Identifying compliance challenges for physical goods marketplaces

Sales tax compliance can be cumbersome for any retailer, especially for a business that sells a variety of goods in multiple locations. Sales tax laws vary by jurisdiction and are subject to change at any time. Tax rates are determined by a variety of factors and can vary within a state, county, or city — even along the same street.

It gets even more complicated for retail marketplaces hawking wares online. Physical goods marketplaces exist in both the B2C and B2B spaces. They connect shoppers to a host of ecommerce retailers and expand business for product sellers by introducing them to a broader share of the market. Physical goods marketplaces include eBay, Poshmark, Bed Bath & Beyond, and Zola.

Brick-and-mortar businesses have to identify and manage tax rates, exemptions, filing requirements, and deadlines in the jurisdictions where their stores are located. Marketplace platforms have to know the rules anywhere they have enough sales or transactions to establish nexus, an obligation to collect and remit taxes with a state.

When it comes to compliance, physical goods marketplaces need to consider these particular challenges:

• Marketplace facilitator laws increase tax obligations
• Physical products are taxed differently across the country
• Collecting exemption certificates from customers is a chore
• Filing returns in multiple jurisdictions is difficult to manage

Shortly after the United States Supreme Court ruling on South Dakota v. Wayfair, Inc. (June 21, 2018) determined states could collect sales tax from out-of-state vendors, many states began to implement economic nexus laws. But for the first few years of this chaotic new world, marketplaces were a gray area for who owed tax to whom. Enter marketplace facilitator laws.

These laws outline when a marketplace must shoulder the burden of sales tax compliance on behalf of the sellers using their platform. Once the dam on these types of laws broke, states snapped them up fairly quickly. In fact, each state that charges sales tax now has some form of marketplace facilitator law. 

Generally speaking, these laws make the marketplaces responsible for calculating, collecting, and remitting sales tax to applicable jurisdictions, based on specific sales activity. Because thresholds are based on the total transactions of all sellers on the platform, retail marketplaces can trigger nexus with a state, even if the majority of the retailers on their platforms wouldn’t, based on only their own sales.

Sales tax on physical goods can vary widely in each of the 13,000+ sales and use tax jurisdictions across the United States. The laws and regulations can also change at any time, with special rates applied based on how items are classified. 

When calculating sales tax on physical products in multiple states, it’s important to know and apply the correct rate for the location, the product, and the day the purchase occurs. Not doing so can create headaches and financial penalties come audit time. A few tricky examples include:

Food and groceries. Most states do not tax groceries. But in some states, like Alabama and Hawaii, food is taxed at state and local rates like any other product. Other states, like Illinois or Utah, tax groceries at a reduced rate. And it’s not just figuring out whether a state applies or exempts sales tax; whether a food qualifies as a “grocery” varies by state as well, and depends on factors like preparation, carbonation, and if the product contains certain ingredients, like flour.

Nonfood necessities. Diapers, pads, and tampons are a hot-button tax issue across the country. For many people, these are necessities, and yet states can choose whether to apply a sales tax. The same goes for other staples, like toilet paper, first aid supplies, hygiene supplies, and even clothing.

Sales tax holidays. Many states offer sales tax holidays for specific types of purchases, including:

• The mundane, like back-to-school (Alabama), home improvement (Florida), and energy products (Maryland)
• The exciting, like emergency preparedness (Texas) and firearms (Louisiana)
• The everything, like Alaska’s tax holiday for all things tangible

Non-sales-tax taxes. While not sales taxes per se, there are other taxes applied to some goods at the point of sale that your platform may be responsible for collecting and remitting. These include:

• Communications tax
• Energy tax
• Beverage alcohol tax
• Tobacco tax

The ever-expanding product catalogs of many physical goods marketplaces can be difficult to keep track of and manage. Determining tax categories for items as sellers add them is a challenging and onerous ordeal. But proper classification is a vital first step to calculating the correct tax rate.

Researching the latest rates and rules is both time-consuming and prone to error. Automating item classification and sales tax calculation on physical goods can help you improve accuracy and compliance.

Exemption certificates pose another potential compliance challenge for marketplaces. Each exempt purchase requires a valid certificate to substantiate the exemption. Marketplaces with sales tax obligations must obtain, verify, store, and access these certificates as necessary.

Different states have their own regulations concerning  exemption form types, the validity of these forms, and form expirations. Many states accept the Streamlined Sales Tax form, and some have entered into multistate agreements to honor each other’s forms. Nevertheless, it’s crucial to verify a form is valid in the jurisdiction where the transaction occurs.

Given the number of forms and regulations, handling paper certificates can become burdensome for most businesses; collecting and managing forms for jurisdictions across the country adds an additional layer of complexity. Exemption management software can streamline the process, improving the efficiency of collecting, storing, and accessing certificates.

Serving customers throughout the United States often translates to increased sales and a larger market share. However, establishing nexus in multiple states can also complicate sales tax filing and remittance for retail marketplaces. Just like tax rates and exemptions, each state has its own procedures for filing and remitting taxes.

Each jurisdiction determines the frequency of tax filing, typically on a monthly, quarterly, or annual basis, depending on your sales volume. Additionally, each jurisdiction sets its own deadlines, procedures, forms, and penalties for late filings.

One common requirement across states is the zero dollar return. Regardless of whether your sales are tax exempt or if you have no sales during a specific tax period, if you’re registered with a state, you must file a sales tax return.

If your filing obligations are limited to just a few states, you may be able to manage returns with a small tax team. However, due to the widespread nature of marketplace selling, nexus is often established in most, if not all states. Using sales tax return software can aid in accurate and timely filing in each jurisdiction.

Avalara has a marketplace solution designed to help you stay tax compliant. Automation can help you classify physical products, research tax rates, and calculate taxes with greater efficiency and accuracy than manual processes. We can also help you collect and manage exemption documents and file returns across multiple jurisdictions. 

Avalara products are designed to work together and we have over 1,200 signed partner integrations with leading business systems, so you get consistent, reliable tax information across your technology ecosystem.

To find out if Avalara is the right tax solution for your marketplace, schedule a call with one of our experts.