State Tax Considerations for Global Companies
State nexus is different from the federal concept of a permanent establishment, and states are not bound by federal income tax treaties with foreign countries.
A company must first have substantial nexus with a state in order for a state to assert its taxing jurisdiction.
Organizations can create substantial nexus in a state with either a physical presence or an economic presence.
Ultimately, a company is deemed an agent of the state for sales tax collection purposes.
Global companies need to be aware of state tax laws in the U.S. — even if they don’t pay federal income tax. Generally, states do not conform to federal income tax treaties with foreign countries. As such, even if a global company is protected from U.S. federal income tax based on a treaty between the U.S. and its home country, state taxes may still apply. Likewise, a global company that is protected from U.S. federal income tax because it does not maintain a permanent establishment (PE) in the U.S. may still be subject to state taxes.
A company may have a state tax filing requirement or liability if it maintains substantial nexus with the state. Although similar in concept to the U.S. federal analysis of a PE, state nexus differs in both threshold consideration and application. Generally, state nexus is a lower threshold than PE.
Substantial nexus determinations
An organization creates substantial nexus in a state through physical presence or economic presence. Here’s a quick breakdown of those two scenarios.
Physical presence can occur on a permanent basis (e.g., a physical location in the state, inventory in the state, or employees residing in the state) or on a transitory basis (e.g., a traveling sales force). Additionally, states can impose nexus based on the activities of a third party acting on behalf of a foreign company. This can happen when the activity creates or maintains a market in the state on behalf of the foreign company (e.g., an independent traveling sales force or affiliated U.S. entity marketing on behalf of a foreign company).
States can impose economic presence nexus in addition to the physical presence nexus. With economic nexus, a foreign company does not need to have any physical presence in a state, but rather must only maintain the sales threshold adopted by the state. These thresholds differ by state, but generally are $100,000 for state sales tax purposes, and $500,000 for state income tax purposes.
Sales tax economic nexus is a fairly recent concept in the states. It arose due to the federal Supreme Court decision in South Dakota v. Wayfair.
Once nexus is established, states generally require ongoing tax compliance.
Sales tax implications
Sales tax is imposed on the retail sale of tangible personal property or taxable services. It is generally a consumption-based tax collected by a vendor from the purchaser who ultimately consumes the taxable good or service. It is not a direct liability of the vendor, unless a vendor fails to collect the tax in a state where it maintains nexus. In order for a vendor to properly collect and remit state sales tax, it must register for an account in each of the states where it maintains the requisite nexus.
Since sales tax is only imposed on retail sales, a sales tax liability generally would not exist if a sale is for resale (the purchaser resells the good or service to its customers and collects the requisite sales tax). Although a sale for resale is not subject to sales tax, if a vendor otherwise maintains the requisite nexus in the state, the vendor would still need to register and collect the appropriate resale certificates in the states to evidence the exempt nature of the sale.
Consider these additional points regarding sales tax in the states:
- Taxability of revenue streams can differ depending on the state.
- Tax rates differ in the various states.
- Certain industries require a more complex analysis of revenue streams (e.g., the taxability of sales of goods is more straightforward than taxability of technology-related revenue streams, such as software licensing or cloud computing).
- Registration of an account in a state may require a federal employer identification number and/or registration with other state agencies (e.g., the secretary of state), as well as requiring a U.S. bank account for liability remittance purposes.
State income tax implications
Although states are generally not bound by federal income tax treaties with foreign countries, they generally calculate state income tax liability by starting with a taxpayer’s federal taxable income. If there is no federal income tax filing responsibility or liability, often there is not a state income tax liability.
Additionally, if a company’s only presence in a state is the delivery of tangible personal property, it may be afforded some additional protections from state income tax liabilities.
Gross receipts tax implications
Some states impose a gross receipts tax instead of an income tax regime. Unlike sales tax, this tax is not a consumption-based tax borne by a company’s customers in the state. This liability is borne by the company selling into the state and is a tax based on a company’s gross receipts in the state. The tax rates in the states that employ a gross receipts tax is often lower than the typical state income tax rate. States that impose a gross receipts tax often impose economic nexus thresholds. Thus, a company only needs to maintain a certain threshold of sales in a state to have a gross receipts tax liability. Since this is not a tax based on income, the non-existence of federal taxable income based on treaty has no implications on state tax liability.
For additional clarity, here’s a recap of the important concepts:
- State nexus is different from the federal concept of a PE. Additionally, states are not bound by federal income tax treaties with foreign countries.
- A company must first have substantial nexus with a state in order for a state to assert its taxing jurisdiction. Nexus can be established with either a physical presence, as outlined above, or an economic presence, which only requires a company to maintain a certain amount of sales in a state.
- Income tax is a tax levied directly on a company’s net income earned in the state. Sales tax is a consumption-based tax that is generally borne by a company’s customers, but the collection and filing liability is imposed on the company doing business in the state. Essentially, the company is deemed an agent of the state for sales tax collection purposes. Additionally, certain states impose a gross receipts tax instead of an income tax. This tax liability is borne by the company selling into the state and oftentimes is created by economic nexus in the state.
How we can help
At CLA, we have the experience to help global companies navigate complex state tax scenarios. Our global tax team has one clear-cut goal: to help you devise tax strategies that meet your specific business needs.
The information contained herein is general in nature and is not intended, and should not be construed, as legal, accounting, investment, or tax advice or opinion provided by CliftonLarsonAllen LLP (CliftonLarsonAllen) to the reader. For more information, visit CLAconnect.com.
Thomas Santomaggio and Gretchen Whalen
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