As in many states, sales tax in Texas is comprised of the state sales tax and applicable local sales taxes. The base state sales tax rate of 6.25% applies to all taxable sales in the state, barring an exception. Local sales tax rates are determined by the Lone Star State’s complicated sourcing rules.
Texas uses mixed sourcing, so some sales are sourced to the location of the seller (origin sourcing) while others are sourced to the location of the buyer (destination sourcing). David Lingerfelt, senior director of North America tax content at Avalara, says sales tax sourcing in Texas “is akin to a do-si-do square dance.”
Well, the Texas Comptroller is cutting in.
Today, businesses located in Texas generally source internet orders to the location where the order — not the package — was received (origin sourcing) rather than the location where the consumer takes possession of the goods (destination sourcing).
Effective October 1, 2021, the definition of a seller’s “place of business” will exclude “a computer server, an Internet protocol address, domain name, website, or software application.” As a result, sales will no longer be sourced to the location in Texas where a business processes internet orders. Instead, sales will be sourced to the location where the internet order is fulfilled — if fulfillment occurs in a place of business in Texas. If fulfillment occurs outside of Texas, or in Texas at a location that’s not the seller’s place of business, the sale will be sourced to the location where consumers receive packages.
This is good news for tax jurisdictions on the receiving end of the sourcing rule change. However, cities home to facilities hosting “a computer server, an Internet protocol address, domain name, website, or software application” aren’t pleased. The new policy will likely cause their tax collections to drop. It could also inspire businesses to decamp to greener pastures because it can interfere with tax incentives.
The City of Round Rock, Texas, “offers customized incentive packages to make relocation and expansion as easy and cost-effective as possible.” If it wants a business to set up shop within its borders, it may fast track permits for new construction, provide cash grants, or agree to hand over a portion of the sales tax revenue the company’s activities generate.
Such a sales tax rebate can only work if the business’s sales are sourced to Round Rock (or other cities in the same boat). That’s why Round Rock and several other cities are suing the Texas Comptroller to make the forthcoming sourcing rule change “invalid, void, and of no force and effect.”
According to the Round Rock suit, one computer and software company “chose to locate in Round Rock rather than move its headquarters to Tennessee” because the city entered into an Economic Development Program Agreement with it in 1993. Round Rock has benefited from the company’s presence: “The local sales tax revenue Round Rock receives annually based on [the company’s] taxable sales alone is substantial.”
Round Rock predicts it will lose roughly $30 million per year if the sourcing rule change moves forward. Companies currently getting kickbacks will also see revenue drop: The Austin American-Statesman says the company cited in the lawsuit “reaps about $10 million a year through is sales tax arrangement with Round Rock.” Without such an incentive, it may decide to relocate to a place that can give it the kind of sales tax incentives it’s come to rely upon.
Other companies with similar agreements in other towns could do the same.
Texas Comptroller Glenn Hegar isn’t budging from his stance, noting that the Texas Legislature chose not to address this issue during the recent legislative session. Unless it does so in an upcoming special session, or the courts say otherwise, the change will go into effect October 1 as planned.
