complexity and time-consuming nature of sales tax compliance first hand. From registration to filing and remittance, the ever-changing nature of tax rules and regulations is enough to keep the average small business owner busy.
In such a situation, it’s easy to overlook the critical need to manage sales tax exemptions in a way that makes it easy for tax-exempt customers to make tax-free purchase, but also sets your business up to produce the necessary paperwork in the event of an audit.
We offer an overview of sales tax exemptions plus some recommendations for how to best manage your sales tax exemption certificates.
You Are Liable
Before we talk about how to approach tax exemption certificate management, it’s important to understand your liability as a merchant. The responsibility of sales tax collection and remittance falls on the shoulders of the seller. The value of managing sales tax exemption certificates in a reliable, organized manner cannot be overstated.
Failure to receive a valid sales tax exemption certificate from a buyer of tax-free goods or services may result in the seller being held responsible for the missing sales tax plus any outstanding interest – which can be painful should you be targeted for an audit. Non-taxable sales are reviewed during an audit using a “test period audit method”. This method involves selecting a limited period that is “tested”. An error rate is then developed which is projected throughout the entire audit period. The sales tax due on each disallowed tax-free sale is then “projected” throughout the entire audit period. This can lead to tens of thousands of dollars in additional tax due to the mathematical compounding of the error rate.
Sales tax and exemption certificates are ever changing, complex topics. Expecting a customer to understand such topics is unreasonable. It is up to the vendor to make sure a valid, current tax exemption certificate is received and filed for easy access. Again, the failure to collect tax on taxable sales may make you personally liable for the tax, plus potential penalties and interest.
Get the Certificate
It’s easy to forget to ask for an exemption certificate. During the sales process, many sales people are motivated to make the sale. Necessary paperwork may seem like a distraction and be an afterthought. Approach your sales in such a manner at your own peril! Remember, the sales tax liability falls on the shoulders of the seller, not the buyer. In other words, get that certificate!
No Certificate = No Exemption
A merchant should never assume a customer is tax exempt. Just because they work for (or claim to work for) a non-profit or another institution with limited tax-exempt status does not mean they get a pass on paying sales tax. If a customer cannot product a valid tax exemption certificate then they must pay sales tax. This is not an area where you want to dabble is ‘promises’ and ‘hand shake deals’.
It is true that in many states, customers have a limited amount of time to return to the merchant with the valid certificate. However, it is always best to ask for and receive the certificate at the time of sale. Otherwise, the responsibility to get the certificate falls squarely on the seller’s shoulders and can result in hours of time wasted chasing the customer trying to collect the missing certificate.
Verify the Certificate
Assuming the customer produces a certificate at the point of sale, never assume it is valid and has been completed accurately. In fact, never even assume it’s the correct form. The onus is on the seller to review the form to verify it is the correct document, it is filled out correctly, it has been signed by the owner, and it has not expired.
Should a buyer present a tax exemption card, sellers are encouraged to verify the card is valid by visiting the government Tax Exemption Card Verification website.
Federal tax exemption letters and other miscellaneous permits, licenses, and forms are not valid substitutes for a sales tax exemption certificate. If you are unsure about the validity of the form presented at the time of purchase, it is recommended you contact your state taxing authority for further assistance.
Check the State of Delivery
The sales tax exemption certificate must be valid for the requested state of delivery. Attempting to make a tax-free purchase that will be delivered to Kentucky with a Tennessee state sales tax exemption certificate is not valid. The seller should point this out to the buyer and charge sales tax accordingly.
Taking Possession Locally
In several states (FL, GA, IA, SC, NC, VA, TN, WI, MN, ND, SD, OK, TX, and KS), an exemption certificate is needed if the buyer takes possession of the goods at the point of sale. Where the business is located and where the goods will be used is irrelevant.
Record Certificate Information Carefully
When entering the seller’s tax exemption certificate into your management system, take your time and double check your work. Incorrectly saved certificate details are a common error and may lead to a tax-free sale being disallowed.
Software for Better Certificate Management
Rather than storing exemption certificates in a drawer, a filing cabinet, or (perish the thought) in your trunk, consider software like Avalara CertExpress. This free tool makes managing your exemption certificates simple, quick, and reliable.
Every merchant will be confronted with buyers requesting tax-free purchases for a wide variety of reasons. It’s up to the seller to manage their sales tax liability exposure to avoid costly tax penalties during an audit.