Sales and Use Taxes: Tax Law Changes and Audit Preparation

Posted 03/31/21 Team Vaco

The sales tax landscape can be described many ways, but “simple” isn’t usually one of them. After all, if you own a business in the United States, you’re dealing with a huge number of state and local tax obligations at any given time—and tax laws change pretty regularly.

Three years after the SCOTUS Wayfair ruling and turning the corner into the second year of the COVID-19 pandemic, state sales and use taxes are undergoing a lot of transformation, and businesses may face more tax obligations and stricter enforcement than before.

With that being said, there are ways to empower yourself and ease your sales tax struggles. One of those ways is by staying up-to-date on recent tax law changes. Another way—maybe the best way—is by making sure your business is compliant and fully prepared for an audit.

In our webinar “Sales and Use Tax: Audit Management and More,” our State and Local Tax (“SALT”) experts talk through the state sales tax picture for 2021, focusing on changes to tax laws and expanded obligations that will affect businesses going forward. They also explain how to prepare for and manage sales and use tax audits. We truly believe that business owners shouldn’t be weighed down by confusing sales tax webs, and we’re here to help you make sense of it, get prepared and get peace of mind.

In this article, we’ll give you a sneak peek into some of the vital information we cover in our sales tax webinar.

Three years later: The South Dakota v. Wayfair decision

As the three-year anniversary of South Dakota v. Wayfair Inc. approaches, 42 of the 45 states with sales taxes have passed economic nexus laws. These laws stipulate sales or transaction thresholds that, should remote sellers exceed, would require them to register with the state and collect and remit sales and use taxes to the state.

Only Missouri, Kansas, and Florida lack official economic nexus laws. However, as you’ll see later in the blog, each of these states has recently made moves to address this.

Before COVID-19, many states had begun to slowly enforce economic nexus. However, after lockdown and business closures stretched on for months, budgetary concerns and lost revenue have led states to increase enforcement with much more urgency.

Remember: economic nexus applies to more than just online sellers. It applies to any retailer, manufacturer, or wholesaler that sells in other states. It’s important for every remote seller to get on top of their compliance requirements and be prepared for increased enforcement.

How can you prepare for increased enforcement? Let’s take a look.

  • Know if your business meets a state’s economic nexus threshold. 2020 brought the biggest year-over-year increase in ecommerce sales in history. Businesses that saw spikes in ecommerce and out-of-state sales this year will need to evaluate whether or not they meet nexus standards in states where they had multiple transactions or sales nearing or exceeding $100,000. Economic nexus analysis with Vaco can help you determine the states in which you need to register and begin collecting and remitting sales tax.
  • Be aware of the statute of limitations. Typically, a sales tax audit has a statute of limitations of three years. Most states’ economic nexus laws are not retroactive, meaning the earliest date that a taxpayer could establish economic nexus is the effective date of the state’s economic nexus legislation.

Wayfair turns three in June of this year, so it’s important for businesses that are at risk of being audited (and that’s most businesses in 2021) to be prepared for that three-year anniversary, as most states like to wait until they have a full statute of limitations period before initiating an audit. If you’re audited and found to have economic nexus, all of your in-state activity is subject to the sales and use tax laws of the state.

Recent sales tax law updates: what’s changed?

Several states have introduced or made changes to their sales tax laws, in light of COVID-19’s impact on their coffers:

  • Florida, which was one of the states hit hardest by sales tax revenue declines last year, has an economic nexus bill working its way through the legislature. If it passes, it will go into effect July 1, 2021.
  • Missouri’s economic nexus law is working through the Missouri House and Senate and could go into effect later this year or in early 2022.
  • Maryland passed the nation’s first tax on digital advertising. The tax went into effect on March 14, 2021.
  • Illinois will require remote sellers and marketplaces to collect and remit both state and local sales taxes in 2021. Previously, remote sellers and marketplaces were only required to collect tax at the state rate.
  • Arizona dropped its economic nexus threshold from $150,000 in 2020 to $100,000 for 2021.
  • Wisconsin removed its transaction count threshold effective February 20, 2021. It now imposes only a sales threshold of $100,000.
  • Kansas has not yet enacted economic nexus legislation, although multiple bills have been introduced and either died in committee or were vetoed by the governor. Notably, however, the Department of Revenue has proceeded to impose a remote seller policy without specifying a sales or transactions threshold since mid-2019, something that the Kansas Attorney General has opposed. The House and Senate each introduced a new bill in early 2021 to formally enact an economic nexus threshold.
  • Tennessee lowered its economic nexus threshold from $500,000 to $100,000 effective October 1, 2020.
  • Louisiana’s economic nexus law went into effect on July 1, 2020.

States will likely increase sales tax bases and get more aggressive with enforcement in 2021

Now that some of the state-specific tax law changes have been explored, let’s examine the ways states may try to recover lost sales tax revenue this year.

First, states may expand their sales tax bases (redefine what is taxable and nontaxable) and place a sales tax on services. As most states either don’t tax services or are taxing only a few kinds of services, it’s a safe assumption that they will try to expand the tax in 2021 to bring in more revenue.

“Apart from legislative action, another way we’re seeing states expanding their tax bases more recently is through executive action – auditors changing their audit method to capture more taxes. We’ve seen auditors attempt (and succeed) at auditing a taxpayer’s activity using industry averages or another more subjective (and likely wider) measure than the taxpayer’s records themselves. This aggressive and creative non-legislative approach to expanding the tax base will require taxpayers to take even more strategic approaches to audit defense,” says Rudy Gonzalez, director of Vaco’s State and Local Tax practice.

Secondly—and almost certainly—states are expected to increase the number of businesses they audit.

Most states, especially those with higher GDPs, have auditors in multiple cities around the country. Additionally, states now use data analysis to drive quicker identification of businesses that are non-compliant, and may encourage citizens to become whistleblowers on companies that should be registered but aren’t. 

“It’s important to remember that even if your business does not make taxable sales, you can still make taxable purchases. Before the Wayfair ruling, it was easy to make purchases from out-of-state sellers who had no nexus and no obligation to collect sales tax.

“However, every state that imposes a sales tax also has a complementary use tax. If, for whatever reason, the seller did not charge tax on a taxable item, the state will hold the purchaser responsible. We’ve seen companies that are in atypical industries for audit and had never been audited (like dentists) start receiving audit notices and assessments for use tax on purchases made online. And in many states, we’re still within the statute of limitations for states to capture those purchases, before most large online sellers began collecting tax in 2018-2019. Businesses will not only need to have a firm grasp on the volume, sourcing, and taxability of their sales, they will need to fully understand each of those attributes for their purchases as well,” says Andrea Casso, manager of Vaco’s State and Local Tax practice.

Getting ready: preparing for and managing a sales tax audit

So what happens when you open your mailbox and get that dreaded letter from a state or local tax department saying your business is being audited for sales tax? The first step is not worrying—because there are ways to manage your audit effectively, with solid strategies and expert advice.

At Vaco, we understand how frustrating and scary a sales tax audit can be. But if you have a team of experts on your side, it can be much less stressful.  

Vaco’s state and local tax audit services provide support, assistance, and guidance for businesses at any stage of the audit process:

  • Before you’ve received a notice – Our state and local tax experts can help you determine your state tax footprint and get fully compliant before an audit notice has even been received.
  • After you’ve received a notice – If you’ve received a notice of audit but haven’t begun the process, our team can help guide you through every stage of your audit experience, from pre-audit planning to exit conference and everything in between.
  • After you’ve begun the audit process – If you’ve begun the audit process and need guidance, our team can step in at any point and provide tailored assistance and expert support. 
  • After your audit is closed – If your audit is complete, but you’re unhappy with the outcome, our team can provide expertise to help you pursue informal or formal protests, and support to help address and correct any issues uncovered in the audit.

Wherever you are in the audit process, and whatever your level of need is, our audit services can be customized to help you. 

Sales and use tax compliance shouldn’t be a headache—all you need are the right tools, information, and support, and we have the perfect course to help you get started.

Learn more about the current sales and use tax landscape and take a deep dive into audit management by watching our webinar, “Sales and Use Tax: Audit Management and More.”

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Authors: Rudy Gonzalez, Director, State & Local Tax, Vaco and Andrea Casso, Manager, State & Local Tax, Vaco

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