How economic nexus impacts local sales tax collection

Update 10.26.2018: The Colorado Department of Revenue has adopted new sales tax collection and reporting requirements for both in-state and out-of-state sellers. The changes will take effect December 1, 2018.

The Supreme Court of the United States has overruled the physical presence requirement that long prevented states from taxing remote sales. Since the court issued its decision (South Dakota v. Wayfair, Inc., June 21, 2018), nearly 30 states have adopted economic nexus policies requiring remote sellers to collect sales tax once they’ve reached a certain level of economic activity in the state. But, do these remote sellers have to collect local sales tax in addition to state sales tax?

The Supreme Court didn’t spill much ink on local sales and use tax, nor did it replace the physical presence rule with a similar bright-line test. However, it did stress that state regulations may not discriminate against, or place undue burdens upon, interstate commerce. It also highlighted several aspects of South Dakota’s tax system that “appear designed to prevent discrimination against or undue burdens upon interstate commerce.” These are:

• Small seller exception
• No retroactive enforcement
• Membership in the Streamlined Sales and Use Tax Agreement

States interested in adopting economic nexus need to decide where they stand with respect to the above considerations. Will they provide a safe harbor for small sellers? Will they enforce economic nexus retroactively, or on a prospective basis only? Are they, or are they willing to become, Streamlined Sales Tax member states? Local sales tax comes into play with the last point.

Streamlined Sales Tax states simplify sales tax compliance for remote sellers

States participating in the Streamlined Sales and Use Tax Agreement (SSUTA) have taken steps to simplify and reduce the costs associated with sales and use tax compliance. Though many of them have local sales and use taxes, they have a single, state-level tax administration that facilitates remittance. They also have uniform definitions of products and services, simplified tax rate structures, and other uniform rules. Another perk: Streamlined Sales Tax (SST) states cover the costs of sales tax automation software like Avalara for certain sellers; using such software protects the sellers from audit liability.

There are 23 full SST member states, and one associate member. Twenty of these states have already adopted economic nexus (the remaining four have taken other steps to tax remote sales). Nine states with economic nexus don’t participate in SST.

States where sales tax compliance for remote sellers is more complex

Alabama, Colorado, Connecticut, Illinois, Louisiana, Maine, Maryland, Mississippi, and South Carolina have adopted economic nexus but are not SST member states. Of these, Alabama, Colorado, Illinois, Louisiana, and South Carolina have local sales taxes in addition to the statewide rate — the rest only have state-level sales tax. Alabama, Colorado, and Louisiana allow local jurisdictions to administer their own sales taxes under home rule.

Alabama has taken steps to simplify compliance for remote sellers. The Alabama Simplified Sellers Use Tax Remittance Act allows remote sellers to collect a flat 8 percent sales tax rate for all Alabama sales and remit it to the Alabama Department of Revenue, rather than the variable rates in effect in each locality.

Sales tax compliance is more challenging in Colorado and Louisiana. To quote the Tax Foundation, an independent tax policy nonprofit: “Colorado and Louisiana have duplicative, outdated, inconsistent, and inefficient sales tax collection mechanisms that make it unlikely that any attempt to pass a South Dakota-style law would survive a legal challenge.”

There are close to 330 local tax jurisdictions in Colorado, and 370 in Louisiana; in each, local sales tax rules may differ from the state sales tax rules. For example, while the state of Colorado allows an exemption for food for home consumption and school-related supplies, a local tax jurisdiction in Colorado may tax those sales. Furthermore, the state doesn’t administer sales and use tax for all local jurisdictions.

Both Colorado and Louisiana are working to simplify sales and use tax compliance, but such change isn’t easy or quick in coming. In November 2017, Colorado’s Sales and Use Tax Simplification Task Force recommended instituting a single point of remittance for sales and use tax, the creation of a taxability or exemption matrix, and several other changes. Discussions for further improvements are ongoing, and home rule municipalities are reportedly open to some simplification measures in order to facilitate remote sales tax collection in the wake of Wayfair.

Louisiana has created a Sales and Use Tax Commission for Remote Sellers within the Department of Revenue. The commission will serve as the single entity for remote sales tax remittance, and also promote uniformity and simplicity in sales and use tax compliance in Louisiana. This will help with remote seller compliance; although most localities do follow the state’s lead with respect to product taxability rules, not all do.

Sales tax compliance in non-SST states with remote seller sales tax laws is likely to be more burdensome than compliance in SST states, which offer a single point of registration. Compliance will likely be particularly burdensome for remote sellers when economic nexus takes effect in Colorado (December 1, 2018) and Louisiana (January 1, 2019).

Although businesses can’t control state sales tax laws, they can take steps to make sales and use tax compliance more manageable with sales tax automation software.