After being inundated with numerous economic nexus alerts, articles and state publications, many businesses are aware of the rules in 44 jurisdictions that require companies that exceed certain annual sales and transaction thresholds to collect and remit sales tax.1 All of this attention on the economic nexus collection and reporting requirements has prompted thousands of organizations to commence registering for sales tax accounts in multiple taxing jurisdictions and update their reporting processes to accommodate the additional filings. For many, establishing new processes and procedures to update the billing system, collect additional tax and commence monthly sales tax reporting to comply with the various state guidelines has been a major undertaking. However, there is an existing tax type, the consumer use tax, which often gets overlooked and is underreported due to various reasons such as limited knowledge and/or inadequate process controls.
Consumer use tax is defined as a tax the purchaser or the end consumer remits to its taxing jurisdiction when a seller/vendor does not collect sales tax on a taxable product. This also includes remitting any partial tax that was not fully collected by the seller due to an accounting error. Consumer use tax should not be confused with sellers use, vendor use or retailer use as these taxes are similar in nature to sales tax and are collected and remitted by the seller.
The lack of reporting consumer use tax is not isolated to specific companies of a certain size or industry; nearly all companies make operating purchases resulting in a potential tax exposure. For the companies lucky enough to avoid a tedious sales tax audit, one of the major areas of review are the taxes collected on company purchases. Auditors will typically pull a subset of vendor invoices and review the sales tax collected on taxable purchases. If sales tax was not collected, it is the company’s burden to prove that the correct use tax was assessed and paid to the taxing authority. It is important to remember that the end consumer has the ultimate responsibility for reporting the tax if the vendor does not collect it on taxable products.
There are a couple of common misconceptions that have been previously brought to our attention, and we thought by bringing clarity to these myths it could improve your understanding and help your organization.
If our vendor does not include sales tax on the invoice, then we are off the hook. The vendor would have charged sales tax if it was due.
There are many reasons why a vendor would not have applied sales tax to an invoice.
- The vendor may not be registered to collect and remit sales tax for the taxing jurisdiction. Therefore, they should not collect sales tax if they are not able to report it as it could lead to serious penalties and legal issues for the vendor.
- The vendor may be a foreign company with no physical U.S. nexus. According to the states’ economic nexus statutes, there typically are no exceptions for foreign corporations, meaning that if a foreign organization is remotely selling goods or services to U.S.-based customers, they could be subject to one or more of the 44 state economic nexus collection and reporting requirements. However, while subject to these new rules, few foreign organizations have commenced complying with the state economic nexus rules, and enforcement by a state jurisdiction over a foreign organization can prove difficult, if not impossible.
- The vendor may also not fully understand the taxability rules for its products/services in other taxing jurisdictions, further resulting in their invoicing system not being configured correctly to apply the correct sales tax.
So, regardless of the reason why a vendor is not collecting tax, under most state compensating use tax provisions, if the seller does not collect the tax, then the buyer is obligated to self-impose and report use tax on taxable goods/services.
We are a wholesaler/reseller and are exempt from collecting and reporting sales tax. Therefore, we do not have to pay consumer use tax either.
Do not be confused. Many organizations are familiar with the requirement that sales tax is imposed only upon the ultimate buyer of taxable goods and services. Accordingly, many manufacturers or distributors know that if their customers are not the ultimate buyers, no tax is required to be collected, provided a valid resale or exemption certificate is received in good faith from the reseller. However, receipt of a resale or exemption certificate from one’s customers does not exempt an organization to remit tax on taxable purchases that it may incur on its own behalf. In such cases, if a company makes taxable purchases for its business operation, the company is considered the end user and is responsible to remit use tax to the extent not charged by the seller for the taxes. So, companies should be mindful if a vendor does not collect the sales tax on taxable expenses. The company has an obligation to ascertain which of its purchases are taxable and remit use tax to the jurisdiction where the product or service is first used.
Small rabbit hole: There are specific situations that would exempt a company from paying sales tax to a vendor and/or self-assessing consumer use tax on its taxable purchases. These are typically granted to federal/state/local government agencies, educational organizations, non-profit charities, religious organizations, etc. You would need to contact your state’s sales tax division to see if your organization qualifies. These organizations must have a valid sales and use tax exemption permit by the taxing jurisdiction and should be readily available to present it to the vendors.
At the end of the day, your company should not overlook its consumer use tax obligation and should implement a process to find such potential tax exposure. A rule of thumb would be to review all vendor invoices to see if sales tax was applied and remember to double-check the tax rate for accuracy. It is also a good idea to review current vendor contracts regarding the responsibility of tax as the contract may specifically state that your company is responsible for assessing and reporting use tax. If sales tax is not assessed on the vendor invoice, do some research to see if the items purchased are indeed taxable, and do not assume they are non-taxable as this excuse will not save you from the tax liability, if audited.
If your company needs assistance setting up a review process or reviewing invoices for taxability/statutory exemptions, please contact Duff & Phelps, A Duff & Phelps Business.
Duff & Phelps is a firm that has no alliance to any third-party software or tax compliance management system and as such can provide an independent assessment of a company’s sales and use tax needs. Our professionals can assist your organization in all matters relating to sales tax, including assessing and mitigating past exposures, selecting and helping implement the correct software tools, configuring systems and managing all aspects of your company’s ongoing tax needs.
1. Five states do not impose state sales tax (North Dakota, Oregon, Montana, Alaska and Delaware), and of the remaining 45 states, only Missouri has not enacted the economic nexus requirements. See Duff & Phelps article, South Dakota v. Wayfair Sales Tax Services, for more information on the economic nexus requirements.