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Sales Tax Nexus Explained:

Understanding Your Business’s Obligations

Introduction

Author: Alice Mensch
Date: February 1, 2025
Category: Sales Tax Nexus
Estimated Reading Time: 8 minutes

Sales tax nexus refers to the connection between a business and a state that requires the business to collect and remit sales tax. This connection is usually based on the company’s level of presence or activity in that state, though the exact criteria for what constitutes a “significant presence” can differ from one jurisdiction to another.

Understanding these rules is crucial for businesses to maintain compliance and avoid potential penalties. For example, a small online retailer based in California might assume they only need to collect sales tax in their home state. However, if they make a high volume of sales in Texas, they could be subject to Texas sales tax laws under economic nexus rules.

How Sales Tax Nexus is Established

Nexus can be created through various activities and connections to a state. While the specifics may differ by state, the most common ways a business establishes sales tax nexus include:

Physical Presence Nexus
Traditionally, having a physical presence in a state—such as an office, warehouse, or retail store—establishes nexus. This also includes maintaining inventory in third-party fulfillment centers, such as those operated by e-commerce giants like Amazon. For instance, a furniture retailer with warehouses in Florida and Georgia will need to collect sales tax from customers in those states, even if the headquarters is located in New York. Similarly, a small business owner who operates a pop-up shop in multiple states throughout the year could unknowingly create nexus in each of those locations.

Economic Nexus
With the rise of e-commerce, many states have adopted economic nexus laws. These laws establish sales tax obligations based on the amount of sales revenue or the number of transactions within a state, even if the business has no physical presence there. For example, if a business generates $150,000 in annual sales or completes 250 transactions in Colorado, it will be required to collect and remit sales tax in that state. A good example of this is an online clothing retailer that sells nationwide—if their annual revenue in specific states exceeds the threshold, they will need to register for sales tax permits and comply with that state’s tax laws.

Click-Through Nexus
This type of nexus is triggered when a business receives sales referrals from affiliates or partners located in a state, even if it does not have a direct physical or economic presence there. Many states have enacted click-through nexus laws to capture tax revenue from e-commerce businesses. For example, an outdoor gear company in Oregon that partners with influencers in New York and North Carolina may establish nexus in those states if customers purchase products through referral links on the influencer’s website.

Marketplace Facilitator Nexus
Many states require marketplace facilitators, such as Amazon, eBay, and Etsy, to collect and remit sales tax on behalf of sellers who use their platforms. This means that individual sellers might not need to collect sales tax themselves, but they should verify that taxes are being handled properly by the marketplace. For instance, a handmade jewelry seller on Etsy might assume they are free from tax obligations, but if Etsy is collecting and remitting tax in states where their products are sold, they still need to account for those taxes in their financial records to ensure compliance.

How to Determine Your Sales Tax Obligations

To ensure compliance, businesses should take proactive measures to track their sales activities, stay informed about tax laws, and implement systems that help them manage their obligations efficiently. As sales tax regulations evolve, businesses must remain vigilant and adapt to new requirements to avoid financial penalties and legal complications. This involves not only understanding their nexus status but also ensuring proper documentation, accurate reporting, and timely remittance of taxes. By investing in the right tools and resources, businesses can streamline tax compliance and focus on growth.

Below are some key steps that businesses should take to maintain compliance:

Regularly review state nexus laws, as they frequently change. Some states modify economic thresholds or introduce new marketplace facilitator laws.
Track their physical and economic activities in different states, especially if they expand operations or form partnerships with affiliates.
Use automated sales tax software to monitor and calculate tax collection obligations, reducing the risk of human error.
Register for sales tax permits in states where nexus is established to avoid penalties and legal issues.
Collect and remit sales tax as required by each jurisdiction to maintain compliance and avoid costly audits.

“Understanding sales tax nexus is key to staying compliant—know where you owe before penalties grow out of control.”

Consequences of Non-Compliance

Failing to comply with sales tax nexus laws can result in serious consequences, including:

Fines and Penalties: States may impose financial penalties and interest on unpaid taxes. For instance, a business that neglects to register in a state where it has nexus may owe back taxes along with significant late fees.
Legal Action: Businesses may face audits, lawsuits, or forced compliance measures. A small business that unknowingly triggers nexus but fails to collect sales tax may be audited and required to pay taxes retroactively, which can lead to financial hardship.
Reputational Damage: Non-compliance can harm a company’s reputation and customer trust. A company that suddenly starts charging sales tax due to a tax audit may face backlash from customers who were previously not charged sales tax, leading to confusion and potential loss of business.

KEY TAKEAWAYS

Understanding and complying with sales tax nexus laws is crucial for any business operating across multiple states. Companies should be proactive in tracking their sales activities, keeping up with evolving regulations, and using technology to simplify tax management. Failure to adhere to these laws can result in costly penalties, legal complications, and reputational damage. Staying informed and taking action can help businesses avoid unnecessary risks and remain compliant.

Below is a summary of the key points to keep in mind when navigating sales tax nexus:

Sales tax nexus determines whether a business must collect and remit sales tax in a state.
Physical presence, economic activity, and affiliate relationships can all create nexus.
Many states have economic nexus laws that apply to online businesses, requiring them to collect tax based on sales volume or transaction count.
Marketplace facilitators may handle sales tax for sellers, but verification is essential to ensure compliance.
Failure to comply with nexus rules can result in fines, audits, and legal consequences that could impact a business’s financial stability.
Regularly reviewing state laws and using sales tax software can help ensure compliance and prevent unexpected liabilities.