Forces shaping business and sales tax compliance in 2022
Sales and use tax compliance in 2022 will be shaped by numerous factors, including ongoing supply chain and labor challenges. Both are contributing to higher transportation and labor costs, which in turn can inspire businesses to seek alternative suppliers and products. Companies could also continue to allow or require employees to work remotely in 2022, which can create tax obligations in states and cities where employees reside.
Many businesses selling into the U.S. will continue to feel the effects of South Dakota v. Wayfair, Inc., the 2018 U.S. Supreme Court decision that enabled states to tax out-of-state sales and sparked a slew of economic nexus and marketplace facilitator laws. With the exception of Missouri, which will follow suit in 2023, all states with a general sales tax now require certain out-of-state retailers and marketplace facilitators to collect and remit sales tax. The particulars of each state’s requirements can be especially challenging for small businesses with few resources to devote to sales and use tax compliance.
Digitalization is another force that will increasingly affect tax compliance in 2022. By mandating electronic invoicing, digital filing and reporting, and more, governments worldwide are gaining greater insight into sales data. The information they acquire can be used to target enforcement activity and reduce the tax gap.
Under these and other changes lies the pandemic, which continues to disrupt business and tax compliance in unpredictable ways.
The long tail of COVID-19
We can’t stop talking about COVID-19, much as we might like to. Two years after the initial outbreak, it remains the primary disrupter of the global economy.
What the numbers tell us:
When the coronavirus first hit, businesses struggled to cope with mandatory restrictions, teleworkers grappled with how to work while overseeing homebound children, and governments explored tax-relief options.
The situation is different today, but the pandemic is no less impactful.
Businesses now struggle to fill positions and stock shelves while exploring how to safely bring people together in the workplace. Many COVID-19 tax relief programs in the U.S. have expired and aren’t likely to be renewed.
How the kinked supply chain is impacting commerce
The supply chain is stretched to near breaking due to heightened demand, staffing shortages, factory closures, clogged ports, and other factors. Ships often must quarantine for a week before they can dock in China, and on November 9, 2021, a record 111 ships waited off the coast of Southern California for a spot to unload. According to Naveen Jaggi, president of retail advisory service JLL, “Many retailers don’t expect any sense of a balanced supply-chain recovery until the summer of 2022 or even later.”
With demand outstripping supply, transportation costs are soaring. For example, shipping container rates from China and east Asia to the U.S. reached $20,000 per 40-foot container in September 2021 — up from about $4,500 in September 2020. The spot price for shipping a container from Shanghai to New York jumped from roughly $2,500 in 2019 to almost $15,000 in September 2021. And global container prices were $10,525 for the week ending November 5, 2021, up from $1,238 on October 25, 2019.
This ongoing problem is so great the Biden-Harris administration created a Supply Chain Disruptions Task Force last summer. In October, President Biden met with the heads of FedEx Logistics, United Parcel Services (UPS), Target, Walmart, the Port of Los Angeles, and others to discuss “global transportation supply chain bottlenecks.” The companies pledged to work around the clock to help solve the issue, though labor shortages could make that challenging.
Faced with this untenable situation, some companies reinstituted purchase limits on certain high-demand products during the fall of 2021. Others are chartering their own container ships to ensure their goods will make it across the sea. And some are developing new supply chains or expanding their own storage capacity: DHL is increasing the square footage of its U.S. distribution centers by 70% to help reduce shipping times and keep pace with accelerating demand. The global logistics company had on average 33% more ecommerce shipments per day in Q1 2021 than in Q1 2020.
Labor shortages increase tax complexity
About 40% of small businesses and 55% of midsize businesses surveyed between May 24 and June 4, 2021, were having a hard time finding qualified employees, and the situation didn’t improve as the summer progressed: Job vacancies in the U.S. in August 2021 were up 33% over Q4 2019.
As the U.S. grapples with a “wave of resignations,” strikes and COVID-19 infections are curtailing operations at ports in Australia. Britain has about 20% more job vacancies than before the pandemic, and one week in mid-July, the pingdemic forced 618,903 people in England and Wales to leave work and quarantine for 10 days due to exposure to COVID-19.
Businesses reliant on bodies, like restaurants and retail shops, are finding it particularly challenging to fill positions. And of course, labor issues are affecting the supply chain: Once products reach their country of destination, it takes longer for them to reach businesses and consumers due to the lack of port operators, truck drivers, and delivery service workers.
To retain existing employees and attract new hires, companies must raise wages; hourly wages in the U.S. rose by 0.6% in September 2021 alone. However, higher wages generally translate to higher prices. Though temporary price hikes caused by higher fuel costs typically drop once those costs come down, it’s difficult to cut wages once they’ve been raised.
Supply chain and labor woes can complicate sales and use tax compliance in several ways, including:
New products: Are new SKUs exempt or taxable? If taxable, at what rate?
New suppliers: Are all resale/exemption certificates valid and up to date?
More drop shipping: Who’s liable for any tax due?
More refunds: Do sales and use tax returns need to be amended?
Businesses can no longer rely on tax relief
To help businesses and individuals survive mandatory COVID-19 restrictions, federal and state governments launched a host of COVID-19 tax relief measures shortly after California issued the nation’s first statewide stay-at-home order on March 19, 2020. By March 26, 2020, the Senate had passed the first of several federal coronavirus economic relief acts.
In the year that followed, there were more federal, state, and even local relief packages. Much of that relief has now ended.
MORE TIME TO FILE AND REMIT SALES TAX
Tax officials usually penalize businesses for not filing and remitting on time, but during 2020 and into 2021, numerous states and some localities gave businesses more time to file and/or pay tax.
Businesses struggling due to COVID-19 were encouraged to use unremitted tax revenue to cover essential expenses like wages or rent, if necessary. For the most part, filing and payment extensions have now expired, and businesses are liable for all tax revenue collected.
SHIFT TO REMOTE WORKFORCE IMPACTS TAX OBLIGATIONS
State (and some local) governments also lightened the tax burden by not enforcing certain nexus rules. Nexus is the connection between a state and a business that authorizes the state to tax the business.
One of the most common ways for a business to establish nexus is through physical presence in a state, such as employees, inventory, or offices. When companies imposed work-from-home mandates in response to the first wave of the coronavirus, many suddenly found themselves with a physical presence — and therefore nexus — in states where their employees lived.
Pandemics aside, traveling across state lines for work is fairly common. Nearly one-fifth of employed New Hampshire residents traveled out of state for work in 2015, while about 13.5% of New Hampshire workers commuted from Maine, Massachusetts, or Vermont. Thousands of Kansans commute to jobs in Missouri, Oklahoma, Nebraska, and other states. Many people who work in the District of Columbia reside in Maryland or Virginia. In fact, only about 30% of D.C.’s workforce actually live in the District.
To help ease the tax burden on companies and their employees, many states chose not to enforce normal nexus rules when employees were forced to work remotely due to COVID-19. Some states have allowed those temporary policies to expire, while others have adapted their nexus rules to the tenacious virus.
For example, in 2020, Pennsylvania said it would not seek to impose sales and use tax nexus or corporate income tax nexus “solely on the basis” of employees working remotely in the state because of COVID-19. Yet as of July 1, 2021, out-of-state companies with employees working from home in Pennsylvania may have an obligation to collect and remit Pennsylvania sales tax and to validate exempt sales in Pennsylvania. These companies may also have corporate income tax and withholding tax obligations.
Likewise, Massachusetts resumed its pre-pandemic policy on September 16, 2021. During the early days of the pandemic, employees working from home in Massachusetts solely due to COVID-19 didn’t create sales and use tax nexus; they now once again do. Yet in some situations, Massachusetts now allows residents who worked in another state prior to the pandemic to claim a credit for taxes paid to that other state. This is a departure from its pre-pandemic policy.
Indiana initially said it wouldn’t use employees working from home in the state due to COVID-19 as a basis for establishing nexus for out-of-state companies. However, that lenient policy expired June 30, 2021. Employees working from home in Indiana after that date could establish nexus for their employer.
Although certain industries rely heavily if not completely on in-person workers, some can make do with remote employees. Thus, LinkedIn and Meta (formerly Facebook) plan to allow employees to work remotely full time even after the risk of COVID-19 passes, while Google and Amazon are providing increased flexibility. States may well adapt their remote work tax policies as a new normal emerges.
The last dominoes fall: All states with sales tax now have economic nexus and marketplace facilitator laws
Though one of the predominant nexus triggers, physical presence is just one of several ways a business can create a sales and use tax obligation with a state. Companies with business dealings outside their home state need to understand the potential impact of economic nexus and marketplace facilitator laws.
You’d think tax compliance would be more straightforward now that there are economic nexus laws in every state. It isn’t.
Economic nexus laws are different in every state
On June 21, 2018, the Supreme Court of the United States determined physical presence isn’t required to establish sales and use tax nexus. The court’s landmark ruling in South Dakota v. Wayfair, Inc. granted states the authority to base nexus solely on a company’s economic activity in the state, or economic nexus. Physical presence in a state is no longer necessary, though it still triggers nexus.
Hawaii, Maine, and Vermont started enforcing economic nexus within days of the Wayfair decision, and by the end of 2020, most states and Washington, D.C., were doing the same. However, a few states had a hard time getting nexus laws on the books.
Puerto Rico began enforcing economic nexus on January 1, 2021. It can be challenging to find up-to-date information about tax requirements in Puerto Rico, especially for non-Spanish speakers. The research tools available through Avalara Tax Research can help.
Florida enacted economic nexus April 20, 2021, and began requiring certain out-of-state vendors to register starting July 1, 2021. That didn’t give businesses much time to prepare, but in fairness, businesses should have seen this coming. Florida had been trying to get an economic nexus bill to the governor’s desk since early 2019, if not before.
While waiting for the Kansas Legislature to adopt an economic nexus law, the Kansas Department of Revenue (DOR) decided any amount of sales into the state would establish nexus for a remote vendor given existing laws and the Wayfair ruling. While all other states provided an exception for businesses whose sales in the state are beneath a certain economic nexus threshold (e.g., $100,000 in sales or 200 transactions in the current or previous calendar year), the Kansas DOR did not. Fortunately, for businesses, Kansas lawmakers eventually enacted an economic nexus law with a small seller exception. It took effect July 1, 2021.
Finally, Missouri, the last domino to fall. On June 30, 2021, the Show-Me State enacted a law requiring out-of-state sellers to collect and remit sales tax if they have at least $100,000 in cumulative gross receipts from the sale of tangible personal property in the state. But since Missouri has a stunningly complex sales and use tax system with more than 2,000 overlapping local taxing jurisdictions, economic nexus won’t be enforced in Missouri until January 1, 2023.
Between now and then, Missouri will likely consult with the Streamlined Sales Tax Governing Board, an organization that’s worked diligently for 30 years to simplify the burden and reduce the cost of sales and use tax compliance for businesses. According to Scott Peterson, vice president of government relations at Avalara and former executive director of the Streamlined Sales Tax Governing Board, “The Missouri Legislature didn’t adopt Streamline’s uniformity provisions but did direct the tax agency to utilize Streamline’s technology requirements. That should mean out-of-state sellers get to use certified service providers.”
A certified service provider (CSP) is an agent certified under the Streamlined Sales and Use Tax Agreement to perform all sales and use tax functions for a seller, aside from the seller’s obligation to remit tax on its own purchases. CSPs permit businesses to outsource most aspects of sales and use tax administration, which can significantly reduce the burden of compliance now impacting “nearly every seller in the country,” as Peterson notes, not merely businesses with physical presence in a state.
EVEN A STATE WITH NO SALES TAX MAY TAX REMOTE SALES
Like Delaware, Montana, New Hampshire, and Oregon, Alaska has no general, statewide sales tax. However, more than 100 local districts (cities or boroughs) in Alaska levy local sales taxes, and roughly 40 of these now enforce economic nexus.
To make registration, remittance, and returns easier for remote sellers, the localities have created a single statewide economic nexus threshold and administrative system (Alaska Remote Sellers Sales Tax Commission, or ARSSTC). Sellers must register with the ARSSTC within 30 days of meeting the state economic nexus threshold. Once registered, they must validate exempt sales and maintain records related to sales and exemptions for at least three years.
ECONOMIC NEXUS CAN AFFECT BUSINESSES THAT ONLY MAKE EXEMPT SALES
It’s important to underscore this fact: An economic nexus law can affect even businesses dealing primarily or exclusively in exempt transactions in the state.
As noted above, all states with economic nexus now provide safe harbor for companies selling beneath the state’s economic nexus threshold. Some states base their threshold on taxable sales only, and some base it on retail sales, which include exempt sales but not sales for resale. However, most states base economic nexus on gross sales, meaning out-of-state companies must count exempt transactions into the state.
For example, these three states base economic nexus on the following:
If your exempt transactions give you economic nexus with a state, you’ll need to register for sales and use tax, validate exempt sales with a valid exemption or resale certificate, and file returns.
As with all sales tax laws, economic nexus laws and thresholds are subject to change. And they do change, particularly since many states rushed to enact and enforce them. Several states, most recently Maine, eliminated their transaction thresholds. Some increased or reduced sales thresholds or clarified which sales are included or excluded from the threshold.
Knowing how soon you need to register and start collecting sales tax after meeting a threshold is another critical component of compliance, and one subject to change. Kentucky recently gave remote vendors an extra 30 days to register after crossing the threshold, so they now have 60 days to get themselves squared away. In many states, including Ohio, businesses must register immediately after meeting the threshold.
The onus to register after establishing nexus always falls on businesses. Peterson points out that states don’t feel the need to notify sellers of their obligation to collect sales tax. “States assume every seller is engaged in business in their state and has been since the state enacted its economic nexus law.”
EVEN LOCAL GOVERNMENTS ARE ADOPTING ECONOMIC NEXUS LAWS
States aren’t the only government entities to embrace sales tax economic nexus. Increasingly, local governments in certain states are looking to benefit from the South Dakota v. Wayfair, Inc. decision too. This could seriously complicate and increase the cost of compliance for affected businesses.
Though sales tax is levied and administered at the state level in most states, local governments have the power to levy and administer local sales tax in a handful of home rule states, several of which are now exploring economic nexus.
A home rule city, Chicago “received numerous inquiries on the topic of nexus” after Illinois began enforcing economic nexus on October 1, 2018, but didn’t issue guidance until January 21, 2021. At that point, it announced a safe harbor threshold of $100,000 in revenue from Chicago customers, effective July 1, 2021; businesses with no physical presence in Chicago are liable for certain Chicago taxes (to be remitted to the Chicago Department of Finance) if they meet or exceed that threshold.
If more cities in home rule states take similar action, it could pose a tremendous burden on businesses. The home rule state of Colorado has more than 70 jurisdictions with broad taxing authority, and some have adopted local economic nexus provisions. The Colorado Department of Revenue is working to streamline registration, collection, and remittance of local sales taxes for remote sellers, but some businesses may still be required to register with local tax jurisdictions as well as with the state.
Local tax requirements can be incredibly hard to track. Breen Schiller of Eversheds Sutherland says some uncommon taxes (e.g., the personal property lease transaction tax) in Chicago are unknown even to companies based in Chicago — until they get audited. The more creative and aggressive localities get, the more difficult it will be for companies to remain in compliance.
According to Peterson, “Economic nexus is generally a state-level requirement and local governments benefit from their state imposing the requirement. It’s complicated in states where local governments administer their own sales tax. The authority granted by the Supreme Court in Wayfair was clearly given to states and there is some debate whether local governments can exercise the authority independently from the state. Notwithstanding the debate, some local governments have enacted ordinances that mirror the states’ laws hoping remote sellers will start to collect.”
For businesses, local economic nexus requirements can greatly add to the burden of compliance. In addition to registering with and remitting to the state, companies may need to register with and remit to local tax authorities. The more places you sell, the more difficult it is to manage these compliance activities manually.
GOVERNMENTS WORLDWIDE ARE REGULATING AND TAXING CROSS-BORDER ECOMMERCE
In addition to complying with U.S. tax requirements, ecommerce companies selling internationally must comply with tax obligations in countries where customers are located. Tax authorities in many countries are considering the best way to tax online sales. For example, HM Treasury in the U.K. is currently exploring “arguments for and against a UK-wide Online Sales Tax.” Learn more about international ecommerce tax reform.
Marketplace facilitator laws are in flux
Economic nexus laws generally go hand in hand with marketplace facilitator laws that make marketplace facilitators (e.g., Alibaba, Amazon, eBay, Walmart, etc.) responsible for collecting and remitting sales tax on behalf of their third-party sellers in addition to collecting and remitting for their direct sales.
Because marketplace facilitators are required to collect and remit tax on all sales made through the platform, these laws enable states to capture tax revenue from remote marketplace vendors selling beneath the economic nexus threshold. It’s an enormous market.
In 2020, consumers worldwide spent $2.67 trillion on the top 100 online marketplaces, 50 of which are based in the United States. Furthermore, marketplace sales accounted for 62% of global web sales in 2020.
Marketplace facilitator laws have been enacted in all states with a sales tax, plus Puerto Rico, Washington, D.C., and a growing number of local governments in Alaska. As with economic nexus, the last to enforce their law will be Missouri, on January 1, 2023.
New tax policies affecting marketplace transactions have also been adopted in other parts of the world, so companies that conduct cross-border business should familiarize themselves with their international obligations.
THINGS TO WATCH OUT FOR WHEN SELLING THROUGH A MARKETPLACE
It’s important to note that marketplace facilitator laws don’t necessarily eliminate all sales tax requirements for marketplace sellers. In fact, these laws can complicate or add to them.
If you sell through a marketplace and make direct sales, you need to know whether to include or exclude your marketplace sales when calculating a state’s economic nexus threshold. They’re included in many states, like California, and excluded in others, like Colorado.
States generally require in-state marketplaces to register. Some require out-of-state marketplace sellers to register and file returns even if they only sell through a registered marketplace. In Connecticut, for example, remote marketplace sellers must register with the Department of Revenue Services, file annual returns, and deduct sales made through a registered marketplace if they meet transactions and sales thresholds, even if all sales are made through a marketplace that collects on their behalf. However, Florida doesn’t require remote marketplace sellers to register unless they make “a substantial number of remote sales to Florida customers outside of the marketplace.”
Third-party sellers also need to know where marketplaces store inventory and fulfill orders. Even if it’s only kept in the state briefly, inventory usually gives a business physical nexus in a state. That’s the case in California and Washington state, which have held marketplace sellers liable for sales tax based on inventory in third-party warehouses.
On the other hand, New York law specifies that inventory stored on the premises of an unaffiliated third party that performs fulfillment services does not, in and of itself, create nexus.
It’s key to understand how other sales tax laws affect marketplace transactions as well. For example, sales made through a marketplace don’t qualify for the occasional or isolated sales exemption in Illinois and Minnesota. However, the exemption for isolated or occasional sales may apply to marketplace transactions in Connecticut and New Mexico. And in Wisconsin, nonprofit organizations may be able to exclude sales made through a marketplace when determining if their sales in the state are regular or occasional.
“Most states didn’t think about their occasional or isolated sale exclusions when drafting their economic nexus law,” says Scott Peterson. “Many eBay sales would qualify as occasional or isolated if sold directly by the property’s owner, and sales tax would not be due.”
Knowing which types of businesses are subject to marketplace facilitator laws is also critical. Do they apply to online travel agencies? Third-party food and beverage delivery services? Though marketplace facilitators have been responsible for taxing third-party sales in Puerto Rico since January 2020, marketplaces facilitating sales of prepared foods have been eligible to collect the reduced rate of tax that applies to those sales only since May 2021.
And while marketplace transactions and drop shipments may seem the same to consumers, third-party fulfillment and drop shipping aren’t quite the same. California is working to clarify that marketplace sales are not drop shipments so all involved parties have a clear understanding of who’s responsible for sales tax.
Finally, marketplace facilitator laws are subject to change like all sales tax laws. California and Texas are among the states that have expanded collection requirements for marketplaces facilitators since their laws first took effect, requiring facilitators to collect additional taxes and fees on top of sales and use tax. Illinois is working to do something similar.
Georgia began requiring marketplaces to collect and remit state and local lodging taxes on July 1, 2021. On the same date, remote sellers and marketplace facilitators became liable for Indiana’s fireworks public safety fees, prepared wireless service charges, waste tire management fees, and a new electronic cigarette tax.
Illinois had to correct its marketplace facilitator law because the way it was originally written caused some transactions to be taxed twice. Under a law that took effect August 27, 2021, Illinois “refined the definition of marketplace facilitator to no longer include any person licensed under the Auction License Act.” However, as noted by the Illinois Department of Revenue, “internet auction listing services … are still considered marketplace facilitators.”
The local tax conundrum may exist for marketplace facilitator laws too. According to Nikki Dobay of Eversheds Sutherland, West Virginia allows localities to impose marketplace collection requirements on online travel companies. Since there’s no centralized administration option for these companies, the cost of compliance is considerable: hundreds of thousands rather than thousands of dollars.
What every small and midsize business needs to know about nexus
The Wayfair ruling isn’t new, nor are the economic nexus and marketplace facilitator laws adopted by states in its wake. Yet evidence suggests many small and midsize businesses still may not fully understand economic nexus or its potential impact.
According to a survey conducted by CPA Trendlines in the first part of 2021, 39.37% of accountants surveyed believed their small businesses clients were “mostly not in full compliance” with collection and remittance requirements. Another 38.95% said only “some” of their small business clients were in compliance.
In early 2021, NetReflector/Potentiate asked small companies (<20 employees) and small and midsize businesses (20–499 employees) to quantify sales in states where they weren’t registered for sales tax. Approximately 80% of the small companies said they sold between $50,000 and $3 million annually in states where they weren’t registered, for a mean of $678,000. Since the economic nexus thresholds in most states are $100,000 and the maximum economic nexus threshold for a state is $500,000, some of those businesses probably have economic nexus and should be registered for sales tax in at least some states where they’re not. Nonetheless, respondents were generally confident they were complying with all applicable tax laws.
Peterson says the overall high volume of sales remote businesses have in states “explains why states assume every remote seller had nexus on the date the state’s economic nexus law went into effect.” He’s heard states often make assessments based on their economic nexus effective date for sellers who register afterward.
The fact that nearly every state now taxes remote sales heightens the complexity and burden for sellers. Tracking sales tax nexus laws across all states is an enormous task, especially since they can change at any time. It’s particularly challenging for growing businesses that are exploring new sales channels or suppliers and entering new markets.
Potentiate found that small and midsize companies generally have two to five employees working on sales tax (at a mean hourly wage of $98), while their smaller counterparts can typically get by with three employees or fewer devoted to sales tax (at a mean hourly wage of $83). On top of that, small and midsize companies often need to bring on additional staff or external services providers to help manage sales and use tax compliance.
The point is, dealing with sales tax takes time, money, and resources. If you get it wrong, it takes more time, money, and resources to make it right.
Avalara’s cost of manual compliance calculator can give you an idea of how much you spend on sales tax compliance, as well as how much automating sales tax compliance can help you save.
The digitalization of tax compliance
To reduce the tax gap (or tax not remitted), countries worldwide are increasingly digitalizing tax compliance. According to the Organisation for Economic Co-operation and Development’s Tax Administration 2021 report, “More sophisticated data use means compliance work can focus on prevention.” Digitization efforts result in “the identification and prevention of new risks, the prevention of errors and the reduction of cost.”
Scott Peterson says the sales tax gap in the U.S. primarily stems from businesses not registered to collect and remit as they should. To narrow that gap, some states are mining data to enhance compliance and increase tax collections. Most states in the U.S. aren’t quite ready to fully digitalize tax compliance, but they’re watching what other countries are doing with interest and learning.
The digitalization of tax compliance is the movement by tax authorities of paper compliance activities to the cloud. Governments are increasingly digitizing interactions with enterprises, mandating electronic invoicing, digital filing and reporting, audit activity, and more.
What the numbers tell us:
OUTSIDE THE U.S.: ELECTRONIC INVOICING, REAL-TIME REPORTING, AND SAF-T
Electronic invoicing (e-invoicing), real-time reporting, and Standard Audit File for Tax (SAF-T) requirements are sweeping the globe.
E-invoicing entails submitting invoices electronically to customers. IDC MarketScape finds that “e-invoicing mandates are quickly taking root” as tax authorities around the world actively modernize their infrastructure to close the value-added tax (VAT) gap. According to Kid Misso, vice president of new initiatives at Avalara, “83 countries currently have some kind of e-invoicing or e-reporting legislation.” Countries with e-invoicing requirements include Argentina, Iceland, and India.
Real-time reporting takes the process further, requiring businesses to electronically report sales transactions via e-invoices as they occur, or shortly thereafter. There are many variations of real-time reporting, according to Ulf Schmidt, senior product manager of e-invoicing at Avalara. Hungary and South Korea have some of the most stringent requirements, as reporting needs to be more or less in real time. Greece and Spain allow businesses a bit more time to report. Italy is instituting new accelerated reporting requirements in 2022, and, for the first time, Saudi Arabia will implement e-invoicing beginning December 2021 through January 2023.
SAF-T is an electronic schema developed for the efficient exchange of information between businesses and tax authorities. France, Portugal, and Romania are among the countries with compulsory SAF-T requirements, and Poland is one of the most advanced countries in terms of SAF-T. In some countries, such as Austria and Norway, SAF-T is required on an on-demand basis only, typically before an audit.
In Brazil, Mexico, and a growing number of countries, businesses cannot complete a transaction until the tax authorities authorize it.
Mexico began digitizing tax compliance back in 2010 and introduced e-invoices in 2014. Tax authorities need to approve invoices before the recipient can claim input VAT, and tax returns, accounting records, and other tax disclosures must be filed in standard electronic format. Given the thoroughness of their system, Mexico and its Tax Administration Service (SAT) have become the new model for real-time compliance.
Britain has begun to move in that direction with its Making Tax Digital (MTD) program. This entails the digital submission of VAT returns, establishes certain digital record-keeping requirements, and mandates digital links, a way for Her Majesty’s Revenue & Customs (HMRC) to access digital records.
The global trend is moving toward more stringent requirements to further reduce tax gaps. Tax officials in Brazil have been mining tax data for years, cross-checking it to ensure nothing looks amiss. According to a KPMG report from 2018, “data mismatches now drive more than 90% of tax audits in Brazil.”
André Cordeiro, planning and management advisor at the Ministry of Finance of Bahia, elaborates on the rewards of digitization: “Before, audits used to be carried out by sampling: For example, out of every 100 companies, we selected five or six to verify their tax compliance. Now, we verify all 100, and in real time, with less staff and paperwork, and more efficiency and transparency.”
Misso expects the whole VAT and invoicing process to become digital in the coming years as the tax-tech landscape continues to evolve. Currently, countries with electronic invoicing, real-time reporting, and/or SAF-T requirements include, but aren’t limited to, Argentina, Brazil, Chile, Colombia, Greece, Hungary, India, Italy, Peru, Poland, Slovakia, Slovenia, Spain, and Turkey. Learn more about the digitization of tax reporting and tax compliance issues happening in the rest of the world.
IN THE U.S.: PANDEMIC UNDERSCORES BENEFITS OF MAKING TAX DIGITAL
The pandemic has spurred the need for federal, state, and local tax authorities in the U.S. to digitalize tax compliance.
In fact, the Federal Reserve and the Business Payments Coalition (BPC) are in the midst of a pilot project aiming to “modernize business-to-business payments” through the development of a standardized electronic invoicing system. According to a BPC press release, “73 organizations have joined an industry effort to stand up an operational pilot exchange framework to enable businesses of all kinds to exchange electronic invoices (e-invoices). Another 42 organizations will strive to assess whether a similar exchange framework can facilitate electronic delivery of remittance information across all payment types.” The pilot program will run through the end of 2022; an operational B2B invoice exchange network could be ready by 2023.
States aren’t quite there yet. Many tax departments around the country are still heavily reliant on paper, and they suffered when COVID-19 forced them to shift to a remote work model. Scott Peterson and Liz Armbruester, senior vice president of global compliance operations at Avalara, sum it up nicely: “In what is becoming a digital-first society, reliance on paper-based processes is not only inefficient, but it also increases risk in the event of major disruptive events.”
Armbruester and Peterson believe integrating tax technology, as many other countries have done, would allow both businesses and governments to reduce complexity and increase compliance. States are certainly hungry for more data, according to a study by the Urban-Brookings Tax Policy Center. They know little about the businesses collecting sales tax on their behalf, and generally don’t know whether all remote sellers are registering, collecting, and remitting as they should.
“One of the real benefits of digitalization,” says Armbruester, “is data collection and optimization for analysis that can drive tax compliance forward. Digital transformation creates a system for gathering the right data and incorporating it fully for business intelligence at a higher level.”
When tax goes digital, audits get easier for states
State tax authorities use the data they do have to uncover noncompliant businesses.
The New York State Department of Taxation and Finance mines data to help discover deviant patterns and identify the “next best case.” The California Department of Tax and Fee Administration (CDTFA) uses the information Amazon and other online marketplaces are required to provide to identify third-party sellers with inventory in the state. The CDTFA is clear: Maintaining inventory in California gives a seller physical nexus and a sales tax obligation.
Where’s there’s sales tax nexus, there’s often income tax nexus. According to Richard Cram, director of the National Nexus Program at the Multistate Tax Commission, “it would basically be standard practice for a state tax agency to look at taxpayers registering for sales tax but not income tax and inquire why those taxpayers did not register for both sales tax and income tax.”
A spokesperson for the California Franchise Tax Board confirmed that opinion, “We have been pursuing cases based on sales tax returns for years.” The pandemic is merely accelerating complexity and compliance efforts.
Digitalizing tax compliance would help states pinpoint the cause of their tax gaps and plug any holes that exist. Yet the more real-time reporting and digitized tax filing mandates are adopted, the more challenging tax compliance will be for businesses. Fighting fire with fire — or digitization mandates with tax automation solutions — may offer relief.
Other issues that could impact sales tax compliance in 2022
Flush with COVID-19 federal tax relief funds and stronger than anticipated tax collections, many states are likely to reevaluate their tax policies. Some, like North Carolina, could look to reduce or eliminate corporate income tax. Others, like Kansas, could try to lower the sales tax burden for certain businesses or individuals.
Despite surpluses, government and tax officials could turn their attention to the metaverse, where a growing number of companies are selling their virtual wares to an eager customer base. Which transactions in the metaverse are subject to tax? Who’s responsible for collecting and remitting it? These are some of the questions that will likely surface in 2022 and beyond.
As some businesses focus on opportunities opening up in intangible worlds, others will continue to grapple with new and changing tax requirements for remote sellers in the U.S. and abroad. For example, although still adjusting to fallout from Brexit and a 2021 ecommerce tax reform package, the U.K. is exploring the possibility of an online sales tax.
Discover more changes affecting cross-border sellers in the global tax changes section.