Why is managing SaaS sales tax so complex?
It begins with a 2018 Supreme Court ruling called South Dakota vs. Wayfair, a case that introduced the concept of economic nexus, whereby a company can establish a taxing obligation with a state based on their sales or number of transactions in that state. For SaaS companies with customers in multiple states, this immediately created a much more complex set of requirements for sales tax compliance.
Traditionally, the need to collect sales tax was prompted by a company’s physical presence in a state, such as an office or a warehouse. Economic nexus, on the other hand, is based on how many sales or transactions a company makes in a given state, regardless of physical presence. States—and even some cities and counties—have their own specific thresholds for requiring sales tax, and regulations change frequently.
One other way to establish physical presence is by hiring a remote employee in a state, which has become more common now that most software companies are working remotely. Hiring a single remote employee in a state can create physical nexus.
Over 20 states now tax software or services related to software based on economic or physical nexus, or both. This means that SaaS finance leaders now have to monitor and track both physical and economic presence across different states on an ongoing basis. And the nature of subscription-based business models, where invoice amounts can fluctuate, make the process of determining how much sales tax should be collected in each jurisdiction even more tedious.
When should SaaS finance leaders tackle sales tax?
In typical tax fashion, the answer is: it depends. It depends on your exposure and your risk tolerance as a company. The three most common costs of non-compliance that our customers worry about are:
- Audit risk: Audits can take a lot of time and become a real hassle if your records aren’t in order. Having a tool that can be the system of record for any audits that arise is a huge time-saver and is likely to help bring about a better audit outcome.
- Revenue impact: Sales tax can make a big dent on your bottom line. If your company doesn’t pass the sales tax on to your customers, you might end up paying it, along with penalties and interest.
- Hiring implications: Finance leaders don't want to get in the way of hiring goals, but because having a remote employee sparks nexus, hiring has tax implications. A tool that can help you be compliant in any jurisdiction can assist in growing your business.
Once your company gets to a certain level of concern with the three elements above, it’s time to look at getting into sales tax compliance. And the earlier you put a solution in place, the less negative impact you’ll see on your revenue in the long run.
How can SaaS companies become sales tax compliant?
The journey to sales tax compliance generally starts with a nexus survey to understand your exposure. That entails looking at your sales over a certain period and comparing those against each state-specific threshold. In that analysis, think about where you have remote employees and the first date that you had remote employees in a jurisdiction.
When you hit a threshold in a given jurisdiction, you’ll need to register to be able to collect sales tax. It typically takes about a month from registration initiation to completed registration, though timing depends on the state. Once you’re registered, you’re responsible for calculating the appropriate sales tax on applicable transactions, collecting that tax from your customers, and remitting it back to the jurisdiction. As you grow in a given state, your filing frequency may change from quarterly to monthly based on your revenue growth. It’s important to track these changes to stay compliant wherever you have nexus.
As you can see, this process is detailed and requires a lot of time, effort, and expertise to get right. An automated tax solution can go a long way toward streamlining the path to sales tax compliance—and avoiding costly mistakes.
Customers tend to choose Anrok for three reasons. First, we’re the only solution that automates this entire process, end to end. Anrok connects directly with your billing and payment system to analyze your past and future transactions. This allows us to quickly estimate your historical tax exposure, monitor nexus in real time, and calculate and add sales tax directly to invoices when they’re created in your billing system. When you’re nearing a new nexus threshold, you can initiate registration from within Anrok; we’ll then prepare and file returns at the appropriate frequency and remit tax owed on your behalf.
Second, with our specific focus on SaaS companies, Anrok is built to handle software taxability edge cases out-of-the-box. And third, we’re a team that really understands you. Get in touch to see how we can help you with SaaS sales tax management.
