Thursday, September 27, 2007

Summer Intern Project

Here's a fun thing to have your intern do. Or you can do it as well. It's a little tedious, but will pay off with fewer problems during an audit. And, depending on where you are, might even save you some money.

Based on this golden rule, the state that gets to tax a sale is generally the state where the delivery occurs. But here's the catch. When an out of state vendor ships you product, and they charge you tax, which tax are they charging you? If they're doing what many of them do and charging you their state's tax, that isn't correct. If you're having product shipped from Maine to your office in Florida, then the Maine tax isn't right. The only state that gets to tax will be Florida.

So you've paid the wrong tax. And when you get audited, Florida probably will not give you credit for having paid a Maine tax on a shipment to Florida. So you may wind up having to pay the tax a second time.

Here's how to avoid the problem:

1. Review your invoices for shipments from out of state. If the vendor charges tax, ask which state they are charging. If they tell you the ship-from state, then refuse to pay the tax. You'll have an argument, but just about every state has laws on the books that specify that shipments out of state are not taxable in that state. You'll have to do some research, but you can win the argument.

Note though that I said "just about." There are a couple of states where the issues are a little blurry. Watch out for HI, NM, and TN and one or two others in weird circumstances. But by setting up terms as FOB destination and having the vendor arrange the shipment, even those states will give up jurisdiction.

2. This is the intern part. Review past invoices that are shipments from out of state. Ask the vendor the same question. Repeat item one.

3. The vendor may say, or indicate on the invoice, that they're actually charging you the correct tax. If so, then demand proof that they're registered in your state. Ideally, have them fax the registration document from your state. If they don't have that handy, then get their registration number and confirm it with the state. You can usually do this by looking it up on your state's web site, or emailing the state.

4. Obviously, make sure that you report and pay your state's use tax on all of these invoices.

There is a particular type of vendor to pay particular attention to. Whenever I've heard of a company systematically screwing this up, it was a small to medium sized business that was primarily local but occasionally did business out of state. They're so used to filing just their own state's return that they don't even think of other states' taxes. They've never been to a seminar, never researched anything, their CPA and lawyer are clueless. They just cruise along filing their tax return every month, doing it the way they've always done it.

On the other hand, companies whose market is national or international will usually do this correctly since, over time, they've gotten busted.

Remember, the purpose here is to pay the right taxes and gain credibility with the auditor by showing that you've got this issue covered. There is a money savings benefit as well. If the tax rate in your state is 6% and the rate in your vendor's state is 7.75%, then you're looking at recovering 1.75%. In other words, if your state's rate is lower than where it was shipped from, you only owe the lower state's tax. And if you're in Alaska, Oregon, Montana, New Hampshire or Delaware, the savings can be huge.

Sales Tax Guy
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