State and Local Taxes for Business Owners: Part 3 – Nexus and Tax Obligations
As discussed in the previous two articles of our state and local tax blog series, the first step to effectively managing state and local tax is to identify risk by determining where the business may have nexus. Please see “An Introduction to SALT” and “Strategies for Determining Nexus” for more information.
Once a business has determined that there may be nexus, they must determine what filing requirements there are in the state. Many states offer guidance on when an out of state business has a registration or filing obligation in their state, which can be helpful as a starting point. However, a word of warning – remember where this information is coming from. Guidance from a state is going to lean heavily towards needing to register and file because it means additional tax and fee revenue for them. It is also easy to misinterpret this information since nexus may differ for a state’s different types of taxes. Listed below are a few state requirements and tax types to consider once possible nexus is determined.
Business Registration
For many states, it is required that a business register with the Secretary of State. This may involve paying a fee annually and/or filing an informational report with the state. Please keep in mind that this is not the same as registering with the state’s department of revenue, and often the two departments do not communicate. We’ve heard clients say from time to time that they’re just doing a little bit of work in a state, and they don’t feel like registering. Even if income or sales tax is not an issue in the state, in order to use the state’s court system (should things go awry – even though we know they never do), one must be registered to do business in the state. Some annoying forms may benefit an organization greatly in the long run.
Sales Tax
This is a transactional tax typically paid by the purchaser but remitted by the seller. States typically have a flat rate (such as 6% of the purchase price), although there are often also local and transit rates that must be determined and remitted. Economic nexus is an important consideration for sales tax purposes, although there are also exceptions to consider. For example, a business may sell an item that is not taxable in that state or sell only to resellers, therefore it may not make sense to register for sales tax. We’ll discuss more about sales tax in the next article of this series.
Income Tax
This is the tax that is calculated on the business’s taxable income, and what most people think of when they talk about taxes. Generally, this type of tax is administered through a Department of Revenue. For income tax purposes, there is a special exception to nexus called Public Law 86-272. P.L. 86-272 is a federal law that says if the only activity a business has in a state is the solicitation of sales and shipping tangible property into the state via common carrier, then the state may not be allowed to impose an income tax on the business. Keep in mind, states will typically apply this rule as narrowly as possible, interpreting ANY activity outside of solicitation as not being covered under this rule. We’ve seen states go so far as to suggest that a web-based employment application that allows individuals in their state to apply for a job means that you’re doing more in their state than soliciting sales.
Franchise and Gross Receipts Taxes
These are similar to income taxes but are based on a different measure than net income and are imposed either in place of or in addition to the state’s income tax. Franchise taxes can be based on various measurements, such as net assets, retained earnings, and gross receipts. As one can probably guess, gross receipts taxes are simply a tax based on the gross receipts of a business in that state.
Keep in mind that in addition to these taxes, payroll taxes must also be considered if there are employees in the state. Having a trusted professional that understands your business can be invaluable to help make determinations on nexus for various types of taxes and give you peace of mind. Be sure to keep an eye out for our next article in this SALT series, but if you have any current questions or concerns about state and local tax, please contact Lindsey Haney. You can also learn more about our services by visiting our Tax service page.
