Sales Tax FAQs #6
Michael J. Fleming is the founder and president of Sales Tax and More, a full-service consulting and solutions firm with a passion for state tax. He is one of the country's leading authorities on sales tax issues such as consulting and research, registrations, returns, nexus, drop-shipping, eCommerce, and service providers.
Michael is a renowned writer and speaker, and he regularly presents on webinars. He is also the host of the Sales Tax and More Podcast, where he shares his wisdom and learnings with his audience in order to help them navigate the tricky world of taxes.
In this episode…
Mike Fleming and Ellie Moffat answer some of your frequently asked questions about sales tax.
Here’s a glimpse of what you’ll learn:
Does any FBA seller have to pay income taxes in any state where their inventory is stored
Why can’t you register prospectively in Illinois and some of the other states?
Would you do a VDA if you have an acquired entity with long-term exposure due to an employee working in the state and they don’t have detailed sales data from the legacy accounting system?
What are the chances of a state finding a foreign company with any sales tax liability?
Connect with Michael
Episode Transcript - Audio Version
[00:00:00] Welcome to Sales Tax and More your go-to resource for all things state tax related. Now here is your host, Michael Fleming.
Michael Fleming: Hi, Mike Fleming here, founder of Sales Tax and More, and today's co-host of the Sales Tax and More Podcast where we talk about everybody's favorite topic, which is of course sales tax. And today we're gonna go over some of the questions we've been asked during our webinars, a little Q and A here.
But before we do let me introduce you to my co-host, Ellie Moffat.
Ellie Moffat: Hey everyone, great to be here. And for those who don't know us, Sales Tax and More. I'll do a quick little intro here. We
[00:01:00] are a full service consulting and solutions firm, so we have a really great team here of experienced tax professionals who are very dedicated to fulfilling any of your state tax or related needs.
So we do a lot of sales tax returns, sales tax registrations, consultations, research, audit defense exemption certificate management, and like our name states more. If you have questions about our services or you'd like to work with us, please reach out. We'd love to hear from you, and we'd love to work with you.
And we'd also appreciate you subscribing to our podcast if you enjoy listening. So Mike, all that being said, we are gonna, like you mentioned, go over some of the webinar questions that we've been asked and did I hear you correctly that any FBA seller has to pay income taxes in any state where their inventory is stored?
Michael Fleming: Good question. And I hate speaking in absolutes because whenever we speak in an absolute,
[00:02:00] someone's always gonna say here's the exception. So in general, the answer is yes. A state can come after you for income taxes if you have inventory in the Amazon warehouse. And one of the reasons behind that is that number one inventory in a warehouse does create a link or connection with that state, whether it's consigned inventory or whether it's your inventory, whether it's being carried by salesperson. Most states don't distinguish that if it's being held in an Amazon warehouse. Any differently than if it was in, in your own warehouse.
So when it comes to income tax, sales tax, a little bit of a different answer in some states. But when it comes to income tax they say that creates enough of a link or connection that you should be subject to their income tax. Now, there's a public law out there when we talk about public
[00:03:00] laws. Those are laws that Congress passed, and this one is called Public Law 86 2 72. And what it basically says is that if your only activity in the state is sales, and the sales are sent outside the state for approval and they're then approved from a point outside the state and then shipped from a point outside the state and it's tangible personal property, then the state cannot charge you a net income tax.
So the problem with Amazon sellers, this is an all or nothing protection. If you have 5% of your sales coming from a, say California, when you're shipping to California, they're probably coming from the California air warehouse. If the other 95% of your sales are from another business channel or coming from outside of California, you don't say, I'm only gonna pay the income tax on the 5%.
You gotta pay it on all. California,
[00:04:00] by the way, is one of the most aggressive states. They get lists of Amazon sellers from Amazon. And they go after these sellers. Now they're four or five years behind. They take two years to process the returns. They are a pain in the neck to deal with, but they're advancing year by year.
So you'll want to get ahead of this at least in the state of California, who's one of the most aggressive states out there if your exposure is material. When I say material, if it would leave a mark if the state finds you and adds, oh, they, they add all, if they're reaching out to you, they're adding, greater than 50% in penalties.
It's horrendous. My cousin Vinny, who's a loan shark in New York, I'm kidding, but for illustrative purposes. He's jealous of the state's rates, it'd be usury in New York. But states get away with it. And California
[00:05:00] is the most aggressive. They're not the only state, but they are the most aggressive state when it comes to income tax relating to inventory in an Amazon warehouse.
Ellie Moffat: Thank you so much, Mike, for going over that for everyone. I know that we get a lot of questions that are similar to this in a lot of ways over many webinars over the years that we've been doing them.
We're gonna switch gears here a little bit. Why can't you register prospectively in Illinois and some of the other states that you mentioned?
Michael Fleming: Alright, another great question. When you register in a state, it's gonna ask you for the date you first started doing business in that state. Now, that's a trick question.
It's not when you made your first sale. What the state's looking for is when did you cross nexus? And a lot of people get that wrong, and when they tell people know the date of their first sale, the state is gonna say, thank you very much. Now, please go ahead and send
[00:06:00] me the last however many years of back taxes plus penalty and interest.
So that's a trick question. You only want to give 'em your first date of nexus. Now, the problem comes in is that for years, most states just took what you said at face value. So a lot of companies didn't want to pay those back taxes. They figured we didn't collect the taxes, so I don't wanna pay outta my pocket, we'll just stop the bleeding and we'll make sure that we pay all of these collect and pay all the taxes going forward.
So a lot of companies try to do what we call a prospective registration. And in a lot of states, that's okay. But there are certain states, and Illinois is one of them. Wisconsin is another. Arkansas is another. Arizona is another, and more and more states are joining this list. They know that 50% of the people out there or so are
[00:07:00] not compliant when it comes to economic nexus.
So they'll go ahead and let you get registered, but either six months down the road or a year down the road, or two years or three years down the road, they are auditing everybody for the date and they're saying, okay we don't believe, or we don't think you used the right date when you got registered, so we're gonna audit you.
And invariably if it's one of these states, they are going to find out that you should have been registered before that. Now they're gonna hit you with penalties and interest and the back taxes. So, it's not a matter of if you're gonna get contacted, it's a matter of when you're gonna get contacted.
So, we don't allow our clients to do prospective registrations in a state that we know is gonna come after you. So, what we suggest is if the exposure is material, doing a voluntary
[00:08:00] disclosure agreement. And a voluntary disclosure agreement as a reward for stepping forward voluntarily, the state is going to limit the lookback period.
So in California, if they come looking for you, it's an eight year lookback period. If you enter their voluntary disclosure program, it's only a three year look back period. Plus they waive the penalty that there's a 10% penalty in California. You still have to pay the interest. You still have to pay the three years worth of back taxes, but that can be tremendous amounts of money.
Five years of back tax penalty and interest off the table right away, plus the penalty inside the three years. We'll say if your exposure is material, you wanna do a voluntary disclosure agreement. If you have past exposure and it's mediocre, we may suggest what we call a historical registration.
You use the actual date that your nexus
[00:09:00] began. The state's gonna say thank you very much. Now please give us all the back taxable penalty and interest. We're doing historical registrations when it's not gonna be that much money involved. We're still gonna ask for a penalty waiver and most states are gonna allow either some or all of the penalty to be waived because it's a first time.
So to summarize, we don't allow our clients to register prospectively because once you're registered, you're not allowed to use any of these mitigation programs. And if the state finds out, and they will in these states that you've been there for seven, eight years they're gonna want all of those years of back tax penalty and interest.
You might as well enter into with VDA and have a lot of that back tax penalty and interest removed. That's why we say that you can't do a prospective registration in certain states. Net list of states is growing
[00:10:00] all of the time. We never know who the next most aggressive state is, but as of right now, it's Illinois, Wisconsin, Arizona, and Arkansas.
Those are the most aggressive states.
Ellie Moffat: Yeah. And as of right now, in case you're listening and you're suddenly like, oh what is the date when this was released? We are in May of 2025 that, as of right now applies to this date in particular.
Michael Fleming: Thank you, Ellie.
Ellie Moffat: Yeah. I'm just trying to make it easier so people aren't trying to pull up the episode.
But okay. Next question here. Would you do a VDA if you have an acquired entity with long-term exposure due to an employee working in the state? In addition, they also don't have detailed sales data from the legacy accounting system. And just a reminder, these are webinar questions. So this is someone asking a question and giving a little bit of context here so that we know what's going on. But go ahead, Mike.
Michael Fleming: Yeah unfortunately, there's a term called
[00:11:00] successor liability. And whether you're doing an asset sale or a stock sale the liabilities follow the assets. So if you were supposed to have been collecting taxes or if you did collect taxes and didn't remit them, that liability generally transfers to the acquiring company.
In general, yes, you do want a VDA . A VDA is a good option. There are other options. You can have indemnification agreements, you can have escrow holdbacks. There's a number of different things that you can do. But one of the surest ways to clean this up if you didn't do the indemnification, if you didn't do the escrow holdback, and you find out that there's problems after the fact, is to try to do a VDA.
I say that you should do it because if you have an employee there or had an employee there, they were probably registered for one type of tax, but you weren't registered for sales tax. And states do check those
[00:12:00] things. Now, they may not have reached out yet.
States are slow to react but they eventually get around to following up on things like that.
So if you had an employee there, you were visible on the state's radar. And at some point, in my opinion, they'll get around to linking the two together. If you don't have good records, there's a number of things that the state will do. They will look at what you're doing now and use those numbers or they will project it going backwards. They'll use whatever records or you can use whatever records are available. There's a lot of deal making that gets done with the states. And you have a lot more flexibility in showing the states what you do have, then if the state finds you and comes down, the state's gonna want what they want and if you can't give it to 'em, they'll just do an estimate. And
[00:13:00] when you're estimating in general if you're gonna make up a number and an estimate is just a made up number. Why not estimate high? So for a number of reasons, I think that you should do a VDA. They're voluntary. You're telling the state, hey and you're letting them know all the problems.
We wanna make this right. This was someone else's problem. We wanna make it right. However, here's our hurdles that we have to overcome. What can we do? How can you work with us here? Now, when I say work with us, they want their money, but how you document that is where they will generally work with you.
Every once in a while you're gonna get a state or a certain VDA auditor in a state that is gonna be a pain in the neck and make you jump through a bunch of hoops. But it's still gonna be a lot better than if the state finds you.
Ellie Moffat: All right. Thank you so much, Mike. Okay, last question for this podcast episode. We do have a few more similar to this with webinar questions coming out in the future.
[00:14:00] But last question for this episode. Mike, what are the chances of a state finding a foreign company with I'm assuming any sales tax liability.
Michael Fleming: I think the chances of finding a foreign company are the same as finding a US company. There's a number of different ways that they can do this. So I think the chances are fairly good. Now, the bigger issue is how do they enforce any penalties or interest or anything else on a foreign company.
If you have any US bank accounts, if you have any merchant accounts, if you have inventory in the US. I was involved in an audit with the state of Washington and the company from not Hong Kong, but actually mainland China. And the state of Washington, said if they don't wanna cooperate with us, we'll just make up a number and put it out there. Say this is what they owe us. And then we'll turn it over to our collections unit after 30 days and then we'll go to Amazon
[00:15:00] 'cause we know they have inventory there and we will have it taken over. Companies like California if they know that you have customers and there are accounts receivable, they will go after your customers and go after those accounts receivable. So if they're doing it to your customers, why not do it to a company like Amazon too? I've not seen them do it. I've seen them threaten to do it, but they are doing it to customers, so it's just a short step away.
Bank accounts, the banking system here in the US, it used to be every state was like a separate bank and it was hard to get liens or levies placed on these on these accounts Nowadays, banks pretty much are nationwide banks, and if you are working in Bank of America and you have a branch that's located in North Carolina, California doesn't have to go to the North Carolina branch.
They just walk down to the local Bank of
[00:16:00] America and say, hey, please slap this on the account. And they do. So there's a lot of ways that the states can enforce this. Now, one of the things, I think is going to happen, not tomorrow, not six months from now, but the states have gotten their arms around this economic nexus and Congress doesn't really have a huge appetite to get involved. And it save companies from having to collect these taxes. What I do think Congress can get behind is making a level playing field and making it easier to get the money from these foreign sellers. However they do it, I don't know how they'll do it, but I think that everyone in Congress can get behind that protect the US companies from the for example, the Chinese companies.
I think that's a lot more interest in doing something like that than to
[00:17:00] step in and try to get some sort of national solution to the disjointed tax policies of all the states out there. Also if you're a foreign company, you gotta be importing your things, usually coming through a port. I have seen states, especially California, working with border and customs and impounding items as they come through ports. Like I said, there are a number of different ways that you can enforce audits and the whatnot against foreign companies. Finding the foreign company very easy getting easier and easier for states to enforce that. My suggestion is it's better off to just go ahead and get registered and collect and remit the taxes.
Ellie Moffat: Alright, thank you. Thank you Mike. Thank you for taking some time to answer these questions for everyone. Good chance to remind everyone that we'll answer your questions on our podcast if you send 'em on in.
[00:18:00] And before I finish up here, I guess I'll just say, we offer a lot of solutions and services at Sales Tax and More.
We'd love to work with you. Again and if you have questions for me, you can reach out directly to me at emoffat, that's E M O F F A T at salestaxandmore.com. You can also visit our website, salestaxandmore.com and thank you so much for joining us.
Michael Fleming: Thank you everyone for joining us on today's episode of the Sales Tax and More Podcast.
And we hope to see you on the next episode of the Sales Tax and More Podcast. Thanks. Bye-bye.