Sales tax strategies for Amazon FBA sellers in the United States
This article is a guest post from our good friends at MuseMinded. They have teamed up with Permitted to offer a free sales tax starter kit for US-based Amazon sellers. Learn more here. As an Amazon seller in the United States, complying with sales tax can become an extremely complex burden if it isn’t managed properly. This is due to the fact that each State has different tax rates, filing frequencies and other requirements. Online sellers are liable for paying sales tax in a range of jurisdictions due to the issue of nexus, which we discussed in more detail in this article: “If you have nexus in a State, then you have a significant enough physical connection to the state to be considered its sales tax agent.”
- MuseMinded article for A2X on sales tax
Earlier this year, a supreme court ruling (South Dakota vs. Wayfair) gave States much more autonomy to create and enforce their own laws with regards to sales tax. Long story short: it is more important now than ever before that you understand your sales tax obligations as an Amazon seller, and set a strategy in place to ensure that you become compliant. In this article, we take a look at three approaches that Amazon FBA sellers commonly take towards sales tax:
- The ‘by the book’ approach.
- The ‘wait and see’ approach.
- The ‘stair step’ approach.
The ‘by the book’ approach:
This method involves registering for a sales tax certificate in every State where you have nexus, no matter how small the amount of business you have may be. It is often advised by accountants that want their clients to take the safest and most conservative course of action. Benefits of this approach include having total peace of mind, and knowing that you are following the law properly. It’s very black and white, and there are no complicated decisions that you need to make. However, it is a very expensive (and potentially time consuming) way of managing your tax obligations. To begin with, you will need to register in every State where you have nexus. Then, every month, quarter or year, you will have to file sales tax returns - regardless of whether you owe any sales tax or not. It also does not take into consideration the cost of compliance vs. the cost of non-compliance. For example, would you pay an accountant $100 in order to avoid a $50 fine from the State? This approach is ideal for people who just want to get the matter off their hands no matter the cost, and people who cannot sleep at night knowing that they might get a letter from the tax department. A2X offers a great tool called WhereStock, which provides a detailed report on where your FBA inventory is located. This is useful for helping to determine where you have nexus.
The ‘wait and see’ approach
This approach involves signing up for a sales tax certificate in your home State, but not any of the other States where your inventory is located, or you make sales - no matter how large your business becomes. It is a strategy which is commonly recommended by Amazon FBA sellers in online forums. In their view (or the view of their local accountant), sales tax laws are constantly changing, and there is so much confusion around what is and isn’t nexus. That being the case, they choose to wait until clearer rules are presented, in the hopes that none of the other States find out that they aren’t paying sales tax. Until recently, it has been pretty hard for non-home States to police sales tax collection, and the tax departments have been preoccupied with chasing bigger fish. However, these same State collections agencies now have more tools at their disposal and more powers to enforce their sales tax laws. It is definitely a cheaper way of managing sales tax obligations, but it is fraught with risk. If you are caught, you will be required to pay all of the backdated taxes, plus penalties and interest. Each year, as your business grows larger, the relative cost of compliance compared to the consequences of getting caught make it less worthwhile. Why risk the viability of your business to save $200-300 per month… “Eventually it becomes a bit penny wise and pound foolish, as they say.”
- MuseMinded sales tax crash course
If a State decides to audit your business, they can backdate their records as far into the past as they like. If you haven’t been paying sales tax for 10 years, then you are going to be in for quite the surprise!
The ‘stair step’ approach
If the first two approaches were on opposite ends of a spectrum, then this one is in the middle. The ‘stair step’ approach involves starting by registering in your home State. Then as your business grows, you add more States on a gradual basis until you become fully compliant. More specifically, this method involves taking the following actions:
- Register for a sales tax license in your home State if you haven’t already done so.
- Set a tax liability limit for each of the non-home States (e.g: $1,000 or $5,000 or whatever suits your level of risk tolerance).
- Once the total aggregate amount of sales tax that you should have collected in any given State exceeds the predefined threshold, then you would register for a sales tax license in that State.
The main advantage of this sales tax strategy is that it gives your business a chance to really pick up momentum before you go about registering all over the place. It limits your upfront costs whilst decreasing your long-term risk. Sellers often reach their threshold first in California, Texas and Florida, then take a while before needing to comply in other States. By registering first in these States, you get more impact for your spending early on when you have less resources. Although this method of handling sales tax obligations does reduce downside risk whilst controlling costs, there is still a relatively small risk of being audited, which must be taken into account when deciding on a strategy to proceed with. If you decide to use the ‘stair step’ approach, it is worth considering using a tool such as TaxJar to help with calculating, preparing and filing returns. TaxJar also provides a very useful report called the ‘Detailed Sales Tax Analysis’, which can help you to monitor the amount of unpaid sales tax liability that you are accumulating in each State.
Where can I go to learn more?
There are lots of great resources available online. To find out about the tax rates, filing frequencies, and where you need to go to register in each state, visit www.taxjar.com/states. Our free sales tax crash course covers these approaches in more detail, and looks at a range of other important topics related to getting compliant with sales tax.
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