Understanding the sales tax rate sourcing provisions for states in which you have sales tax nexus is critical in determining the correct sales tax on a transaction. If you don’t, you could end up charging and collecting the wrong sales tax rate.
In general, states employ two sourcing methods, origin and destination. In states that have origin based tax rate sourcing provisions, the activities that create sales tax nexus, as well as changes in your company’s activities in the origin state, may be an important factor in determining the sales tax you should be charging in that state.
The sales tax rate may be affected by two considerations:
- Whether your company has nexus in the state as the result of having one or more locations in the state, or
- Whether nexus arises from the mere presence of sales activities in the state.
If you are selling into an origin-based sales tax state, it is critical that you regularly review your company’s, as well as your affiliated companies’, activities in the state. Failure to do so could result in paying the wrong sales tax rate in one or more origin states.
Periodic nexus reviews of your company and its affiliates’ activities are cost effective ways to identify this potentially expensive sales tax issue.
Origin Versus Destination Rate Sourcing
Origin Based Sourcing
As a general rule, in an origin-based rate sourcing state, the appropriate sales tax rate charged for sales into the state may be affected by one or more of the following:
- Whether the seller has one or more locations in the state;
- If the seller takes orders in the state;
- Whether the seller “sells over the counter” from a location in the state;
- Whether the seller passes title to the items sold in the state; and/or
- If the seller has outside sales people “working out of” a location in the state.
The Origin state analysis is a highly fact-sensitive determination that closely correlates with the analysis of why a company has sales tax nexus in the state. (Please note that certain Origin state provisions contain destination rules for sales of property that are shipped outside of the Origin state; i.e. “interstate sales.”)
Additionally, careful review of an Origin state’s provision on taxable services is essential to any analysis of the potential ramifications of an Origin state’s rate sourcing provisions on your company’s sales tax rate determination.
Therefore, once you establish sales tax nexus in an Origin state, it is critical that you monitor your company’s activities in that state in order to minimize the potential that you may be charging an incorrect sales tax rate.
Destination Based Sourcing
Conversely, in a destination-based sourcing state, the sales tax rate charged is based on the rate for the jurisdiction where the goods are delivered or are used. Therefore, once you establish sales tax nexus in a Destination state, modifications in the your company’s in-state activities will generally not affect the determination of what sales tax rate to charge on your sales in the state.
Most states have adopted Destination state rate sourcing provisions. Unfortunately, there are limited reference materials that list every Origin state. The following is a list of Origin states as provided by CCH’s Multistate Sales Tax Smart Charts regarding intrastate sales:
Arizona, California, Illinois, Mississippi, Missouri, New Mexico, Ohio, Pennsylvania, Tennessee,Texas, Utah, Virginia
Additionally, sales tax software and service provider Avalara’s Help Center’s response to “What Are Origin-Based States?” indicates that each of the above states except Mississippi is an Origin based state.
The Streamlined Sales and Use Tax Agreement was modified in 2007 to allow full member states to elect origin based sourcing provisions set forth in Section310.1.
Application of Origin Sourcing – Missouri the “Show Me” State
Application of Origin based sourcing provisions may at first appear rather straightforward. Recently, I was engaged to assist a client on a Missouri state sales tax exam matter. This opportunity reinforced my deep respect for the complexities of Missouri’s sales tax rate sourcing provisions. I also gained a new appreciation for why Missouri, as well as their state tax examiners’ method of examining, is well known as the “Show Me” state.
During the period under examination our client opened its first and only business location in Missouri. Prior to the opening, our client’s activities in Missouri were limited to sales efforts by employees in business locations exclusively outside of Missouri with all orders approved, fulfilled and shipped from outside of Missouri via common carrier.
This fact pattern provides a clear insight into Missouri’s sourcing provisions. Application of the Missouri sourcing provisions resulted in a change in the required rate from a destination determined rate, (determined by where our client’s customers took delivery in Missouri) to an origin-based rate.
The following are some examples in Missouri’s Sales Tax Regulations Section 12 CSR 10-117.100 that applies the State’s “Basic Application of Taxes” and illustrates the complexity of the State’s provisions.
- A seller has a place of business in Missouri. The sellers’ outside sales people work out of sellers place of business in Missouri. These sales people accept orders at customer locations. Goods are shipped from plants and warehouses located throughout Missouri and in other states. Sales to customers located in Missouri are subject to the local sales tax in effect at the seller’s place of business.
- An outside sales person takes an order in Missouri. The salesperson works out of an office located in a neighboring state. The salesperson fills the order from inventory, the salesperson carries and receives payment. The sale is subject to the local sales tax in effect where the order was taken. The result is the same even if the seller also has a place of business in Missouri because the salesperson does not work out of the Missouri location.
- A manufacturer accepts an order at its office outside Missouri from a customer in Missouri. As part of the sale, the manufacturer delivers and assembles the goods in Missouri. The parties agree that title to the goods transfers after assembly. The sale is subject to the local sales tax in effect where title to the goods transfers. The result is the same even if the seller also has a place of business in Missouri.
- A water company provides service to residents of a community. Local sales tax is due based upon the location of the customer’s residence.
The Take Away
Companies should regularly monitor their activities in states that have adopted Origin sales tax rate sourcing provisions. Any number of relatively innocuous new activities in an Origin state such as opening a location, holding inventory on consignment, cross selling through an affiliated entity’s business location or new vendor agreements can modify a company’s activities in an Origin state so as to require a change in the sales tax rate the company should be charging on its sales.
Periodic nexus reviews identify those events that may divert a company’s hard earned revenue to an unexpected destination – an Origin state’s sales tax exam assessment.