A Straightforward Discussion on Nexus
Sales tax nexus (also known as economic nexus) is when an out-of-state business reaches a certain annual sales revenue threshold or a number of sales transactions in another state. When that happens, the business must register to collect and remit sales tax in that state.
Sales tax regulations vary by state, with each state setting its own rules, registration process and tax rate for out-of-state retailers that reach economic nexus in their jurisdiction. Many states set their sales tax nexus thresholds at 200 sales transactions in the year or $100,000 in sales revenue annually.
What about companies selling their products through Amazon, Etsy or other online platforms? Many states have specific laws pertaining to marketplace facilitators with an e-commerce infrastructure, customer service center, marketing operations and payment processing services in the state. Typically, marketplace facilitators — not the individual sellers selling their products through those platforms — who meet the state’s sales tax nexus criteria must obtain a seller’s permit and collect and remit the state’s sales tax on taxable purchases.
Income Tax Nexus
Businesses with a physical presence in a state must pay income tax there. But even a business without a physical location might have to pay income tax (as well as sales tax) in the state if the company reaches a certain amount of sales revenue there. Also, an out-of-state company with employees in a state (even if they don’t live there) could have income tax nexus in that state if its payroll reaches a certain threshold. Put simply, if a company’s employee conducts work in the state, whether or not the individual resides in that state, the employer may have income tax liability there.
Moreover, an employer must comply with the state’s payroll tax rules where an employee performs their work. For example, our firm has employees living and working in other states, so we must have tax accounts in all those states and calculate withholdings for out-of-state employees according to their state’s tax laws and rates.
This affects the employee, too. An employee who lives in one state and works in another might owe state income tax in both states. Some states have reciprocal agreements with other states whereby the employee will only owe tax in the state where they live.
If no reciprocity agreement exists between the state where the employee works and the state where they live, the employer typically makes payroll withholdings according to the tax laws of the state where business is conducted. The responsibility of reporting and paying income tax in the employee’s home state then falls on the employee.
Nexus and Foreign Qualification
Besides paying sales tax and income tax (if required), business entities like LLCs or corporations may also have to file for “foreign qualification” to conduct business in the states where they have nexus. And they must designate a registered agent in each state where they have foreign qualified. Sole proprietorships and general partnerships typically do not have to foreign qualify because those entities aren’t formed under state laws. If an LLC or corporation fails to file for foreign qualification or collect and/or pay the sales and income tax it owes, it could face interest charges and other penalties.
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The information presented here should not be construed as legal, tax, accounting, or valuation advice. No one should act on such information without appropriate professional advice and after a thorough examination of the particular situation.