The Nexus Rule

April 12, 2012

Q: When does a company have to be registered in states they are doing business in? What is the “Nexus” rule?

A: This question is coming up quite often now as every state is looking to increase revenues from uncollected taxes. “Nexus” is a term used to define your business presence in states where you are doing business. What’s confusing is the subjective interpretation on how much business you do in each state and the definition of a presence. One of my least favorite government terms is used by the IRS for their ruling on this. They refer to it as ”indirect physical presence”… now what in the world does that mean? In most states you need to have a physical presence to have to worry about nexus, however some states audit based upon how aggressively you pursue business in that state. Where our members have gotten into trouble is that a common misperception is that if they have no physical office in a neighboring state, then there is no need to collect sales tax. That’s not always the case anymore and it’s proven costly for many of our members during sales tax audits.

A passive and indirect presence (selling product alone) generally doesn’t trigger the audit. Doing installations, providing service and hiring sub-contractors to perform the work under your contract or purchase order does. Most state tax departments now conveniently recognize your subs as “agents” doing work on your behalf. When scrutinized, they look for sales tax collection and remittance in the state where the work is performed. So they are watching to make sure contractors aren’t using the subs sales tax permit number as a way to avoid collecting/remitting taxes. Dozens of companies actually do this and they are cracking down on it.

So, the short answer on the registration question is dependent upon your direct or indirect presence and if you are selling product only, or if you have a sales, installation or service presence. A physical address used to be the determining factor, now it is based upon a presence. It’s good to have your accounting firm provide an opinion on this issue periodically. Now we have had some bad advice given to our members recently from reputable accounting firms. The main reason was the integrators not mentioning that they had assigned sales territories in the neighboring state… sure enough perceived as an indirect physical presence.

Another big problem stems from our members asking the manufacturers to drop ship equipment directly to the end user when they have nexus. The idea there is for them to ship from out of state and you bill them without sales tax. That too is being carefully watched. In a future question of the week I’m going to speak directly to this drop shipping issue along with what is going on with our members facing MAP violations. It’s always something… CW

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