By Robert Schulte
Simply put, nexus is the legal requirement for companies to collect and remit sales tax in a state. While the definition sounds pretty straightforward, determining where your business has nexus can be a complicated process. Keep reading to learn how.
3 Basic Nexus Criteria
Most things that can cause you to have nexus fall into these three categories:
- Physical presence
You have to collect and pay sales taxes in the primary state where your business operates. This is true whether you have a brick-and-mortar store or whether you work from various coffee shops on a laptop.
Hiring employees has many tax implications – and sales tax is no exception. For example, if your California-based company hires an employee in another state, you likely have nexus and will be required to collect sales tax in that state.
- Inventory Storage
Your company may have to pay taxes due to third-party fulfillment nexus – which is the act of storing inventory outside of your primary operating state. Many businesses do this to cut down on shipping time and costs, and to streamline logistics.
While these are the three most common things that establish your company’s legal presence in a state, this isn’t an exhaustive list. There are lots of less common things – like long-term targeted marketing in a particular area and franchise locations – that can also cause nexus. That’s why it’s critical to do your research and make sure you have a clear understanding of your sales tax obligations before you launch your business.
Often Overlooked Nexus Criteria
- One Size Does Not Fit All:
All states have different rules and definitions on what causes a business to have nexus in their state. Some local jurisdictions – like cities and counties – also have their own rules. To avoid noncompliance issues, make sure you don’t apply one state’s nexus rules across the board, and be careful to check for local laws that could impact your business.
- Temporary Presence is Often Enough
If you go to trade shows in another state or have traveling sales reps who go to out-of-state locations to talk to potential clients, that can be enough of a physical presence to establish nexus. To avoid being blindsided by compliance issues, be sure to research new areas before you expand your business.
- Definition of “Temporary Presence” is Murky
One of the biggest issues with nexus determination is that the definition of “temporary presence” is sometimes about as clear as mud. If you’re unsure whether your company qualifies for temporary presence – and thus has a nexus obligation in a particular state – it’s a good idea to contact the state in question’s regulatory tax board. Explain your plans and gain clarity on the issue.
What Happens if You Incorrectly Determine Nexus?
If you think you are required to collect and pay sales taxes in a state, but it turns out you aren’t, it can cost you both time and money. On the contrary, if you don’t realize you have nexus in a state and, as a result, you neglect to pay sales tax in that state, you can be fined or even audited. For a small business owner with limited funds, it can be disastrous to receive a big tax bill you aren’t expecting. This is why it’s good practice to gain a level of certainty on your sales tax compliance obligations before you open your doors for business or launch your website.
Bottom line: A little up-front research can go a long way for your small business when it comes to sales tax compliance. That said, if you find the process of determining nexus overwhelming, consider outsourcing it. You always have the option to hire an experienced sales tax compliance expert to make sure your company is set up for long-term success.
Robert Schulte is the founder and CEO of LumaTax – a software company that makes sales tax filing a breeze for busy small business owners. Robert was formerly a Senior Tax Auditor for the State of California as well as the co-founder of Taxcient.