Do you own or lease property outside of your home state? Do you have a stock of goods in another jurisdiction? Do your sales people travel to other parts of the country or otherwise have a home office in another part of the country? If so, you could owe taxes in more than one jurisdiction.
“A lot of times companies don’t realize they’re subject to multistate taxation until they’re audited,” says David C. Blum, partner at Levenfeld Pearlstein, LLC. “Companies should be proactive in understanding whether they are taxable in another jurisdiction and take steps to minimize or eliminate such liabilities.”
Smart Business spoke with Blum about often overlooked multistate taxation issues and why you should immediately start working with a tax expert to determine if you have liabilities in other jurisdictions, especially since you may be able to minimize such liabilities or, even better, pass that tax on to someone else.
Why is multistate taxation often misunderstood?
Many businesses are not focused on the issue, some do not want to spend the time or expense to figure out whether they have liabilities and then have to comply with the various accounting and filing requirements, and some just assume that a tax would not apply. Part of what makes this so complicated is that every state, county and city has different tax laws.
What are the different types of multistate taxes?
There are many different types of state and local taxes. Three of the most common are income tax, sales tax and use tax. These types of taxes may have a different name depending on the jurisdiction. An income tax may be referred to as a franchise tax, privilege tax or a business tax. Sales tax may be referred to as a gross receipts tax, occupation tax or a transaction privilege tax. These latter taxes can apply more broadly than a traditional sales tax. Use tax is a complement to sales tax and generally applies to the use or possession of property.
Why should companies proactively address this issue?
Proactively addressing multistate taxation allows you planning opportunities. It’s never good to find out you owe taxes due to an audit. A government investigation has a very high cost in terms of your personal time spent dealing with the audit, reviewing and retrieving records, and having to pay lawyers and accountants to defend you. Then you have to worry about actually paying the tax plus penalties and interest.
What’s worse, there is no statute of limitations on how far back a jurisdiction can go if you never file a return for the applicable tax. You could end up having to pay 10 years or more in back taxes to a jurisdiction but be restricted in your ability to obtain a refund from the jurisdictions(s) in which you have already paid tax. That means you’re paying tax twice!
Failing to collect and remit sales tax can also have major consequences. If you don’t charge your customers at the time of purchase or document a valid exemption, you could end up paying a tax that they should have paid.
How can companies determine if they have a taxable presence?
Working with an accountant or attorney that thoroughly understands multistate taxation is really the only way. Your advisers need to understand your business operations and where you have property and people (employees, agents and independent contractors). These professionals can help you determine whether you have ‘nexus’ (i.e., a taxable presence) in other jurisdictions. The threshold for creating nexus is generally low.
What determines whether companies will need to allocate or apportion income tax to other states?
A business is generally required to apportion income to any jurisdiction in which it has nexus. Income is generally apportioned based on a percentage of your activity in that jurisdiction.
How can businesses know if what they’re selling is subject to sales tax?
Sales tax differs in each jurisdiction. In general, however, sales of tangible personal property are subject to sales tax, unless specifically exempt. Conversely, services are generally exempt unless specifically enumerated. Most businesses would be surprised to know how may services are subject to sales tax. Depending on the jurisdiction, taxable services could include: data processing, alarm monitoring, intellectual property licensing, consulting and even construction contracting.
How should companies move forward if they realize they have additional tax liability?
Once they’ve worked with the right adviser, businesses might consider proactively coming forward and voluntarily disclosing their liability pursuant to either a tax amnesty or voluntary disclosure program. Under such programs, taxing authorities will typically waive penalties and only seek payment for a limited number of years.
DAVID C. BLUM is a partner at Levenfeld Pearlstein, LLC and specializes in federal, state and local tax law. Reach him at (312) 476-7557 or firstname.lastname@example.org.