Is SaaS taxable in the US?

If you’re selling Software as a Service (SaaS) or another digital product in 2024, chances are your business crosses state lines.

But having customers and team members in different states and cities presents complex tax implications for modern businesses. And with state legislatures making frequent changes to keep up with the fast page of digital innovation, it’s become increasingly difficult to stay compliant with sales tax laws.

In 2024, SaaS is taxable in some form in 23 US jurisdictions—but applying the right tax laws to your business can be tricky. Getting sales tax compliant starts with understanding where and how your specific product is taxed. For SaaS businesses, this can vary from state to state, and even from city to city.

Wondering where to start? Read on to learn what SaaS businesses need to know to approach sales tax compliance in the US. And if you’re looking for expert help and an automated solution for your business, get in touch with our team.

Sales tax compliance in the US

One of the biggest challenges for businesses selling digital products in the US is determining which states require sales tax collection. Each state has its own set of tax laws, and businesses must comply with the tax laws of each state where they have “nexus,” or a significant presence. This can include having employees, offices, or other physical assets in a state, or even making frequent sales to customers in that state.

Businesses must also be aware of the different tax rates and rules in each state. For example, some states have a lower sales tax rate for digital products like SaaS, while others may not tax them at all. Additionally, some states require businesses to collect sales tax on SaaS subscriptions, while others only require it for one-time purchases.

State-level tax codes aren’t the only thing to consider. The way a digital product is categorized could change across state lines, and even within local jurisdictions. States like Colorado, Illinois, and Alaska allow local cities and counties to determine their own tax codes, even if they differ from those at the state level.

To comply with these tax laws, businesses must register for sales tax permits and file returns in each state where they have nexus. This can be a time-consuming process, and businesses must also keep up with any changes in tax laws or rates to ensure they are collecting and remitting the correct amount of sales tax.

Sales tax is an indirect tax, meaning that when addressed properly, it’s meant to be collected by a business, from a customer. But businesses that delay compliance could end up paying sales tax out of pocket. Failure to comply with sales tax laws can result in penalties and fines on top of the cost of uncollected sales tax. On average, a non-compliant SaaS business will lose 4.3% of revenue to these costs.

Sales tax nexus laws in the US

In order to determine where your product is taxable, you must first understand the concept of sales tax nexus. A business has nexus, or a connection with a specific jurisdiction, if it meets certain criteria, thereby becoming liable for the collection of sales tax within that jurisdiction.

Historically, physical presence, such as having an office or employees in a state, determined nexus. However, the 2018 US Supreme Court ruling in South Dakota v. Wayfair, Inc. has since expanded the criteria, and all states have now adopted economic nexus standards. This means that a business can have nexus based on its sales revenue or number of transactions within a state, regardless of physical presence.

If your business has reached nexus within a jurisdiction, and your product is taxable under its tax code, you are obligated to collect and remit sales tax on applicable transactions.

It is important to note that each state has its own rules and regulations regarding sales tax nexus, and these rules can change frequently. To stay compliant, it is crucial for businesses to stay updated on nexus laws and regularly evaluate their tax liabilities. This may involve consulting with a tax professional or using tax software to keep track of sales tax rates and rules across multiple jurisdictions.

Taxable products in the US

The taxability of digital products like SaaS varies by state, depending on how it is classified. SaaS is a method of delivering software applications over the internet, which eliminates the need for businesses to install and run software on their own computers. Some states view SaaS as a tangible product, while others consider it an intangible service.

Tangible products are generally taxable, whereas services are typically either exempt from sales tax or taxed separately. However, the taxability of SaaS is not always clear-cut. For example, some states may classify SaaS as a digital good, which is taxable in some states but not in others.

Businesses should consult state-specific tax regulations to determine the taxability of SaaS offerings in each jurisdiction. It is important to note that tax laws are constantly changing, so businesses should stay up-to-date on the latest developments to avoid any potential tax liabilities.

Collecting sales tax in the US

The process of collecting sales tax can be quite complex, especially for businesses operating across multiple states. Sales tax compliance involves three main steps:

1. Registration for a sales tax permit 
2. Collection and recording of sales tax
3. Filing and remitting sales tax payments

Businesses must register for a sales tax permit in each jurisdiction where they have nexus.

Once registered, businesses must set up tax collection systems to accurately apply sales tax rates. This can be challenging, as sales tax rates can vary by state, county, and even city. There are software solutions available to help businesses automate this process and ensure compliance.

Finally, businesses must file regular sales tax returns along with remitting the sales tax revenue collected. This can also be a complex process, as each state has its own filing requirements and deadlines.

Non-compliance with sales tax regulations can result in penalties and fines, so it is important for businesses to stay on top of their sales tax obligations.

Automating sales tax for SaaS

Given the complexities of SaaS taxation, businesses may choose to use tax compliance software and services to automate the process. A good sales tax platform will be able to:

• Connect to your billing and HRIS systems to sync relevant data
• Monitor your sales tax obligations across jurisdictions
• Calculate and collect the right sales tax in real time
• File returns, facilitate registration, and handle remittance

By automating sales tax processes, SaaS businesses can reduce errors, save time, and more easily maintain compliance with changing tax laws. Moreover, efficient tax planning, automation, and compliance will reduce the risk of penalties, allowing SaaS providers to maintain a healthy cash flow.

Understanding and managing SaaS taxation is a complex but essential aspect of operating a SaaS business. By staying informed, leveraging technology, and seeking professional advice, businesses can navigate the complexities of SaaS taxation, ensuring compliance, and maximizing revenue.