Manage your tax obligations when conducting out-of-state business

Most large states have dedicated departments or programs in place designed to find out-of-state companies that have done business in their state but have not paid the required taxes. While that has been in place for some time in the larger states, many smaller states are implementing the same or similar programs.

“States look for companies with economic presence in their state,” says Jeff Stonerock, tax director at Clarus Partners. “Economic presence is defined by a company generating revenue and earnings on sales into a state but does not have a physical presence in that state.”

There are tens of millions of dollars in unpaid tax that states are working to collect, he says. For example, the Ohio Board of Tax Appeal is currently hearing many commercial activity tax cases, which could lead to millions of dollars in back taxes for each noncompliant company.

Smart Business spoke with Stonerock about ways companies can track their out-of-state tax obligations to avoid getting surprised by a large bill for missed payments.

What are the tax obligations companies will likely encounter if they do business outside their home state?

The major tax obligations are income, sales, use, property, payroll, business license and privilege taxes. The tax that most often trips up businesses is sales tax on purchases, which some companies believe is the vendor’s responsibility.

Often when a company begins operations in new states, their vendors make one of two mistakes. They either do not charge sales tax for the new state or they incorrectly charge the sales tax for the home state of the company that they have charged in the past. During an audit, the purchasing company is liable for the unpaid tax in the new state.

Why might companies have trouble managing the tax obligations that are part of doing business in multiple states?

There are three common reasons companies have trouble managing their out-of-state tax obligations:

  • Different states have unique tax obligations. For instance, while Ohio companies don’t have business license obligations, in Tennessee they do at both the state and local levels.
  • Out-of-state tax requirements for the same type of taxes are unfamiliar. Though a company may understand the tax law in its home state, other states apportion or tax income differently.
  • Companies don’t have systems and processes in place to track employees, property or sales in other states, so there’s no system to account for the associated tax obligations.

How can companies better manage their out-of-state tax obligations?

Know your operations: where and what you sell, where you have property, where employees are working or traveling to, and have systems and processes in place to track all of those. It’s critical to track where people and property are located and the location where revenue streams are being earned.

If, for instance, the company is in the construction industry and operating in multiple states, it’s important to know where all sales and assets have been earned and located, and where employees have worked during the year. Determine when to start filing taxes in all of the states and cities in which there are sales, assets or employees outside of the home state, or have a clear understanding why there’s not a requirement to file in the new state.

Without a plan, companies can’t have a full understanding of their tax compliance obligations, and that puts them at risk for interest and penalties for nonpayment. Be proactive and not reactive with taxes. Companies wouldn’t get a building permit after a building is constructed. Know the tax obligations before business is undertaken.

As long as companies understand their tax obligations before doing business in another state the taxes are rarely, if ever, prohibitive. But not knowing the obligations and finding out down the line that years of back taxes are owed can cripple a business, making the out-of-state venture not only unprofitable but dangerous to the life of the business.

Insights Accounting is brought to you by Clarus Partners