Key takeaways
- Sales tax on digital goods varies widely by state—some fully tax them, others exempt them, and many apply conditional rules.
- Businesses must determine where they have sales tax nexus, including physical, economic, and affiliate presence, to stay compliant.
- Understanding each state’s definition of taxable digital products is essential for accurate collection, registration, and remittance.
In short: Sales tax on digital goods in the U.S. depends on the state. Some states fully tax digital products like e-books, music, and software. Others, such as Delaware and Oregon, do not tax them. Many apply conditions. You must collect sales tax on digital goods only in states where you have nexus.
Digital goods, from streaming to e-books, have changed how we buy and sell. With this shift, U.S. sales tax rules for digital products have grown more complex. This guide explains how sales tax applies to digital goods and what businesses need to know. You can also read Digital Goods and Tax Compliance: What E-Commerce Businesses Should Know.
What are digital goods and products?
Digital goods are products delivered electronically rather than physically. They are also called digital products. Before looking at sales tax laws, it helps to know what counts as a digital good. Digital goods include a wide range of items such as:
- E-books and audiobooks
- Music and video downloads
- Streaming services (video, music, and gaming)
- Software and applications
- Online courses and educational materials
- Digital artwork and photography
In short, any product delivered electronically rather than physically is a digital good.
However, digital products are not the same as Software as a Service (SaaS). Digital products are usually one-time purchases that the user can download and keep. SaaS means accessing software through a subscription, often hosted in the cloud. This difference matters, because sales tax laws can treat digital products and SaaS very differently.
How is sales tax on digital goods handled state by state?
Each U.S. state sets its own sales tax rules for digital goods. Some states tax digital products, others do not, and the rules can be very specific. U.S. sales tax laws are known for being complex because they vary so much from state to state. Digital goods are no different. Related reading: Origin-Based vs Destination-Based Sales Tax Rates - What’s the Difference?.
Which states fully tax digital goods?
Some states have broad sales tax laws that apply to digital goods. In these states, consumers pay sales tax on digital products just as they would on physical goods. Here are the states with full sales tax on digital sales:
- Alabama
- Arkansas
- Colorado
- Connecticut
- Georgia
- Hawaii
- Idaho
- Indiana
- Iowa
- Kentucky
- Louisiana
- Maine
- Maryland
- Minnesota
- Mississippi
- Nebraska
- New Jersey
- New Mexico
- North Carolina
- Ohio
- Pennsylvania
- Rhode Island
- South Dakota
- Tennessee
- Texas
- Utah
- Vermont
- Washington
- West Virginia
- Wisconsin
- Wyoming
These states have clear rules that require sales tax collection on digital goods. This makes compliance simpler for businesses operating in these states.
Which states do not tax digital goods?
Several states do not tax digital goods at all. Consumers in these states can buy digital products without paying extra sales tax. The states that do not impose sales tax on digital goods are:
- Alaska
- Delaware
- Montana
- New Hampshire
- Oregon
For businesses and consumers in these states, no sales tax on digital goods makes buying simpler and lowers the overall cost of digital purchases.
Which states tax digital goods only under certain conditions?
Some states tax digital goods only under certain conditions. These conditions can depend on the type of digital product, the delivery method, or specific exemptions. Here are the states where sales tax conditions apply:
- Arizona: Taxes digital goods if they are downloaded rather than streamed.
- California: Digital goods are generally not taxable unless delivered with physical parts, like a backup CD or printed manual.
- Florida: Applies sales tax to digital goods if they are sold with tangible personal property, such as a physical copy or download code.
- Illinois: Taxes digital goods delivered on physical media, such as a disc.
- Kansas: Applies sales tax to digital goods if they include tangible parts.
- Massachusetts: Digital goods are exempt from sales tax unless delivered on physical media.
- Michigan: Taxes digital goods if they are delivered on physical media.
- Missouri: Digital goods are generally exempt unless bundled with physical goods.
- Nevada: Digital goods are exempt unless bundled with tangible property.
- New York: Digital downloads such as music are generally not taxable.
- North Dakota: Digital goods are taxable if delivered on physical media.
- Oklahoma: Applies sales tax to digital goods only if they are sold with tangible personal property.
- South Carolina: Digital goods are generally exempt unless delivered on tangible media.
- Virginia: Digital goods are exempt unless bundled with tangible property.
In these states, businesses must carefully review when sales tax applies to their digital products. Compliance requires a detailed understanding of each state’s rules and exemptions.
How do you determine sales tax nexus for digital goods?
You determine sales tax nexus for digital goods by checking your physical, economic, marketplace, affiliate, and temporary ties to each state. Sales tax nexus is a connection between your business and a state that requires you to collect and remit sales tax. Checking nexus is a key step in understanding your tax duties. Here’s how to tell if you have nexus for digital goods:
What is physical presence nexus?
Physical presence nexus is created when your business has an office, warehouse, or employees in a state. This has long been the standard test. If you operate from a location or hold physical assets in a state, you likely need to collect sales tax on digital goods sold to customers there.
What is economic nexus?
Economic nexus is based on your sales amount or number of transactions in a state, regardless of physical presence. Many states adopted economic nexus laws as e-commerce grew. For example, you may exceed a sales threshold (often $100,000) or a number of transactions (200 in some states). You may then have economic nexus and need to collect sales tax.
What is marketplace nexus?
Marketplace nexus means some states place sales tax duties on the online marketplace rather than on individual sellers. This applies if you sell digital goods through a marketplace. Still, check whether the marketplace collects tax for you or whether you still have duties.
What is affiliate nexus?
Affiliate nexus is created when affiliates or representatives in a state promote your products. This is often called click-through nexus. Online referrals from in-state affiliates create tax duties. We cover this in more detail in What Is Click Through Nexus?.
What is temporary presence nexus?
Temporary presence nexus can come from short-term business activities in a state. Examples include attending trade shows or holding inventory there for a short time. Businesses should know that these short-term activities can create nexus.
What steps help you determine nexus?
- Review state laws: Each state has its own rules for nexus. Review the sales tax nexus laws in the states where you do business.
- Track sales and transactions: Keep detailed records of your sales and transactions in each state. This helps you see whether you meet economic nexus thresholds.
- Consult with professionals: Tax professionals or legal advisors can give useful insights and help you comply with nexus laws.
How should business owners handle sales tax on digital goods?
Business owners selling digital goods should check nexus, identify taxable products, register, collect tax, and stay informed. Understanding and following sales tax laws is crucial. Here are a few steps to stay compliant:
Determine nexus
As mentioned above, the first step is to check whether your business has sales tax nexus in a state. Nexus is a legal term. It means a business must collect sales tax in a state if it has a significant presence there.
Identify taxable products
Identify which of your digital products are subject to sales tax in each state where you have nexus. This can mean a detailed review of state laws and may require help from a tax professional.
Register and collect sales tax
Register for a sales tax permit in states where you must collect tax. Then make sure you correctly collect and remit sales tax on taxable digital goods.
Stay informed
Sales tax laws change, so stay up to date on the rules in the states where you do business. Regularly review updates from state tax authorities and consider subscribing to tax law updates.
Conclusion
Understanding sales tax on digital goods in the US is essential for business owners. Sales tax laws vary across states, so stay informed and follow the latest rules. You may sell an e-book or a software application. Either way, knowing the tax rules can save you headaches later.
By staying informed and proactive, you can handle the complexities of sales tax on digital products. This helps ensure a smooth experience in the digital marketplace.
Do you need help with your sales tax compliance? Book a free call with one of our sales tax experts to find bespoke solutions for your business, optimize your tax costs, and reach millions of new potential customers.
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.
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Frequently asked questions
What determines if I need to charge sales tax on digital products?
You need to charge sales tax on digital products based on the tax nexus and revenue thresholds of the state where your business operates and where your customer is located. This determines if you are required to collect sales tax on digital goods.
Are all digital products taxable across the US?
No, the taxation of digital products varies by state in the US. Some states like Delaware and New Hampshire do not require sales tax on digital products, while others tax them fully as tangible personal property.
Can the location of my customer affect how much sales tax I need to collect?
Yes, the location of your customer can affect the amount of sales tax you need to collect, as sourcing rules follow the destination principle, which considers the buyer's location when determining sales tax. This means that the tax rate applied could vary depending on where your customer is located.
Will there be changes in digital goods taxation in the near future?
Yes, there will likely be changes in digital goods taxation in the near future, as states adapt to the evolving digital economy and explore new revenue sources. This may include expanded taxation on digital advertising, cryptocurrencies, and NFTs.
