Six surprising ways sales tax affects retailers

Avalara Whitepaper

What your product UPCs aren't telling you about taxation rules

Sales tax is often an afterthought for retailers who are laser-focused on increasing revenue. Yet sales tax compliance costs your business more than you realize, draining valuable resources and exposing your company to risk.

Learning about sales tax the hard way

Recent media reports have uncovered a harsh reality that some retailers are learning the hard way. Interpreting complex rules and rates commonly results in errors, no matter how diligently the tax team researches sales tax rates and assigns them to products. And the exposure may be more than meets the eye – this compliance responsibility affects top management priorities.

Priority #1: Managing predictable P&L

By using an error-prone manual system, retailers expose themselves to sudden and unplanned expenses such as fines, penalties, and audits. POS audits are on the rise, and the associated fines and penalties can decimate margins.

Priority #2: Keeping staff focused on top-line activities

Determining product taxability can monopolize hours of back-office time better spent on increasing operational efficiency and increasing sales.

Priority #3: Customer relationship management

Ever come across a customer who is disgruntled because they’ve been over-charged? Sales tax rate mistakes are a common cause of errors at checkout. If enough customers get angry, retailers risk everything from damaged reputations to class action lawsuits.

Six sales tax errors common to retailers

Product taxability is complex. For retailers managing thousands of products in multiple taxing jurisdictions, the job of tracking rules and rate changes can lead to errors and increased audit exposure. We compiled a list of six common product taxability errors and how they impact business in a retail environment:

1. Treating products as taxable when they’re not

States frequently exempt certain products from state sales tax. These include a range of products sold at grocery outlets, convenience stores, and drug stores. For example, grocery items are usually tax-free, while prepared or to-go items are taxable. For retailers using UPCs, one would assume they would take all items coded “grocery,” and back out sales tax. If only it were that easy.

California Target customers angered by tax on to-go coffee

Two California consumers contend that Target “represented that it properly was charging and in fact charged them sales tax reimbursement on sales of hot coffee sold ‘to go,’ when, according to plaintiffs, the tax code rendered such sales exempt from sales tax.” (Avalara TaxRates)

2. Failing to update taxation rules for sales tax holidays

Sales tax holidays are popular with consumers and are often used by states to increase consumer spending. Although themes like back-to-school or hunting season are common, states rarely follow a uniform pattern of holidays. As such, retailers are tasked with tracking and adjusting their product taxability accordingly. Unfortunately, there is no annually produced standard list. Many retailers associate a UPC with a specific sales tax holiday (should they know which days apply to which products). Unfortunately, a pair of pants might be tax-free on a given day whereas a pair of overalls may not be.

3. Categorizing – and mis-categorizing – products

Often, product taxability occurs at such a fine level that it defies broader (albeit easier) categorization attempts. Treating all grocery items as non-taxable assumes the state (or states) in question hasn’t changed what is considered a grocery item or added something to the tax-exempt. Or, that the manufacturer hasn’t reformulated or repackaged an item in a way that impacts taxability (e.g., vinegar packaged for cleaning vs. cooking, or coconut packaged as candy vs. as a baking ingredient).

4. Forgetting to create an audit trail

As state revenue authority audits increase, retailers are under the gun to provide documentation to substantiate transactions. Is there an applicable certificate on file if a product is tax-exempt? If there was an overlooked sales tax holiday, was a customer overcharged? As the auditor finds errors in one of your 20 stores, the auditor will assume similar errors occurred at every location and apply fines accordingly.

5. Using yesterday’s sales tax rules for today’s transaction

Even the savviest product taxability researcher is hard pressed to keep up with product taxability changes. A new sales tax holiday, exemption, or boundary shift, can require rejiggering sales tax rules by product once again. Unfortunately, states can make these changes faster than most retailers can implement a systematic rate change within their system. Without a real-time calculation, retailers making a concerted effort to stay current will be out of compliance with existing sales tax rates and rules.

6. Not using existing infrastructure to address sales tax compliance

You already rely on your Point-of-Sale system to manage critical business tasks, and you rely on the data imbedded in Universal Product Codes to speed transactions and manage inventory. By mapping taxability data for individual products with their UPCs and loading this into your POS, you’re assured you are charging the correct tax rate on each transaction.

Knowing when enough is enough and taking action

We’ve looked at the way manually mapping product categories to tax rate tables exposes your company to substantial risk of error, and the relationship between effective operations and efficient sales tax management. A solution provider like Avalara can help you automate sales tax compliance within your POS or financial application to free staff time for revenue-generating activities.

Features to look for in a retail sales tax solution:

  • Matches UPC with professionally researched tax content in your POS system or financial application – no more manual mapping
  • Real-time sales tax rate calculation to reduce exposure risk
  • Rates for approximately 10 million product codes
  • Product taxability rules from more than 10,000 state and local tax jurisdictions

Want to reduce your risk exposure and eliminate inefficiency? Learn more about Avalara AvaTax today.

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