By Tram Le, as featured in Spreading SALTovation for Tax Notes
Without significant changes to existing state and local tax systems, collection responsibilities may increase compliance costs and impose impermissible interstate burdens on remote sellers.
In this installment of Spreading SALTovation, Tram Le discusses initiatives designed to reduce compliance burdens associated with state and local sales taxes for remote sellers.
Tram Le is a member of the SALTovation team at TaxOps and an adjunct professor at the University of Texas at Arlington. She writes about hot topics in state and local tax affecting business operations and growth strategies.
Compliance challenges and related costs associated with state and local sales taxes have a significant impact on interstate commerce. Tax compliance costs can be large and include personnel or tax advisory services, software and systems required to ensure that taxes are properly charged and paid, and the costs associated with handling state tax audits.
One national study showed that the annual cost to comply with sales tax collection and remittance was about $6 billion and averaged more than 3 percent of the sales tax collected. The smaller the remote seller, the higher the cost and burden of collecting taxes. For small remote sellers with sales between $150,000 and $1 million, average compliance costs amounted to about 13 percent of tax collected ($2,400). For sellers with sales between $1 million and $10 million, compliance costs averaged about 5 percent ($5,000), and at $10 million or more, the cost per total sales fell even further, to about 2 percent ($118,000).
When the burden of collecting tax and the associated compliance costs exceed the profits associated with activity in the state, the state tax may impermissibly harm interstate commerce. Under the U.S. Supreme Court’s four-prong test in Complete Auto,state actions and tax systems must meet all four prongs to prevent undue burden on interstate commerce: (1) substantial nexus, (2) nondiscrimination, (3) fair apportionment, and (4) fair relationship to services provided by the state. Thus, a state’s imposition of tax and the duty to collect and remit tax is unconstitutional when it places an undue burden on or discriminates against interstate commerce.
To see how this restriction plays out at the state level, we can look to sales tax law. In the Court’s Wayfair decision, South Dakota’s law was upheld because it appeared to prevent undue burden on and discrimination against interstate commerce. The Court ruled that South Dakota’s small-seller exception of $100,000 or 200 transactions provides a safe harbor to satisfy the substantial nexus requirement for smaller remote sellers. The Court noted that there was no retroactive application of the law and that South Dakota’s adoption of the Streamlined Sales and Use Tax Agreement provides for cost reduction measures and relief for remote sellers from administrative burdens.
Following Wayfair, nearly all states (except Florida and Missouri) have adopted or enacted rules with similar small-seller exceptions so as to prevent undue burden on remote sellers. In many of these states, local jurisdictions also impose sales tax with differing rates, sourcing, and taxability rules. Remote sellers are left to figure out the varying rules at the state and local level as some localities administer their own tax separate from the state, adding another layer of collection responsibility complexity for remote sellers. Without significant changes to existing state and local tax systems, collection responsibilities may increase compliance costs and impose impermissible interstate burdens on remote sellers.
Simplification and Standardization Initiatives
Given the complexity of state and local tax systems, the push for simplifying and standardizing sales tax collection responsibilities to protect remote sellers from excessive administrative and compliance burdens is proving to be a heavy lift. Take, for example, the Streamlined Sales Tax Project (SSTP), under which there are uniform rules, tax bases, and rates in states that sign on. However, the largest states are not members, including California, Florida, New York, and Texas. Even for states that are members and have standardized definitions, there are still complications because uniform rules may not clearly apply to unique and complex businesses that are responsible for classifying their products and services under these rules.
Another significant obstacle to these efforts to simplify and standardize are states with home rule jurisdictions that have decentralized administration and disparate tax bases and rules. Since there are several requirements that require uniformity and centralization of tax administration, states with home rule jurisdictions are left without the option or do not have a practical way to adopt the SSTP unless substantial legislative and administrative changes are made at the state and local level.
Streamlined Sales and Tax
The SSTP was established by state governments to simplify sales tax collection among the states. As a result, the SSUTA was established to create uniform rules on sales tax bases and definitions of key terms and centralize the administration of sales tax for business and states. Among other requirements, SSTP member states must comply with SSUTA requirements, have a single-level tax administration, adopt uniform definitions of products and services, and enact simplified tax rates. SSUTA membership provides sellers reduced tax compliance costs and access to sales tax software paid for by the state, as well as immunity from audit liability. There are 24 states that participate in the SSTP: Arkansas, Georgia, Indiana, Iowa, Kansas, Kentucky, Michigan, Minnesota, Nebraska, Nevada, New Jersey, North Carolina, North Dakota, Ohio, Oklahoma, Rhode Island, South Dakota, Tennessee, Utah, Vermont, Washington, West Virginia, Wisconsin, and Wyoming.
Use of SSTP certified service providers (CSPs) and certified automated systems may further reduce compliance costs and audit risk for remote sellers in participating states. A CSP may offer free sales tax calculations and reporting services to a business that meets criteria, including:
- registration to collect and remit sales tax through the SSTP system;
- contract with a CSP; and
- during the 12 months before registration, no fixed place of business for more than 30 days in the state, and less than $50,000 of payroll, $50,000 of property, and 25 percent of total property or payroll in the state.
Situations arise when the SSTP is not a practical option for a business because of the complexity of its products and services. Registering through the SSTP and using a CSP may prove challenging when a remote seller’s products and services have complex classification issues because SSTP member states do not classify products and services. There are also system-related limitations — not all accounting software or programs properly integrate with certified automated systems. Participation in the SSTP may limit a remote seller’s business flexibility in expanding its nexus footprint in SSTP states. For example, if an online seller wanted to open a location, hire a new employee, or expand its existing products and services, each of these changes would expose the business to a greater tax risk because remote sellers are ultimately liable for assessment.
Other states such as Pennsylvania, Illinois, and New Mexico are nonmember SSTP states that have initiatives the like SSTP to work with CSPs in providing automated software solutions to remote sellers. Pennsylvania established a program for remote sellers to use CSPs to facilitate registration and file and collect sales tax payments to the state at reduced or no cost. Illinois enacted legislation that requires simplification in collecting and remitting tax at no cost to remote sellers. New Mexico also enacted legislation that authorizes the establishment of standards for CSPs as defined under the SSTP. These initiatives are separate from the SSTP because these states have not adopted uniform rates or rules for sourcing and taxability of products and services.
Local Rate Simplification and Centralization Efforts
In addition to the SSTP, states have attempted to simplify the collection of local tax for remote sellers through single-rate elections and centralization rules. In most states, registering at the state level will also register you at the local, city, county, and municipal level. The tax base for the local jurisdictions will generally be the same as the state, and the administration of sales tax is centralized at the state level — meaning the states will collect and disburse to the local jurisdictions.
In some states such as Alabama, Alaska, Colorado, and Louisiana, there is a separate local registration requirement or sales tax administration function for some jurisdictions. In Alabama, some local jurisdictions require separate registration for each locality but follow the state tax base regime, meaning that the tax rules and exemptions mirror the state tax rules and exemptions. Through recent legislation, Alabama allowed remote sellers to participate in the Simplified Sellers Use Tax program to collect, report, and remit a flat 8 percent sellers use tax on all sales made into Alabama. A remote seller is eligible to participate if it sells tangible personal property or a service into the state from an inventory or location outside Alabama but does not have a physical presence in the state. Remote sellers must apply to be accepted into the program and may continue to participate if they do not establish nexus via physical presence. Remote sellers participating in the program are not required to register with home rule jurisdictions and may collect a single flat 8 percent rate regardless of the locality shipped to in the state.
Alabama allows purchasers to apply for refunds or credit for any local tax imposed if the 8 percent rate exceeds the purchaser’s combined state and local tax rate. The single-rate election may reduce the remote sellers’ burden in determining local tax rates. This potentially results in charging higher tax rates compared with in-state businesses that are not allowed to use the single rate.
Alaska does not impose a state sales tax, but there are over 100 local jurisdictions, including cities and boroughs, that impose a local sales tax with varying tax bases. Centralization efforts at the local level have been implemented so that remote sellers can register and collect and remit tax to the Alaska Remote Sellers Sales Tax Commission. Local taxing authorities pushed for a single point of registration and remittance, thus eliminating the requirement for remote sellers to register with each of the state’s local tax authorities.
In Colorado, home rule jurisdictions administer and collect their own local sales tax. There are over 70 home rule jurisdictions, including the city and county of Denver, Boulder, and Broomfield, and all require separate registrations. Thus, businesses must collect, remit, and file sales tax returns for each jurisdiction. In addition to registration requirements, the home rule jurisdictions determine their own tax base, taxability rules, rates, and sourcing rules that may differ significantly from the state’s.
Over the last few years, a legislative tax task force has worked on developing a common point of registration, collection, and remittance for sellers doing business in Colorado’s home rule jurisdictions. These efforts are referred to as the statewide Sales and Use Tax System (SUTS). SUTS would provide a central point of access for taxpayers to obtain specific rules and rates based on destination and file one return for multiple home rule jurisdictions. Over 30 home rule jurisdictions have agreed to participate in SUTS, with nearly 40 jurisdictions either under review or pending signatures to opt in.
Louisiana also has local jurisdictions responsible for administering and collecting their own sales tax, referred to as parishes. Each parish establishes its own tax base and administers and collects its own sales tax. Louisiana is a destination-based reporting state, and before enforcing its economic nexus laws, which were effective July 1, 2020, created the Sales and Use Tax Commission for Remote Sellers, which is the single state-level tax administrator for remote sales and offers a single average rate of 8.45 percent for remote sellers making sales into the state. This was problematic in some cases when remote sellers imposed higher tax rates than in-state sellers. Accordingly, Louisiana is now requiring remote sellers to register with the commission and collect sales and use tax based on actual applicable bases and rates.
Although Texas does not have home rule jurisdictions, remote sellers may elect and apply with the Texas Comptroller’s Office to use an alternate single local tax rate to avoid sourcing local tax to as many as 1,700 city, county, municipal, and special districts across the state. Generally, local sales tax is sourced based on origin if the order is not fulfilled or received from a Texas “place of business.” Otherwise, the local sales tax is due based on the location where the order is shipped or delivered (destination-based sourcing rules). Neither businesses located in Texas nor marketplace facilitators can use the single local use tax rate for sales. As such, single local tax rates may result in higher rates for some customers than would have been collected without the single flat rate. In those instances, Texas allows the customer to file a request for refund of the difference.
Continued Compliance Burdens for Remote Sellers
While the SSTP and many states with thousands of local and home rule jurisdictions have attempted to simplify sales tax administration and filing requirements, many states and their local jurisdictions maintain complex systems. These states have taken varying approaches to centralizing tax registrations, collections, or remittances. However, localities that maintain their own rules for defining their tax base, sourcing, and rates continue to impose significant compliance risk and burdens for remote sellers. Remote sellers using and relying on sales tax software or other solutions must realize that the simplification measures for local tax compliance may create compliance issues if rule changes in local rates or tax decisions are not properly updated or integrated in the software used by remote sellers.
Discrimination against interstate commerce may occur as an unintended consequence through single-rate elections — remote sellers may charge higher tax rates than in-state retailers. Although states allow for customer refunds claims, the lack of awareness that refund claims are available or the administrative burden of filling out forms and sending in a request for refund on the differential local tax amounts will likely discourage a customer from even trying. Since Wayfair and states’ adoption of economic nexus standards, sales tax collection responsibilities are more complex than ever for remote sellers, which must continually monitor and understand the state and local tax rules, rates, and requirements in the states where they have customers. Doing so means first determining whether they have exceeded safe harbor thresholds, knowing how to properly source and track sales activities, understanding the administrative rules, and keeping up with the simplification initiatives for local jurisdictions when applicable to minimize risk and exposure for state and local
PricewaterhouseCoopers, “Retail Sales Tax Compliance Costs: A National Estimate” (Apr. 7, 2006).
Complete Auto Transit Inc. v. Brady, 430 U.S. 274 (1977).
Tennessee is an associate member state that substantially complies with SSUTA provisions.
Streamlined Sales Tax Governing Board, “Do You Qualify for Free Sales Tax Calculation and Reporting Services?”
Louisiana Department of Revenue, Remote Sellers Information Bulletin No. 18-001, “Impact of Wayfair Decision on Remote Sellers Selling to Louisiana Purchasers,” (Aug. 10, 2018); and Louisiana Department of Revenue, Remote Sellers Information Bulletin No. 19-001, “Remote Sales Tax Collection and Varying Rates of Local Sales and Use Tax,” (May 17, 2019).
Louisiana Department of Revenue, Remote Sellers Information Bulletin No. 20-002, “Effective Date for Remote Seller Registration and Collection of State and Local Sales and Use Tax at Actual Rates,” (May 7, 2020).
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