Practice Development: Sales Tax Economic Nexus Under Wayfair

In short: To advise clients under Wayfair, first work out where each one has economic nexus. Check each state's effective date, lookback period, threshold rules, and registration timelines. Then choose between standard registration, a voluntary disclosure agreement (VDA), or an amnesty program.

Any good advice on Wayfair must be both sensible and thorough. As the trusted advisor, you need a method to stay up to date with the key factors and law changes that affect your clients. You should also have a plan to review your client's transactions on a monthly, or quarterly basis.

The first step in advising your clients under the Wayfair ruling is to build a plan. This plan should work out where each client has economic nexus. Consider these factors when you build it:

1) the effective date of the Wayfair legislation in each jurisdiction;

2) the lookback period each jurisdiction uses for its economic nexus threshold test;

3) the type of sales used to set the threshold (gross sales or taxable sales);

4) registration requirements after reaching the threshold;

5) if applicable, the state marketplace facilitator law (map); and,

6) any open amnesty programs.

Where Should You Start?

First, decide how far back you need to look for a thorough and accurate analysis. If this is your first economic nexus analysis for a client, we recommend going back to 1/1/2017. This sounds like a lot of transaction data. But it makes sense when you consider that it’s been nearly two years since the Wayfair decision was handed down on June 21, 2018.

At that time, some states had already passed laws and put enforcement on hold until the decision. Other states passed laws fairly quickly after the decision and set a prior calendar year lookback period. In effect, any state that passed a law in 2018 with a prior calendar year lookback period required threshold tests to include transactions back to January 1, 2017. And remember, the goal is to make sure the client taxpayer is not exposed to prior period liabilities

If we go back to January of 2017, you’ll need to gather several details from your client:

1) Channels: Which platform(s) does your client sell on? (e.g. Amazon, Walmart, Shopify, Big-Commerce, eBay, etc).

2) How long has your client been using each channel for its sales and distribution?

3) Source systems: What is the general ledger system of record during this time frame?

4) Which source systems have the transaction data needed to do the analysis?

To advise your clients well, you need to pull this data together. Then you need to work out who is responsible for the tax liability. In some cases, transaction data may fall under marketplace facilitator laws. This shifts the burden of collecting and remitting tax from your client to the marketplace facilitator. But the same data may count as part of gross sales. So for omnichannel retailers, it may count towards the economic nexus threshold.

It’s important to separate the transactions made through a marketplace facilitator from your client's other channels. In many states, the facilitator will have collected and remitted tax on sales made through its channels. This lowers the overall tax liability linked to the gross sales threshold test.

How Does Economic Nexus Work in Practice?

As the scenario below shows, analyzing the transaction data can lead to several outcomes. Here, we analyzed transaction data starting on 1/1/2017, as we recommended.

(In this scenario, if we had only looked at 2019 transaction data, we would have missed something. The threshold limits were reached before the law took effect, but within the law’s defined lookback period. This could lead to conflict with the state. Or it could lead to a false registration statement based on a wrong “date of first transaction” in that jurisdiction.)

Kentucky

Kentucky (KRS 139.010) defines remote retailers as those with no physical presence in Kentucky. HB 487 sets the rules for remote retailers. Those with 200 or more sales (unique invoices) into the state must register and collect Kentucky sales and use tax. So must those with $100,000 or more in gross receipts from sales into the state.

The transaction and gross receipts thresholds are based on the previous or current calendar year sales. The law took effect on July 1, 2018. Kentucky also noted that registrations should be done with sales and use tax collections starting by 10/1/2018. Related reading: Alaska Removes Sales Tax Transaction Threshold.

Under this rule, a taxpayer would need to apply the threshold tests to transactions from January 1, 2017. This meets the “previous or current calendar year sales” lookback period, based on a 2018 effective date.

Let’s take this a step further. Say the transaction data shows that your client went over the $100K gross receipts threshold during the 2017 calendar year. In this case, your client should register and start collecting tax no later than 10/1/2018 to comply. In other words, your client passed a threshold before the law took effect. So they must start collecting on the effective date.

Now let’s say your client didn’t go over the $100K gross receipts threshold until February 28, 2019. In this case, your client would need to register by the first day of the next month, or March 1, 2019.

Mississippi

Mississippi’s law (Miss. Code Ann. Section 27-67-4(2)(e)) was technically effective on 12/1/2017, before the Wayfair ruling. The state put enforcement on hold until the outcome of Wayfair. After the decision, the Department of Revenue decided to let online sellers start collecting Mississippi use tax for sales made on or after September 1, 2018. This applied as long as they registered by August 31, 2018.

Mississippi also gave guidance on its $250,000 small seller exception. Online sellers should check whether they meet or exceed it based on their total sales into the state in the prior twelve-month period. Total sales means all sales into the state. This includes both wholesale sales and sales taxable under the Mississippi sales and use tax statutes. Total sales also include any sales that are subject to any exemption in the Mississippi sales tax statutes.

Here, looking back at the prior twelve-month period means you’d look at your client’s transaction data from 9/1/2017. In this scenario, let’s say your client didn’t hit the gross sales threshold of $250K until 4/1/2018. Under the Mississippi guidance, your client should have registered by 8/31/2018 to remove the burden of the prior exposure.

What if your client did not register by that date? Then the lookback period would in effect start with transactions back to the original effective date, which is 12/1/2017.

Washington

Washington is another interesting case, because it has changed its laws many times since Wayfair. From January 1, 2020, remote sellers must register if they exceed $100K in combined gross receipts in the current or prior year. They must register to report B&O tax and to collect and remit sales tax.

Washington defines a remote seller as a business with no physical presence in Washington that makes retail sales to Washington buyers. It must also not meet the definition of a marketplace facilitator. But you must also consider laws in place back to July 1, 2017, that could affect your client (i.e. Marketplace Fairness Act)

Looking back to 2017, let’s say your client passed the $100K threshold on February 1, 2017. This means they went over the threshold before the law took effect. In this case, your client would be subject to the Wayfair effective date of 10/1/2018. The registration requirement would have been 11/1/2018.

What Does This Analysis Show?

The examples above show how hard it would be for businesses to track economic nexus laws as part of their daily work. They would also need to track how close they are to each state's threshold test(s). This is even harder when you consider that many states require businesses to start collecting sales tax on the very next transaction after they meet the threshold.

Enforcing Wayfair requires the CPA community as a whole to build and offer skills in multi-state sales and use tax. And as the trusted advisor, you have a chance to reduce compliance risk, exposure, and stress for your clients. We cover this in more detail in 8 Common Multi-State SUT Registration Issues (& How to Avoid Them).

What About Physical Presence?

So far, we have focused on the economic nexus factors set out in the Wayfair decision. But you should still consider physical presence factors before you decide the best course of action for your client. Many companies won’t have physical presence factors to consider.

But your client may sell via Amazon FBA or third-party logistics (3PL), or store inventory in third-party locations. If so, there may be added compliance risks. Other common physical presence factors include employee locations, office locations, etc.

What Are the Next Steps?

Once the economic nexus analysis is done, you must decide whether to register or prepare VDA’s for your client. Each of the example scenarios above needs careful thought about the right way forward. Your client taxpayer has several choices to consider: 1) standard registration; 2) voluntary disclosure agreement; or 3) amnesty programs.

You might be asking yourself: Wouldn’t it make sense to just go ahead with registration? Not always. It may seem obvious, and most businesses will want to register right away. But it may be wise to start by applying for the VDA program.

Standard registration is usually the best option when your client taxpayer is working within the timelines set by each jurisdiction. If your client hits the economic threshold in Kentucky, they’ll need to register by the 1st day of the next month. In Mississippi, the deadline to register is the very next transaction. Washington requires registration by the 1st day of the month after 30 days.

As you can see, each state has a different grace period for registration and very strict timelines for a standard (timely) registration. If there is no prior period exposure or risk of liability, standard registration is the best course.

When Should You Use a Voluntary Disclosure Agreement (VDA)?

Your client may have a prior period liability or exposed transactions from going over economic nexus thresholds. If so, we recommend applying for a voluntary disclosure agreement (VDA). The VDA limits your client’s past-due tax liability to a limited number of prior tax years (the lookback period). You can also read How To Use VDAs To Your Client’s Advantage.

Generally, your client will get a full or partial waiver of penalties. The state will also agree not to assess tax and interest for the years before that period. The VDA also removes the risk of a state audit before the lookback period. Once the state receives the voluntary disclosure application, the VDA process protects your client from discovery by the state. Their identity will not be shared with the state until the VDA is completed.

Conclusion

This detailed analysis makes one thing clear. As the trusted advisor, you must be ready to apply a huge range of factors to protect your taxpayer client and lower their overall risk. These include economic nexus rules, lookback periods, transaction totals, counts, and registration timelines. They also include marketplace facilitator effects and calculated exposure amounts. With the LumaTax solution, you never have to worry about tracking all these factors to deliver this advisory service efficiently and effectively.

How Taxually handles this

Taxually’s LumaTax runs a nexus analysis on your sales, helps you register in the states where you must collect, and prepares and files multi-state sales tax returns, including Canadian GST/HST. LumaTax is currently available to enterprises and accounting firms. For the full workflow, read how to automate US sales tax filing in every state.

Related guides

• States With No Sales Tax: The 5 NOMAD States Explained
• How To Use VDAs To Your Client’s Advantage
• Which Businesses Qualify for Sales Tax Exemptions?