Do I have to get exemption certificates in states where I don't have nexus?

I get this question every once in a while - so hey, it's a blog entry!

The situation is that you're selling something taxable to a customer in state A.  You're in state H.  Do you have to get an exemption certificate from them when you don't have nexus? 

It depends.

1.  How sure are you that you don't have nexus?  Nexus situations can change.  You may have decided in 2010 that you don't have nexus in state A, but in the meantime, those jerks in sales have made a couple of big sales there, sent in a crew of installers, made arrangements with a repair firm to provide service, and the VP of sales has been visiting every couple of months.

If you haven't figured it out, you now have nexus in state A.  But if you're basing your assumption on the decision you made in 2010, you're gonna be in trouble.

It would sure be nice to have that exemption certificate.

2.  How much of a hassle is it to get the certificates?  If your customer in state A is practically begging you to take his certificate, then, oh, what the hell, take it.

On the other hand, if your customer is one of those pain-in-the-butt mega-retailers who refuse to cough up the resale certificate, then, maybe you want to take the chance.

So the two factors to consider are your confidence level in whether or not you have nexus balanced against the hassles of getting certificates. 

Another thing to consider is that Congress may eventually pass something that looks like the Marketplace Fairness Act.  That means that if you're a larger company*, you'll eventually be required to collect taxes in all states, regardless of whether or not you have nexus.  So you'll need to be getting certificates from all the states anyway.  But this is probably a couple of years off (I hope).

Frankly, putting on my strict, no-risk controller's hat, I'd establish a policy that we get exemption certificates from everyone.  That way if that dang sales guy goes behind my back to state M, I'm covered. 

*part of the argument is what "large" means

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The Sales Tax Guy
http://salestaxguy.blogspot.com

See the disclaimer on the right.

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Decision Tree for Exemption Certificates from Other States

 
This particular topic was covered four years ago.  But since I get questions related to number 3 so often, I thought it might be time to brush it off and add a few extra touches.

What are the seller's responsibilities are when they ship to another state?

Question 1: What state does the delivery occur?  This determines the state rules you follow.  If you ship from Alabama, but the buyer receives the goods in Rhode Island, then you need to check Rhode Island's rules.

Question 2: Is what you sell taxable in that particular state?  Now don't go making any assumptions based on what you're used to .  Remember, the rules can be completely different in the other state.  You need to make sure!  If you are certain that what you're selling isn't taxable there, then you can now stop, take a deep breathe, and relax. If, however, your sale is taxable there, then I'm afraid you'll have to proceed to question 3.

Question 3.  Do you have nexus in that state?  It's WAY more complicated than what you think.  It's not just a matter of having an office there.  There are some very surprising ways that you can have nexus in a state. If you have nexus, you need to get the exemption certificate.

 But if you're SURE you don't have nexus, you are finished.  You can stop.  Unless...

There are some folks that will get certificates anyway, even if they don't have nexus in the state.  They do this for three reasons:

a. It's easier to just establish a policy that the company will always get certificates if the sale is taxable.  Procedures often work better with less conditional statements.  This keeps it simple for the staff, although it's more work.

b. They may have made a mistake in determining their nexus in the state.  Or it could have been a judgement call.  It might be safer to get the certificates just in case the auditor decides against them.

c.  Things change.  The company might not have nexus today.  But all it takes is for marketing to assign a sales person to regularly visit the state and you suddenly have nexus.  So collecting the certificates now is a protection against any future whims by those people in the sales and marketing department.

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The Sales Tax Guy http://salestaxguy.blogspot.com

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Great Article: South Dakota Streamlined Sales Tax Certificate – NOT So Streamlined

from salestaxsupport and Silvia Aguirre

While the author beats up on South Dakota, to me this article reflects the general unwillingness of states, regulators and politicians to keep it simple.  Given just about any opportunity to complicate things, they will.  I love this quote from the article: "If two pages of instructions are needed, is this really a simplified form?"  Enjoy the article. 

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This link is part of a series called "Excellent articles that I wish I had written."  The short name is "Great Articles." 

The Sales Tax Guy
http://salestaxguy.blogspot.com

Don't forget our upcoming seminars and webinars.
http://www.salestax-usetax.com/
Picture note: the image above is hosted on Flickr. If you'd like to see more, click on the photo. 

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Great Articles: Exemption Certificate Management

from Avalara - two related articles.  The first is on whether or not you need exemption certificates in states where you don't have nexus. The second is a white paper on exemption certificate management processes, including a handy and comprehensive checklist, best practices and workflow.  And there's a bit about certificate management software too.  Hey, someone's gotta do it.  Enjoy the articles.

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This link is part of a series called "Excellent articles that I wish I had written."  The short name is "Great Articles." 

The Sales Tax Guy
http://salestaxguy.blogspot.com

Don't forget our upcoming seminars and webinars.
http://www.salestax-usetax.com/
Picture note: the image above is hosted on Flickr. If you'd like to see more, click on the photo. 

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FAQ: What are the Different Types of Exemption Certificates?

An exemption certificate is presented to the seller by the buyer.  Properly completed, it relieves the seller of the responsibility of collecting sales and use tax from the buyer.

Generally, certificates are needed for exemptions based on buyer's organization, or how the buyer will use the purchase. The forms required vary by state.  Sometimes there is one form that works for all exemptions, and sometimes there are specific certificates for certain sets of exemptions.

There are several types of exemption certificates:

Resale
The buyer is intending to resell the purchase or use it as an ingredient in something he will manufacture.


Agriculture
The buyer will be using the purchases for farming, cattle, or nursery-type activities.  This category also sometimes include forestry and aqua-culture.

Direct Payment 
The buyer has made a deal with the state to allow them to pay their use taxes directly.  Therefore, they do not have to pay sales and use taxes to the seller.

Most states have the above exemptions.  The following are exemptions that are used in most states, but are nowhere near universal.

Non-profit organizations
Charitable organizations usually have to be registered with the state and provide a certificate to the seller if the purchase will be tax free.

Government agencies
Often these exemptions are documented by other paperwork, such as contracts or purchase orders.  However some states do use certificates for this exemption. 

Manufacturers
If they're going to use equipment and supplies in manufacturing, many states give an exemption which the buyer must document with a certificate.

You'll also see exemption certificates used for other exemptions including mining, commercial fishing, out of state custom printing, enterprise zones, research and development, etc.

Note, despite the disclaimers plastered all over, some people still bust my chops about a particular rule not being the case in their state.  Remember, the rules are different where you are!  Sheesh.

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The Sales Tax Guy
http://salestaxguy.blogspot.com

See the disclaimer - this is for education only.  Research these issues thoroughly before making decisions.  Remember: there are details that haven't been discussed, and every state is different.  Here's more information

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Great Articles: THE List of Sales Tax Exemption Certificate Expiration Periods?

 by Silvia Aguirre at salestaxsupport.com

There are all kinds of expiration dates for exemption certificates. And there is no one source to find them. There are, as I like to say, nooks and crannies that need to be explored. And you should never trust tables of information. Sylvia gives even more examples. Enjoy.

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This link is part of a series called "Excellent articles that I wish I had written."  The short name is "Great Articles." 

The Sales Tax Guy
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Don't forget our upcoming seminars and webinars.
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Be Careful with your Assumptions

I was talking with a friend the other day. As I like to do, I figured out a way to introduce sales tax into the conversation. I knew that his customers were usually wholesalers and dealers. Here's the way the conversation went:

Me: So, Bob, do you guys charge sales tax?

Bob: Nah. Everyone who buys our stuff is buying for resale. We never sell to the end user.

Me: Not even off your website?

Bob: Nope. The quantities are just too small. We're set up to ship skid-loads of material. We just refer consumers to a list of dealers on the website

Me: What about contractors. You do sell directly to big contractors, don't you?

Bob: Yeah. But they're buying for resale too.

Me: Bob, I'll bet you didn't know this, but contractors are, in most states including the one we're in, considered the end users of the building materials they buy. Therefore you should be charging them tax. As far as the law is concerned, they are NOT wholesalers or retailers. They're the consumers.

Bob: [long pause]

Me: And I bet you're not getting resale certificates from your wholesale customers either. When you get audited, you'll need those certificates, even if it's your business model to only sell wholesale.

Bob: Can I use your phone. I left mine in the car.

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Folks, you must be careful with your assumptions. Make absolutely sure of the taxability of every sale you make. The safest way is to assume everything is taxable until you can confirm that it isn't.

Here is the golden rule of taxability, which states the defaults for sales of services and sales of TPP. And here are the exceptions. And here are the situations where you'll need certificates.

Note that, if Bob had asked his contractors for resale certificates like he did for the rest of his customers (ahem), he would have discovered his mistake. Most contractors would be nervous about providing a resale certificate. Bob would then have presumably realized he should be charging them tax.

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The Sales Tax Guy
http://salestaxguy.blogspot.com

See the disclaimer - this is for education only. Research these issues thoroughly before making decisions. Remember: there are details we haven't discussed, and every state is different.

Here's information on our upcoming seminars and webinars.
http://www.salestax-usetax.com/

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Agricultural Exemptions

It shouldn't come as any surprise that, given the role politics plays in this, farmers get a lot of sales tax exemptions. In fact, aside from the District of Columbia, I know of no state that doesn't have pretty substantial exemptions for agriculture. DC doesn't have any of these exemptions for one simple reason...there are no farms in our nation's capital.

Here are the typical agricultural exemptions:

Harvesters, tractors, balers, cultivators, etc. are all usually exempt from sales and use tax, or they're taxed at a lower rate.

Other equipment is often exempt, such as machinery affixed to real property (eg. irrigation or milking equipment).

And generally, additions to buildings and land, like fencing, are not exempt.

Usually no exemptions exist for cars and trucks. Generally, the rule is that if it's required to be registered and plated, then there's no agricultural exemption.

Consumables such as seed, feed, fertilizers, pesticides and chemicals are usually exempt.

Now the problem begins for the people who sell to agriculture. I've known a few farmers in my citified life, and they're just like on TV. They're good, hardened, weather-beaten, independent folks. They won't take any guff from the guvmint and have no use for any paperwork. They usually are the hardest customers to get exemption certificates from. The farmer will insist that just being a farmer should be enough. It's not. Almost every state requires the seller to obtain those exemption certificates.

And they often are under the impression that everything they buy, even a mower for their front lawn is exempt. But most states have rules like this: the purchased goods must be used directly and predominantly in agriculture. That lawn mower ain't gonna do it.

Then there's the definition of agriculture. Generally, if a farmer raises produce that eventually will be eaten by humans, they're OK. Much more variable is the states' treatment of folks who raise livestock that won't be eaten (horses - I hope) and ornamental plants (nurseries and greenhouses).

There are often exemptions for horses raised for racing, and work animals.

Sales of their produce by farmers are often exempt. Even in states that have a sales tax on food, you probably won't have to pay tax at a farm stand if the farmer is selling his own produce.

Well, it's gettin' to be spring (wiping my brow with my bandanna). Time fer plantin'.

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The Sales Tax Guy
http://salestaxguy.blogspot.com

See the disclaimer - this is for education only. Research these issues thoroughly before making decisions.

Here's information on our upcoming seminars and webinars.
http://www.salestax-usetax.com/

Picture note: the image above is hosted on Flickr. If you'd like to see more, click on the photo.

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Make your vendors prove they're registered

It's generally required that sellers get certificates from their customers to make sure they really are buying something for resale, or there's some other reason that they don't have to pay sales tax.

But I want you to think about reversing the situation. I want you to start asking your vendors, who are charging you sales or use tax, for proof that they are registered in your state. Huh?

Whether this is a problem in your state is a function of how the laws are written, where the responsibilities lie, and how sharp the auditors are. So if you don't want to take my advice, that's fine. Just make sure that you know you're off the hook.

Let's say that Mary has just shipped you some new ladders from the "land of ladders," Wyoming.

Mary has charged you 6% tax, which is also the rate in your state, oh, Maine. [I'm just making the states up as I go along, folks.]

Any reason not to pay this?

The answer is yes! If you received the goods in Maine, then Maine tax applies. How do you know that Mary is collecting Maine tax? After all, she's far away in Wyoming.

"Well, they're charging me the Maine rate. I've got a calculator right here."

The average rates in the US range from about 5 to 9%. This means there's a chance that someone shipping from out of state is going to be charging your tax rate, without any assurance that your state is getting the money.

There's an easy solution. Call the vendor (Mary) and ask her a two part question. First, what state's tax is she charging? You may be amazed at how often her response is, "We're charging Wyoming's tax. What tax did you think we were charging?" If that's her response, then please refer Mary to this blog. And don't pay her the tax. Pay it directly to Maine as use tax.

Alternatively, Mary may respond, "Let's see. You're in Maine. Yep, we're charging you Maine tax." You may think that solves the problem. But you should ask the second question.

"Can you send me a copy of your Maine reseller permit please?"

"What do you mean?"

"Well, if you're charging Maine tax, then you must be registered in Maine to remit that tax properly. We like to make sure of that, so please send me a copy of your permit. You can fax it if you'd like."

"Uh, we're not registered in Maine."

"Then what did you mean when you said you were collecting Maine tax?"

"Oh, we just look up the rate on the web and charge you that. But we send the money to Wyoming."

Hand on my heart, I've heard a variation on that story quite a few times. I couldn't make it up.

Again, tell Mary about this blog. Please. And don't pay her the tax. Pay it directly to Maine as use tax.

Why do you care what tax is charged?

The first answer is universal. Does your state have budget problems? Wouldn't you prefer that any taxes you pay go to the appropriate state, like yours? Asking those questions makes sure Maine gets the money instead of those guys in Wyoming.

The second answer brings up a nastier and more painful possibility. If you get audited, and the auditor comes across the invoice from Mary in Wyoming, and he does a particular test, he'll discover that Mary isn't registered in Maine. That means Maine never got any tax revenue. Which means that Maine will make you pay that money again - to Maine. And good luck getting that money back from Mary in Wyoming.

The test that the auditor runs is to take some of your out of state vendors who have charged tax, and simply check to see if they're in the state's registered vendor database. If they're not in the database, there's gonna be trouble.

But you can do essentially the same test by simply getting the permit from any of these types of vendors. And if you can show the auditor that you're doing that check, they will probably be seriously impressed. Which is nice.

Here's the action item: Whenever you are charged tax in a significant amount by a vendor shipping from out of state, get a copy of their registration permit for the delivery state.

I don't normally recommend you do this for vendors that are in your state. Your risk is pretty small. But tomorrow I'll tell you about one case where it made sense to check.

Finally, a question that comes up is "What if they put the state on the invoice next to the tax? Doesn't that show they're really charging Maine tax properly?" Nope. You want to see the permit. That's another story!

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The Sales Tax Guy
http://salestaxguy.blogspot.com

See the disclaimer - this is for education only. Research these issues thoroughly before making decisions.

Here's information on our upcoming seminars and webinars. Don't forget, we just announced our February to April schedule!
http://www.salestax-usetax.com/

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Some Recordkeeping Tips

1. Determine the state that has jurisdiction over the transaction. This will control the statute of limitations, which controls how long you should keep records. For most states, it's three or four years. You'll need to prove where control was transferred, so you're going to want to hang on to sales paperwork, purchase orders, shipping records, bills of lading, etc.

Remember, there is NO statute of limitations protection if you've never filed a return in a given state.

2. If you didn't charge tax on a sale, you need to substantiate the reason.

• Make sure you have a well organized and complete file of exemption certificates. And have a procedure to demonstrate how you get them.
  
• If you didn't charge tax because the sale was shipped out of the state, do you have the necessary paperwork (see above)?
  
• If the sale wasn't taxable, do you have sufficient backup if you are questioned. Keep a file of your research so that, when the auditor challenges you, you can whup it out. We used to call this a CYA file. If you don't know what that acronym means, email me.

3. If you didn't pay tax on a purchase, you need to substantiate the reason.

• If you've determined that the purchase wasn't taxable, show the reason on the invoice. This is likely to be because of how you will use the purchase (resale, manufacturing, agriculture, research, etc.) You're going to have to prove that exemption. Can you?
• Do you have sufficient documentation for your decision about taxability. You know, the CYA file?
• And if you've paid the use tax, you need to document this as well. Hopefully, you've coded the invoice so that the fact that you've accrued the tax is obvious to the auditor, and all they have to do is trace the invoice back through your system to the return.
  
• See this article for an idea to help with the above bullet points.
• On a practical side, remember that, if you're stapling paperwork to an invoice, this stuff tends to fall off - particularly the bottom items. The invoice is a good place for transaction specific backup, but be careful.
  

A couple of more general items...

4. If you've gone through a system conversion, keep your old software and data if the newer system doesn't support the old one. You need to be able to provide the auditor with the information, even it presents a technical challenge. And make sure you keep sufficient hardware and documentation to be able to get at the data when you need it (this is a very common mistake).

5. If you acquire a company, make sure that the technology and skills remain intact to get at the records that come with the acquired company. People leave and their knowledge departs with them.

6. Finally, remember the fundamental concept. The audit won't be tomorrow. It'll be two or three years from now. You're never going to remember.

Nutty Drop Ship States

Part of a continuing series on drop ships

[listed revised on 5/26 - not completely overhauled]

This is one of those things that has been rattling around on my articles-to-write list for a while. And I needed to update the list I use in my seminars and webinars

Herewith is, as of today, a listing of the "nutty drop ship" states. These are states that are either explicitly "nutty" or I failed to have the necessary language (in RIA's sales tax database) that makes them "not nutty." In other words, my default is that a state is "nutty" unless I can find enough information to make them "not nutty." This article explains "nutty."

Note that some of the states listed offer wiggle-room. Some will accept special paperwork or certificates. Several differentiate between interstate and intrastate shipments. FOB points may come into play. However, the states marked with an asterisk* appear to offer very little wiggle-room, if any.

You always need to do some research to determine the drop ship rules in the delivery state.  Also, remember what I've said about information in tabular format. Check everything out yourself before making any serious decisions. See the disclaimer.

NOTE: This list is for illustrative purposes.  It's out of date.  Do your own research.

Alabama
California*
Connecticut
DC
Florida*
Hawaii
Illinois
Louisiana
Maine
Maryland*
Massachusetts*
Mississippi*
Nebraska
Nevada*
North Dakota
Oklahoma
Pennsylvania (new rule in Feb 2010)
South Dakota
Tennessee
Virginia

Sales Tax Guy

See disclaimer and research the issues thoroughly before making decisions

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Refresh Your Exemption Certificates

I'm assuming you have all the necessary exemption certificates from your customers. That's a big assumption, of course. Most of you don't. But if you do, then the next problem is making sure that the certificates you have are still valid.

Depending on the state, certificates may expire. So you need to make sure you refresh them. There are four options:

1. Carefully pay attention to the expiration rules for each state where you need certificates and then do the necessary requests, and follow-ups to keep your files up-to-date. This is lots of work and requires regular research.

2. Refresh one third of all your certificates every year. That way, you get a completely new set of certificates every three years which meets the requirements of just about all of the states.

3. Refresh all of your certificates every year. This is overkill, but it certainly is safe and will meet the requirements of every state. In both items 2 and 3, we're basically talking about sending out a form letter to your customers. It means a couple of spreadsheets, some mail-merges, a little annoyance for your vendors, and the time of a summer intern. We're not talking about a major investment.

4. Invest in some software. There is software out there that will manage your certificate process for you. The software will determine what forms you need, store the imaged documents, and tell you when you need to refresh. It's item 1, but automated. I've met folks from these companies and they even appear as advertising on this blog - in fact I saw one this morning when I posted this. So they're out there. In fact, I just did a quick Google search for you. You may want to check them out. This method is expensive, but safe.

Regardless of the method you use, get your exemptions certificates and keep them up to date.

Aside from being safe, if you've got this under control, the auditor will be impressed. So you've got that going for you. Which is nice.

Sales Tax Guy

See disclaimer

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Picture note: Yes, it's the Frazier family milk jug. Had to. Sorry. ;-)

Two situations where you'll need an exemption certificate - and why!

Exceptions from the default sales tax rules can usually be broken down into four broad categories:

1 Services that are taxed

Exemptions from the tax based on:
2 Organization of the buyer
3 Expected use by the buyer
4 What is being sold

Generally, if something is exempt, because of what it is (item 4) - like food or drugs, then no certificate is necessary. But if it's exempt because of who the buyer is (item 2), or what the buyer's intended use is (item 3), then you'll probably need a certificate from the customer.

In both of these cases (2 and 3), the reason for the exemption is buyer-centric. The buyer is a particular type of organization (eg. government or non-profit). Or the buyer is going to use the purchase in a certain way. Therefore, you will need something from the buyer giving you assurance of their type of organization or their planned use. Because they know, and you don't. But with exemptions that are based on what is being sold (item 4), the exemption is self-evident and usually has nothing to do with the buyer.

The buyer knows who they are and they know what they're going to use the purchase for. So they need to inform you in a way that puts them on "the hook" and gets you "off the hook." That is the purpose of an exemption certificate.

By the way, a short plug: the Four Exceptions are essentially the basis for our Taxing Policies by State webinar. Please join us for states you're interested in.

Sales Tax Guy

See disclaimer

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Direct Pay Permits

This is a compilation and enhancement of several previous articles on direct pay permits.

First of all, what is a "Direct Pay Certificate?"

It's an exemption certificate that the buyer hands to the seller. It relieves the seller of the responsibility of collecting the sales and use tax from that particular customer. This is because the buyer has made a deal to pay the use tax directly to the state. They have gotten a direct pay permit from the state.

Why would these certificates exist? Larger organizations (eg. manufacturers, contractors and utilities) find them helpful because they buy lots of different things, some exempt and some taxable. They have very complex operations, and it may be impractical to have the seller collect the tax. In some cases, the buyer may not even know if a purchase is taxable at the time of the billing. So this makes it easier for both parties.

The customer buys pretty much everything without the vendors having to charge sales tax. The direct pay permit holder then self-assesses the use tax. And the vendors have one less customer to worry about.

Sometimes the purchasing and operational issues are so difficult that the user may even come up with a calculation. A manufacturer might say, "We bought $400,000 worth of shop supplies last month. Our studies indicate that 40% of those supplies become ingredients in the product and the rest are used in our operations. So 60% of the $400,000 is taxable, and that's what we accrue and pay use taxes on."

It's not easy to arrange that kind of allocation if the tax is being collected by the seller. How are they only going to bill for 60% of the tax? On the other hand, all the buyer has to do is make a journal entry, and the problem is solved.

What's in it for the state? First of all, not all states grant direct pay permits, so don't assume you can just apply for one. But the benefit for the state is that the audits are less detailed. Since the user comes up with calculations and ratios as described above, the auditor theoretically has to grind through fewer transactions. And I think another reason is that the state may actually get overpaid! See the discussion below.

Now you may think this is a pretty good idea. But there are catches:

1. States don't like to hand direct pay permits out like Skittles. They often have volume requirements and expect to see adequate accounting systems in place. If you don't have professional accounting management, and you use QuickBooks, you're not going to be able to get a permit.

2. Don't think of this as a way of avoiding/evading tax or getting to hold onto the tax money a little longer. You're going to probably have to pay your use taxes monthly, and you can pretty much count on getting audited every few years. Because the state is now relying solely on your company to self-assess (and we know how reliable most of us are at that), the state is going to be much more likely to audit you. Regularly. Frequently. Set up an office just for the auditors, if you know what I mean.

3. Tied in with number 2, you're likely to get audited before they even give you the permit, just to see if you have those systems in place to self-assess properly. And they're going to want to look at those studies you're using for your calculations to make sure you're doing it right.

4. Beware of mixing up which vendors you pay sales tax and which ones you don't (by giving them the direct pay certificate). I've talked with taxpayers who were not consistent in using their certificate. This resulted in paying sales tax on purchases and then turning around and self-assessing tax on the same purchase. Keep very close track of who you give a direct pay certificate to and who you don't.

5. One of the things I've talked about is that you should be careful about overpaying your taxes because you mistakenly believe something is taxable. A clue to this is when you think something is taxable, and the vendor hasn't charged you tax. A phone call is in order. But if you have a direct pay permit, your vendors aren't going to tax you at all. You'll now be relying solely on your own understanding of the tax laws, and you won't be getting the reality check from your vendors. You may not realize it, but there is some education that is happening because of the give and take with your vendors. Get a direct pay permit and you're on your own.

Whether or not you get a direct pay permit is simply a question of how much easier it would be to self-assess versus the risks of overpayment and audits. I'd strongly recommend you sit down with a local expert to see what they're recommendations are based on your specific situation. And if that alternative seems too costly, then you probably shouldn't get a direct pay permit.

Sales Tax Guy

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You can't just charge tax

I had an email from a reader the other day asking a follow-up question to the nutty drop ship rule article. [I just reread it and, other than the addition of a chart, it still works...dang I'm good. But I digress.]

Now you're going to have to go back and get the cast of characters straight in that article. The reader is Curly. She goes ahead and pays tax to the vendor (Larry). But she doesn't want her customer (Moe) to have to pay the tax later. So she asked if she can just show the tax on her invoice to Moe so he (and the auditor) can see that it has been paid.

Every state is different in this, so you must research this on your own. But here's the thing. You can't charge your customer sales or use tax unless you actually are registered in the state. This is the law in most states. There are a couple where this isn't the case, and many states have some sort of temporary permitting capability. But the point of this article, even though I'm roping in the drop ship issue, is unless you are registered in the state, in some way, for sales and use taxes, you cannot legally collect that state's tax.

So generally, Curly can't charge his customer tax. I would say that you have to be very careful about this. If you want to simply show the tax as a separate cost, built into the price of the goods, along with inbound freight, labor, expenses, materials costs, etc., that might be OK. The taxes you pay are a cost of doing business.

But if you have a "merchandise total" and then another number for tax, that's going to look fishy and might get you into trouble. It sure looks like you're charging them tax.

The other thing to remember is that the customer might question the charge. He'll be wondering why he has to pay tax. He thought, by buying from you, that he wouldn't have to worry about paying tax. Now you're charging him tax? The fact that the total at the bottom of the invoice is what you quoted probably isn't going to help. And it'll just confuse him more. Can your customer service people field these kinds of questions?

And if that weren't enough, the auditor probably isn't going to care about any "taxes" on the invoice unless you're registered to collect the tax in her state. So putting something called "tax" on the invoice isn't likely to help anyway.

Another option is to do what destination state (where Moe is) wants you to do - register. Then you'll be able to buy tax free because you'll have the proper resale certificate, and you'll be able to legitimately charge your customer tax giving him a proper receipt for taxes paid. But that opens up another can of worms.

I've given you a lot of generalities in this article. You must check to see what the rules are in the destination state.

Sales Tax Guy

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Get those certificates

I had a woman in my class once who told me about her experiences in getting resale certificates. She didn't bother.

She worked for a toy manufacturer. And she worked for the distribution division. She sold only to resellers and distributors. There was a sister company who did sell to the end user through their web page and catalogs. But it was a separate company, separate corporation, separate facility, separate everything except products sold and the parent company.

Her company got audited by, we'll say*, Illinois. During the audit, the auditor asked about resale certificates for all of her sales into Illinois. She said, "We don't get them. Our business model is only to sell to retail stores and distributors. None of our customers buy for end use. Talk to our sister company about that. We don't need resale certificates." The auditor said that she did and pointed out the law. But he was nice enough to give her 60 days to get them (not all states are required to provide this grace period).

So she began to work on getting those certificates. And 60 days later, she still owed Illinois $50,000 for the sellers' use taxes she had failed to charge her Illinois customers. Not because her customers refused to provide the certificates. Her company was big enough to demand and get those certificates. She owed money because some of those customers had evaporated. You see, the retail toy business is pretty volatile. Retailers come and go. She owed taxes on the ones that had "gone." If they're gone, she's not going to be able to get a resale certificate.

But if she had simply done what she was supposed to do, she would have owed nothing.

The moral of the story is very simple: get the resale certificate. Get it before you even ship the goods, because that is when you've got leverage over the customer. Don't wait until later or assume the sales rep will get it. You get it now. Here's a procedure you may want to use.

Then you won't have to argue with your customers or run the risk of them going out of business on you.

PS...before you go all notes on some of your customers, you should read these articles about drop ships. And here is much more information on all forms of exemption certificates.

Sales Tax Guy

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*When I use "we'll say", that means I making it up.

Picture note: The toys shown don't represent the company I'm talking about. It's just a picture of toys. You can see it bigger here.

Question about Certificates

I just got this one emailed to me from a seminar last week in Pennsylvania. I've edited and sanitized it for you to enjoy.

My company has requested exemption certificates from all of our customers. However, it's been a while, and they have not all been returned. If we do not charge tax when we don't have a certificate, and we get audited, are we responsible for the tax to the state?

If you don't have the exemption certificates when you get audited, you will probably be held responsible for the taxes. That's why you get them - to prove why you didn't charge tax like you should have. Depending on the state and the auditor, you may be given some time (usually a couple of months) to scrounge them up. But you will lose money because you won't be able to get the certificates from everyone. Some sales were probably taxable, some customers will be uncooperative, and some will have gone out of business.

On the flip side, as a customer, we supply our exemption certificates when requested, however we have not been required to do so by all of our vendors. What happens when we get audited?

As a customer, if the vendor screws up and doesn't get the certificate from you, it isn't your problem (assuming you've paid any appropriate use taxes on your own). But be prepared for a phone call or letter in a couple of years when they get audited.

Sales Tax Guy
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Watch those numbers

Beware of the numbers you receive from your customers on those exemption certificates. The most common mistake they make is to put their Federal Employer Identification Number (FEIN) on the forms. That is usually NOT the number. But it's the number they give because most accounting folks know their FEIN by heart. It's the first thing that comes to mind when anyone seems to need a longish ID number.

Most states assign their own numbering sequence and don't use the FEIN (which is assigned by the IRS*). The number on the resale certificate provided by your customer should usually be the number they received from the state when they registered as a retailer/dealer/reseller. And, except for a couple of states (MI and NY for example), it ISN'T the FEIN.

And if the state assigns other numbers, such as for non-profit organizations, again they are rarely use the FEIN.

If you're not familiar with the numbers used by the state you're getting the certificate for, then ask your customer to give you the number off of their license or permit, off of the sales tax return, or off the document they received from the state.

Picture note - I found a random number generator on Google and pasted it into an old picture I had. Cool, huh?

Sales Tax Guy

*I like to think of the FEIN as a company's "social security number". It's used in the same way for tax filing purposes and to identify the company, and has the same number of digits. And just like the SS number, it's become a more universal ID number for other purposes besides those of the IRS.

The Decision Tree

This blog post has been replaced

My customer says they'll pay the tax on their own

Just because the customer assures the seller that they'll pay the tax doesn't relieve the seller of any burden to collect the tax. But, if the buyer provides the vendor with a direct pay certificate, that'll work.

In most states, there is a recognition that some buyers have such complex purchasing situations that it would be easier to simply let them self-assess the use taxes. However, most states are also strict about who they hand direct pay permits to. Here are the usual criteria:

1. Have good policies and procedures in place to make sure the taxes are properly self-assessed
2. Meet certain volume requirements
3. Go through an initial, detailed audit
4. Go through future audits almost every year.

Once the customer is authorized, they send their vendors direct pay certificates which the seller can then treat just like a resale or other exemption certificate (there are some restrictions). But without that specific piece of paper, do not accept the customers assurances that they'll pay their own taxes, even if it comes in a letter, contract, sales agreement, or PO.

In order to be relieved of your responsibility for collecting the tax, you need a direct pay certificate.

If someone said they're buying for retail, you wouldn't take their word for it. You'd want the resale certificate. Right? Right?

Sigh.

Sales Tax Guy