Sales Tax Considerations for Start-Ups

Posted on June 21, 2016 by Jeanne Goulet

After the excitement of launching a new start-up business and raising money, founders often focus on refining their product service offering, acquiring customers, making sales and moving the business to becoming cash positive. But founders should also be mindful and vigilant about meeting their tax liabilities, so they don’t face extremely unpleasant consequences, including stiff fines from federal, state and local tax authorities down the road.

Here’s an overview of the business owner’s role/responsibilities and helpful information about the tax-related issues that savvy founders should consider.

THE BUSINESS OWNER’S ROLE / RESPONSIBILITY FOR TAXES

Because the government entrusts the business owner with collecting its tax payments, there are strict compliance penalties that will be enforced against founder (and all other responsible persons) if the taxes are not fully and timely remitted.

In some egregious instances, these remittance failures can lead to criminal prosecution. These penalties are called “trust fund” penalties or “responsible person assessments.”

A “responsible person” is any person at the start-up company that has the responsibility or authority to ensure the collection and remittance of the applicable tax. Sales tax and employment tax are the two main types of taxes for which trust fund penalties exist.

Trust fund penalties are assessed against individuals rather than the business. Generally, the trust fund penalty amounts to 100 percent of the outstanding tax owed to the government at the time the assessment is made.

In other words, you are personally liable, in addition to your business being liable, for the full taxes owed. This means your personal holdings may be at risk regardless that the liability is attributable to your business.

COLLECTING SALES TAX

Collecting sales tax may seem uncomplicated, and sometimes it is – a company sells an item in a given location – and is therefore responsible for the state sales tax that applies. But sometimes matters are less clear.

The first step in establishing your sales tax exposure is to determine in which states your business is liable for collecting and remitting sales tax. A state cannot impose the duty to collect and remit sales tax unless your business has the requisite connection with that specific state. Technically, this connection is known as “nexus.”  http://wwwhttp:/www.salestaxinstitute.com/Sales_Tax_FAQs/What_is_nexus.salestaxinstitute.co m/Sales_Tax_FAQs/What_is_nexus

The question of what constitutes tax nexus is complex. That’s because a nexus is typically defined by constitutional laws and state statutes. To complicate it further, the definitions vary from one state to the next. The definitions are also affected by federal law, which grants exemptions for certain kinds of activity.

Broadly speaking, nexus exists if your business engages in sufficient amounts of pre-defined of activities within state borders. An analysis of these pre-defined activities will determine if you are “doing business” within a state.

For sales tax purposes, you can safely assume that sales tax nexus exists if your company has a physical connection with the state. This physical connection can be triggered merely by an employee entering a state in the course of your business.

If it is determined that your business has the requisite sales tax nexus, you then need to determine if that state imposes sales tax on your specific product.In the past, sales tax applied to tangible personal property. But what about the intangibles that are often produced by start-ups  – software and services, for example?

Computer software, e-commerce and computer services are areas of tax law that continue to evolve. As technology progresses, states continue to update their tax regimes to keep pace.

The explosive growth of e-commerce has also complicated the sales tax landscape if your start-up is in that business sector. The sudden evolution of software as a service (SaaS) and e-commerce has pushed many states to re-define what constitutes tangible personal property thereby expanding the state’s ability to impose sales tax. Some states, such as New York State, classify SaaS as tangible personal property and it is taxed like “canned” off-the-shelf software.

Bottom line: if your product is taxable in a state and you have sales tax nexus, you must collect and remit sales tax from your customers in that state.

This material has been prepared for general informational and educational purposes only and is not intended, and should not be relied upon, as accounting, tax or other professional advice. Please refer to your advisors for specific advice.

Reprinted and used with permission from Marks Paneth LLP