Sales and use tax is one of those topics almost everyone encounters, yet few people feel fully confident explaining. It shows up on receipts, invoices, and compliance checklists, quietly shaping how goods and services are bought and sold. For businesses, especially, sales and use tax is not just a line item. It is an ongoing responsibility that affects pricing, reporting, and risk.
Understanding how sales and use tax works does not require a law degree, but it does require clarity. The rules can vary by state, by product, and even by transaction type.
What Is Sales and Use Tax?
Sales and use tax refers to two closely related taxes that states impose on transactions involving goods and certain services. While they are often discussed together, they serve slightly different purposes.
Sales tax is charged by the seller at the point of sale when a taxable item or service is purchased. The seller collects the tax from the buyer and then remits it to the appropriate taxing authority.
Use tax applies when sales tax was not collected at the time of purchase. This often happens when goods are bought from an out-of-state seller, online retailer, or vendor without a physical presence in the buyer’s state. In those cases, the buyer is responsible for paying use tax directly to the state.
Together, sales and use tax ensure that states collect tax revenue on taxable purchases regardless of where the seller is located.
Why Sales and Use Tax Exists
At its core, sales and use tax is designed to create fairness and consistency. Without use tax, buyers could avoid paying tax simply by purchasing from sellers outside their state. This would disadvantage local businesses and reduce state revenue.
Sales and use tax helps states fund public services such as education, transportation, healthcare, and emergency services. While rates and rules differ widely, the underlying goal is the same: to tax consumption within the state.
For businesses, this system also levels the playing field by reducing incentives for tax-driven purchasing decisions.
How Sales Tax Works in Practice
When a business sells a taxable product or service, it calculates sales tax based on the applicable rate. This rate may include a combination of state, county, city, and special district taxes.
The seller adds the tax to the invoice or receipt, collects it from the customer, and holds it temporarily. This money does not belong to the business. It is held in trust until it is remitted to the taxing authority, usually on a monthly, quarterly, or annual basis.
Failure to properly collect or remit sales tax can result in penalties, interest, and audits. This is why accurate calculation and recordkeeping are so important.
Understanding Use Tax and When It Applies
Use tax often creates more confusion than sales tax because it is less visible. There is no cashier reminding buyers to pay it, and it rarely appears automatically on receipts.
Use tax applies when:
- Sales tax was not charged on a taxable purchase
- The item is used, stored, or consumed in a state that imposes use tax
Common examples include online purchases from out-of-state sellers, equipment bought for business use, or inventory transferred between locations in different states.
Businesses are especially exposed to use tax obligations. States frequently assess use tax during audits when they discover untaxed purchases in expense records or asset lists.
Sales and Use Tax Rates and Variations
One of the biggest challenges with sales and use tax is variation. Rates and rules differ not only by state, but also by locality.
Some states have a single statewide rate. Others layer local taxes on top of the state rate. Certain items may be exempt in one state but taxable in another. Services may be taxable in some jurisdictions and excluded in others.
Even within the same state, tax treatment can vary depending on how a product is sold, delivered, or bundled. This complexity makes automation and professional guidance increasingly valuable.
Nexus and Why It Matters
Nexus is the connection between a business and a state that creates a sales and use tax obligation. Traditionally, nexus required a physical presence, such as an office, warehouse, or employee.
That changed significantly after the U.S. Supreme Court’s 2018 decision in South Dakota v. Wayfair. States can now require remote sellers to collect sales tax based on economic activity, such as revenue thresholds or transaction counts.
As a result, many businesses now have sales and use tax obligations in states where they have no physical presence. Tracking nexus has become a critical compliance task.
Sales and Use Tax for Online and Remote Sales
E-commerce has made sales and use tax more visible and more complex. Online sellers may need to register, collect, and remit tax in multiple states depending on their sales volume.
Marketplaces sometimes collect and remit tax on behalf of sellers, but this does not eliminate all responsibility. Sellers are still expected to understand where they have obligations and ensure compliance.
For buyers, use tax still applies when sales tax is not collected. Some states now include use tax reporting lines on individual income tax returns to improve compliance.
Common Exemptions and Special Rules
Not all transactions are taxable. States offer exemptions for specific products, services, or buyers. Common exemptions include:
- Resale purchases
- Manufacturing equipment
- Certain medical or agricultural items
- Sales to nonprofit or government entities
To claim an exemption, buyers usually must provide a valid exemption certificate. Sellers are responsible for collecting and retaining these certificates to support tax-free sales.
Improper handling of exemptions is a frequent source of audit issues.
Filing, Reporting, and Recordkeeping
Sales and use tax compliance does not end with collection. Businesses must file returns on time, report accurate figures, and maintain detailed records.
Records typically include:
- Sales invoices and receipts
- Tax collected by jurisdiction
- Exemption certificates
- Purchase records for use tax review
States can audit several years back, making long-term record retention essential.
Risks of Noncompliance
Sales and use tax errors can be costly. States may assess back taxes, penalties, and interest. In some cases, responsible individuals within a company can be held personally liable.
Common compliance risks include:
- Failing to register in new states
- Applying incorrect tax rates
- Missing use tax on purchases
- Misclassifying taxable and exempt items
Because sales and use tax touches so many transactions, small errors can add up quickly.
The Role of Automation and Professional Support
As rules grow more complex, many businesses turn to tax automation software or professional advisors. Automation helps calculate rates, track nexus, and generate reports. Advisors provide interpretation, planning, and audit support.
While not every business needs advanced tools, most benefit from reviewing their sales and use tax processes regularly, especially when expanding into new markets.
Why Sales and Use Tax Awareness Matters
Sales and use tax may not be exciting, but it is unavoidable. For consumers, it affects the true cost of purchases. For businesses, it influences pricing, cash flow, and risk management.
Understanding how sales and use tax works helps reduce surprises and supports better decision-making. In a landscape shaped by e-commerce, remote work, and changing regulations, staying informed is no longer optional.
Sales and use tax is not just a compliance task. It is a fundamental part of how modern commerce functions, quietly connecting everyday transactions to the broader systems that support public life.
