When it comes to tax compliance, states have increasingly gained in sophistication over the years. Information sharing has grown both within and among states.
When conducting an audit of a taxpayer, many states will request the completion of a nexus questionnaire that will be shared with the different states that have entered into a sharing agreement. For example, Ohio is a participant in the Great Lakes nexus questionnaire. This questionnaire asks a taxpayer about their operations in the participating states. Once the questionnaire is completed by a taxpayer under audit, the questionnaire is shared with the other states. Also, as a result of the economic downturn, states’ revenues have been dramatically impacted, which has caused them to become more aggressive in pulling taxpayers into their states.
State Income Tax
As discussed in in a previous chapter, the landscape is dramatically changing for state income tax. One of the changes for taxpayers is the change in the sales situs for revenue generated from providing a service. The change being enacted by the states is it using these sales based on the economic benefit, or where the customer is receiving the benefit of the service.
Work for a customer might all be performed in Ohio, although that customer is located in California, but since California determines sales based on the benefit received, the sale would be a California sale. If the work is performed in state A, a cost of performance state, the sale would also be sale for that state; thereby the sale would be double counted.
Another aspect of state income tax that has been changing over the last several years is the method for determining how much of a taxpayer’s income should be taxed in a particular state. As previously discussed, states are migrating toward a single sales factor to determine what amount of a taxpayer’s business should be taxed in the state.
The last significant change in the state income tax arena is the nexus standards imposed by different states. Many states are enacting an economic nexus standard. That means if a taxpayer has sufficient property, payroll and/or sales in a state, the taxpayer is required to comply with state law and file an income tax return.
The most common economic nexus standard is based on a certain amount of property, payroll and sales in a state—this often is at least $25,000 of property or payroll in a state or $250,000 of sales in a state. In those cases, the state will create nexus and require a taxpayer to file state income tax returns. Some states have also just enacted a standard that addresses sales in state; for instance, California economic nexus standard starts with $500,000 in sales, which is indexed each year based on inflation.
Sales tax compliance has also changed dramatically, with the majority of changes involving Internet activity. States will utilize the Internet to determine if businesses are operating within their state boundaries. States have also been very active in enacting legislation to tax sales over the Internet. There is still federal legislation (Marketplace Fairness Act) pending to tax Internet sales but until this legislation can be enacted, states are taking other steps to address this growing issue.
The legislation that states have enacted is generally known as click-through nexus. Simply put, this is the requirement by a state requiring an out-of-state vendor to collect sales tax if the taxpayer compensates residents of the state for sales made via links on their website. This type of operation is very common with the individuals utilizing the Internet for so many different activities. Often along with the “click through nexus” standard there is a certain dollar amount of sales that a taxpayer must have in state to impose “click through nexus.”
Another step states are taking to generate additional sales tax revenue is affiliate nexus standards. Similar to click-through nexus, affiliated nexus is designed to pull remote sellers into their state for sales tax compliance. If an entity has nexus with a state for sales tax purposes, all related entities will also be deemed to have sales tax nexus, and a requirement to collect that states sales tax.
What To Do
With states constantly changing their nexus standards, it is important for all multistate businesses to monitor their activities in different states to make sure they are in compliance with varying state tax laws. It is important for a business to know what states they are operating in and how they operate in those states. It is highly recommended that a business undergo some sort of nexus analysis each year to determine if additional filings need to be completed.
The Skoda Minotti SALT team works across state lines to provide clients with the tax guidance they need in areas including income and franchise tax, indirect tax, and credits and incentives. Email Mary Jo Dolson, CPA or call her at 888-201-4484 to learn more about how these taxes affect your business.
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