Online sales tax — what it is, when you need to collect it, and how to stay compliant

Digital merchants must manage ecommerce sales taxes to stay compliant, which can be challenging. Keeping track of fluctuating tax rates and what states have sales tax nexus are just two of those difficulties.

Gaining more knowledge of online tax laws can help you determine when and how much sales tax to collect from customers so your business remains compliant.

To better understand online sales tax, this post will discuss:

• What is ecommerce sales tax?
• Do you have to collect sales tax for selling online?
• Sales tax nexus
• State by state economic nexus laws
• Risks of sales tax mismanagement
• How to stay sales tax compliant
• Sales tax tips for ecommerce
• How to get started with ecommerce and sales tax

What is ecommerce sales tax?

Ecommerce sales tax is a small percentage of a sales total that is automatically applied by an online retailer to cover taxes. A unique aspect of online sales tax is that it’s levied by the state where the product is sold, so ecommerce sales tax varies by state — with some exceptions.

Do you have to collect sales tax for selling online?

You must collect sales tax from online sales if your business has a physical presence, called nexus, in the state where the purchaser is physically located and the product is taxable in that state. But there are some unique circumstances — the 2018 South Dakota vs. Wayfair court case is one example. The South Dakota legislature enacted a law for sales tax to be collected and remitted “as if the seller had a physical presence in the State” after out-of-state sellers received criticism as having an advantage.

Since most states require online businesses to collect sales tax it’s better to be prepared and know what each state expects.

Sales tax nexus

Sales tax nexus is when customers are charged sales tax in a state because, based on the state laws, the business has enough presence there. What constitutes “enough” of a physical presence as a business varies from state to state.

Nexus usually applies when an office or warehouse is in that state, employees reside in the state, dropshipping is used from that state, or products are temporarily sold at a tradeshow or similar event.

Here are the four most common circumstances that result in sales tax nexus in a certain state according to the Sales Tax Institute.

1. Marketplace nexus. You run an ecommerce marketplace that provides infrastructure to sellers, such as payment processing or customer service.
2. Click-through nexus. Your out-of-state company pays a commission to an in-state company for a referral or a sale through a link. A minimum sales threshold is required.
3. Affiliate nexus. Your out-of-state business has an in-state affiliate used to market and sell products. Common ownership of the business isn’t always required and activities related to “sales, delivery, service, and maintaining a place of business in the state” aren’t always included.
4. Economic nexus. Your business exceeds a threshold of sales or transactions in a state even if a physical presence is not required for businesses. Each state has a unique list of requirements for economic nexus that should be reviewed.

State by state economic nexus laws

There are four states that do not require ecommerce sellers to collect sales tax: Delaware, Montana, New Hampshire, and Oregon. The remaining 46 states and D.C. do have economic nexus laws that can be reviewed below. Always check the official state website to confirm the states with online sales tax.

1. Alabama has an economic nexus threshold of $250,000 (no state tax, only local).
2. Alaska has an economic threshold of $100,000.
3. Arizona has an economic threshold of $100,000.
4. Arkansas has an economic nexus threshold of $100,000 or 200 transactions.
5. California has an economic threshold of $500,000.
6. Colorado has an economic threshold of $100,000.
7. Connecticut has an economic threshold of $100,000 or 200 transactions.
8. Florida has an economic threshold of $100,000.
9. Georgia has an economic threshold of $100,000 or 200 transactions.
10. Hawaii has an economic threshold of $100,000 or 200 transactions.
11. Idaho has an economic threshold of $100,000.
12. Illinois has an economic threshold of $100,000 or 200 transactions.
13. Indiana has an economic threshold of $100,000 or 200 transactions.
14. Iowa has an economic threshold of $100,000.
15. Kansas has an economic threshold of $100,000 (0 transactions needed).
16. Kentucky has an economic threshold of $100,000 or 200 transactions.
17. Louisiana has an economic threshold of $100,000 or 200 transactions.
18. Maine has an economic threshold of $100,000.
19. Maryland has an economic threshold of $100,000 or 200 transactions.
20. Massachusetts has an economic threshold of $100,000.
21. Michigan has an economic threshold of $100,000 or 200 transactions.
22. Minnesota has an economic threshold of $100,000 or 200 transactions.
23. Mississippi has an economic threshold of $250,000.
24. Missouri has an economic threshold of $100,000 (effective Jan. 1, 2023).
25. Nebraska has an economic threshold of $100,000 or 200 transactions.
26. Nevada has an economic threshold of $100,000 or 200 transactions.
27. New Jersey has an economic threshold of $100,000 or 200 transactions.
28. New Mexico has an economic threshold of $100,000.
29. New York has an economic threshold of $500,000 or 100 transactions.
30. North Carolina has an economic threshold of $100,000 or 200 transactions.
31. North Dakota has an economic threshold of $100,000.
32. Ohio has an economic threshold of $100,000 or 200 transactions.
33. Oklahoma has an economic threshold of $100,000.
34. Pennsylvania has an economic threshold of $100,000.
35. Rhode Island has an economic threshold of $100,000 or 200 transactions.
36. South Carolina has an economic threshold of $100,000.
37. South Dakota has an economic threshold of $100,000 or 200 transactions.
38. Tennessee has an economic threshold of $100,000.
39. Texas has an economic threshold of $500,000.
40. Utah has an economic threshold of $100,000 or 200 transactions.
41. Vermont has an economic threshold of $100,000 or 200 transactions.
42. Virginia has an economic threshold of $100,000 or 200 transactions.
43. Washington has an economic threshold of $100,000.
44. Washington D.C. has an economic threshold of $100,000 or 200 transactions.
45. West Virginia has an economic threshold of $100,000 or 200 transactions.
46. Wisconsin has an economic threshold of $100,000.
47. Wyoming has an economic threshold of $100,000 or 200 transactions.

Once you pass the threshold, it’s time to start collecting sales tax from your customers — how to do so with minimal risks is the next objective.

Risks of sales tax mismanagement

Business owners are responsible for online sales tax. If you fail to collect it directly from your customers, you’ll be required to pay sales tax out of pocket. Additional consequences of sales tax mismanagement include:

• Late fees up to 10%
• Outstanding interest
• Collection fees
• Potential jail time in some states

Minimizing repercussions when collecting sales tax requires a commitment and initiative to be organized.

4 ways to stay sales tax compliant

Slipping into non-compliance is an easy mistake. Each state and company may have unique requirements, but there are a few best practices that apply in most cases. The following steps are a good start to help you with compliance.

1. Determine product taxability and state nexus

The first step to sales tax compliance is to determine which of your products are taxable and which states you have nexus in. Certain states view the same product differently. For example, clothing isn’t taxable in Pennsylvania so sales tax wouldn’t be charged. Use relevant local laws to determine if you have nexus there and what sales tax you have to collect.

2. Register for a sales tax permit

Collecting sales tax without the proper permit is illegal in many states. Without a permit, businesses could say they’re collecting sales tax and pilfer the money.

When you receive your permit you’ll also get a sales tax filing frequency — monthly, quarterly, annually, or however often you have to file with the state. Visit the relevant state’s Department of Revenue to register and learn more.

3. Collect sales tax

Once you have your permit, it’s time to set up your marketplace or shopping cart to add on sales tax. Every software program does this differently, so using an ecommerce platform makes this process easier. A good ecommerce software should provide accurate sales tax calculations, data for automated tax preparation, collection, remittance, and easy support and security.

While most states exclusively use destination sourcing for remote sellers, origin sourcing is also a relevant option for in-state sellers. States with different local tax rates can determine whether to charge the rate where your business is located (origin) or where the customer is located (destination).

This assures state governments that every local area receives the exact amount of sales tax collected from buyers in their jurisdiction.

4. Document, report, file, and remit your sales tax

The final step to compliance is filing with each relevant state on your sales tax due date. Ensure you’re tracking sales tax data on a state-by-state basis to make this easier. Many states will also ask for sales tax numbers based on local jurisdiction.

Always file, even if you didn’t collect any sales tax during the last period — known as zero returns. Keep sales records organized to make filing as easy as possible.

Dealing with sales tax exemptions

There are exceptions to most rules. For online sales tax, all exceptions are on a state-by-state basis so check state documentation for verification. A few common exceptions relate to:

• Manufacturers. Raw materials that are not yet a product or the equipment being used to make a product are often tax exempt.
• Resellers. Selling to a verified reseller and not directly to a consumer can be a tax exempt sale. Just make sure the reseller has the proper documentation.
• Non-profits. Certain purchases by non-profits may be tax exempt if it directly relates to their charitable purpose.

6 additional sales tax tips for ecommerce

Here are a few extra tips for managing sales tax as an ecommerce business.

1. Keep meticulous documentation. Maintaining extremely detailed records will help you stay on top of all your tax obligations and create a trail you can follow in case any problems arise.
2. Sequester your tax funds. Store sales taxes separately from company funds as soon as you collect. Then you’ll always know where the funds are and can pay in full when needed.
3. Track all tax deadlines. Set reminders on your calendar and always know when each state requires you to file.
4. Check and double check your compliance. Periodically review your business tax processes to make sure you’re still fully compliant and have nexus in applicable states. For example, if an employee leaves, you may not have to pay taxes in their home state anymore. Review compliance standards periodically to avoid frantic last-minute corrections close to filing dates.
5. Stay up to date on state sales tax laws. The current sales tax landscape dates back to 2018 and it changes every year. Whether it’s rate updates or new nexus requirements, make sure you’re up to date.
6. Consult an expert. A basic knowledge of sales tax laws and your own company’s compliance is important but don’t skimp on expert help. Always consult an accountant or CPA to make sure you are 100% compliant.

Get started with ecommerce and sales tax

Ecommerce sales tax is a small percentage automatically applied to purchases by an online retailer. It’s necessary for online businesses to understand how to manage these taxes to remain compliant. Gaining more knowledge of online tax laws can help you determine when and how much sales tax to collect from customers.

The next step is to ensure your ecommerce company is sales tax compliant. You can start by using a reliable ecommerce platform. Access to centralized real-time information also makes the entire compliance process easier.

Adobe Commerce is a multichannel commerce solution on a single platform for B2B and B2C customers. From managing ecommerce taxes, to designing product pages, to maintaining inventory, Commerce is leading the industry. Take a product tour to learn more about how Adobe Commerce can make your entire ecommerce experience easier.