U.S. sales tax and digital services

U.S. sales tax is different to VAT. So are its compliance regulations and requirements. VAT is a consumption tax charged throughout the supply chain. It’s not a sales tax, corporate tax, or corporate income tax. U.S. sales tax is only charged to the final consumer.

VAT is set at a national level and maintains fairly consistent rates. These rates vary little from country to country with similar VAT systems — the average VAT rate for EU nations, for example, is 21%. U.S. sales tax rates not only vary by U.S. state but also by cities and counties within a state. As a result, there are more than 12,000 sales tax jurisdictions in the U.S. all with frequently changing rates.

It used to be the case that a business had to have a physical presence in a state, such as an office building or warehouse, to have U.S. sales tax obligations within that state. However, the landmark South Dakota v. Wayfair ruling changed things when the Supreme Court ruled that remote sellers can be liable for U.S. sales tax even without a physical presence. This affects all kinds of digital business models making cross-border online sales (whether B2B or B2C ecommerce sales).

There isn’t a specific digital services tax in the U.S and there is no uniform way in which states tax digital businesses. Other nations may have specific digital services taxes.

What constitutes a digital good or service is more clearly defined and accepted within the EU (and in other non-EU countries within continental Europe). Because U.S. sales tax laws existed before digital products, U.S. states differ in their definitions of what digital products actually are. Despite the digitalisation of the economy and the growing use of digital products and services — such as streaming platforms, ebooks, music streams, and downloads — as well as their significant economic presence, some U.S. states are yet to clearly define how U.S. sales tax applies to digital goods and services.

Some U.S. states do not tax digital products and services at all because they’re intangible, and do not fit into the ‘tangible personal property’ definition on which U.S. sales tax laws were originally based.

Some U.S. states treat intangible and tangible goods the same, as both can be seen and/or experienced. Other states use the following guidelines: If a product is taxable in its tangible form, then it’s taxable in its intangible form. For example, if a CD or a book is taxable, then an MP3 and an ebook should also be taxable. In this sense, there is no difference between the traditional and digital economy.

Though a specific digital services tax does not exist, businesses must not assume that their digital products are not taxable. It can be confusing when the same product or service is taxable in one part of the country, yet not in another, but businesses must take steps to determine where their goods and services are taxed. They must then collect and remit U.S. sales tax as they would for physical goods.

The information here concerns the taxability of commonly used digital goods and services, such as:

• Digital audio files (music, podcasts, ringtones, etc.)

• Digital books (ebooks, magazines, newspapers)

• Digital games

• Digital photographs

• Streaming services (digital audiovisual works like television shows, movies, etc.)

Below is a list of U.S. states that generally tax digital services and products:

• Alabama

• Arizona

• Connecticut

• Hawaii

• Iowa

• Louisiana

• Maine

• Maryland

• Mississippi

• Nebraska

• New Jersey

• New Mexico

• North Carolina

• Ohio

• Pennsylvania

• South Dakota

• Texas (provided the tangible form is also taxable)

• Utah

• Washington

• Wisconsin

• Wyoming

• Washington, D.C.

Below is a list of U.S. states that generally exempt digital goods:

• Alaska

• California

• Delaware

• Florida

• Georgia

• Missouri

• Montana

• Nevada

• New Hampshire

• Oklahoma

• Oregon

• Virginia

• Arkansas — digital games are exempt; other digital products are taxable

• Colorado — digital games are exempt; other digital products are taxable

• Idaho — photographs delivered electronically are exempt; other digital products are taxable

• Illinois — digital games are taxable; other digital products are exempt

• Indiana — digital photographs are exempt; other digital products are taxable

• Kansas — digital games are taxable; other digital products are exempt

• Kentucky — digital videos are generally exempt; other digital products are taxable

• Massachusetts — digital games are taxable; other digital products are exempt

• Michigan — digital games are viewed as software and taxable; other digital products are exempt

• Minnesota — digital books, games, and audiovisual works are taxable; digital photographs and drawings are exempt along with charts and graphs, data or financial reports, and access to digital news articles

• New York — digital games are taxable; other digital products are exempt

• North Dakota — digital games are taxable; other digital products are exempt

• Rhode Island — digital photographs don’t fall within Rhode Island’s definition of specified digital products and so are exempt; other digital products are taxable

• South Carolina — South Carolina doesn’t tax software delivered by electronic means, and since digital books are delivered electronically, they’re considered exempt; other digital products, including streamed services, are taxable

• Tennessee — digital photographs are exempt; sales tax applies to other digital products, including sales of final artwork transferred electronically

• Vermont — digital photographs are exempt; other digital products are taxable

• West Virginia — digital books are exempt; streaming services are subject to sales tax

Businesses do not need to register for a specific digital services tax. Once businesses have determined where they have nexus — whether they sell physical goods, tangible goods, or both — they must register to collect and remit U.S. sales tax in each relevant state.

It may be illegal for businesses to collect U.S. sales tax until they’re properly registered.

As U.S. sales tax rates and rules differ by state, including which states do or do not put taxes on digital services, it’s likely the registration processes will differ by state too (additional licences may also be required if businesses sell items such as food or tobacco).

Businesses that sell only digital products may not have to register for U.S. sales tax in states that do not place taxes on digital services. Businesses can visit the relevant state tax authority website to begin the registration process.

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