Can SaaS Companies Ignore Sales Taxes and VAT in 2022? -
One of the things I've observed while working is that it's common to SaaS and software companies to ignore transaction-related taxes (sales taxes such as VAT, GST, and so on. ).
And I get it.
Taxes on sales, VAT and GST can be confusing, complicated and not something software leaders want to spend their time on.
However, it is important to consider that delaying tax-related transactions can lead to a risk that goes beyond the payment of the tax back at some time in the near future.
I sat down with 's Global Tax Director Rachel Harding, the most knowledgeable person I've met on this subject.
I asked her about:
- 40% penalty and interest she's seen software companies accrue for not complying with state sales tax requirements.
- Multi-million dollar valuation adjustments from historical sales tax noncompliance during acquisition due diligence.
And much more.
In answer to our own question: No, you shouldn't ignore taxes in 2022.
In this post we will discuss three important things SaaS firms must be aware of about taxes. A lot of this is taken from my chat with Rachel who you can watch the entire recording of our chat if you want to hear all her insights.
3 things SaaS Companies Need to Understand Concerning Sales Taxes
1. Sales Taxes are Calculated Based on the Location of Buyer not the Seller.
Taxes on sales are a bit complicated (especially in places like those in the U.S.), but generally, what you need to be aware of is that sales taxes are paid where the item is consumed (aka the place where your customer is). It is not dependent on where you are as well as the area of your company's headquarters.
In practice, the most important data to source sales is the invoice number and the IP address of the computer. The name suggests that SaaS is taxed similarly to services and not goods and therefore only 20 of the 45 U.S. states with sales tax laws actually tax SaaS. And since the year 2018, if you've got the amount of taxable sales in your area that is greater than the limit, you're legally considered to have economic nexus (a special shoutout for South Dakota v. Wayfair for this idea! ).
A sales threshold refers to the quantity of sales that you have in a specific area before having to pay taxes. Each tax zone (whether it's on a state, territory or a country-wide at a global level) offers its own method of setting the threshold.
2. The Tax Laws and Regulations have dramatically changed over the past 10 years
Sales taxes, VAT as well as other taxes related to transactions have been undergoing significant changes in the past ten years. Some changes are more important than others and changed the tax landscape completely.
Two historic changes include:
- 1 January 2015, the EU has begun requiring software providers to collect and remit VAT according to the location of the buyer rather than the address of the business or its employees.
- In the year 2018 in 2018, the U.S. Supreme Court ruled that states can impose sales tax for purchases by sellers outside of the state (including online sellers), even if the seller is not located in any physical presence within the state that taxes it ( South Dakota v. Wayfair, Inc.). (A.k.a. the reason we are writing this article since now nonresidents as well as small-sized businesses must understand sales tax and its application.)
Whether SaaS is tax deductible or not has changed in a variety of different areas too.
Within the U.S., Florida and California are not required to collection of sales taxes on SaaS subscriptions. But New York and Pennsylvania do.
Massachusetts didn't require sales tax collection for SaaS. However, in 2020 the state classified SaaS charges to "personal tangible property" meaning SaaS subscriptions now are subject to sales taxes within the state.
And these changes aren't just being experienced in the U.S.
In the interview, Rachel offers several examples of how taxes are changing for SaaS organizations around the world.
The point isn't that every SaaS founder or CEO has to be an expert in taxation not at all.
The point is that you must be aware enough to take care of getting it done right, and also finding an IRS partner that with whom you are able to be confident in.
3. If You've Done It Correctly If You Do It Right, You Don't Have to Pay Anything More
"If you do it right, technically, it's net-zero to you," Rachel explained.
The sales tax is a consumptive tax -- it's a tax on the customer, not your company. It shouldn't be something you're spending money on. It's up to you to collect sales tax on the buyer's behalf, and remit it to the proper department of government. The buyer is responsible and a seller's responsibility.
"It's when you're doing it wrong that it's an expense , and even a charge in your balance account. It's possible, but you're not likely to assess sales tax for two years following the time the tax was due. Then it's from your pocket."
The Four Ways SaaS Companies Can Manage Sales Taxes and VAT
So how do SaaS firms determine the taxes they need to be withheld and pay across the globe?
There are four ways we see SaaS companies employ to satisfy their tax obligations related to transactions:
1. Do not ignore It
In this article, ignoring sales tax is an extremely frequent practice, but it could leave your company liable for decades of unpaid taxes, fees, and penalties. The period in which this method could be effective is waning. While online shopping continues to increase, so too does the drive and ability to control it.
2. They'll do it themselves
Tax preparation on your own is a good option for companies that have enough resources to handle the tax burden with an internal team.
It's just not as straightforward to integrate the tax software of your choice into the sales system you use.
SaaS companies also need to think about:
- Ensure that your information is safe and easily accessible.
- Understanding what's taxable and the charges to be charged.
- Checking tax thresholds for the time to determine where you'll need to remit taxes and file tax returns.
- Remitting the correct amounts and timely filing of returns in all tax authorities where you have an obligation. This could be every month, each quarter, or every year.
- Keeping up to date about changing tax laws and regulations.
- Responding to notices and inquiries from Tax officials. Is it phishing, or is it actionable?
This can be burdensome to a department that does not have knowledge of technology and may cause discontent as well as turnover.
3. Find an Accounting Firm to hire
If you contract out your tax preparation as a result, you'll have less internal resources required and it's likely to cost more. And rather than a customized strategy, employing an accounting firm typically means they'll take a conservative approach and ensure compliance to the maximum extent -- even if you'd like something more customized.
There's a perspective that really only an expert in-house could provide -- one which requires a thorough understanding of the company, its strategies, tax regulations, and the ways in which they intersect.
4. Make use of an Merchant of Record (MoR) and outsource the liability
We are the merchant of record for every transaction on your website and are responsible for collecting taxes and remitting them for you. If you're looking to handle reduced tax rates, customized taxation, tax-exempt transactions B2C and B2B- everything is handled for you.
Merchants of record are there to assist you if any tax audits or inquires come up. If an audit happens, we intervene and assist you -- so you can concentrate on building and expanding your SaaS business.
What's the Best Solution to your business?
It's possible that this all seems too overwhelming, but the worst choice is nothing.
According to Rachel said, "I can never promise that you won't be audited. But what do I can assure you is that small actions taken now will help you prepare for a more brighter and better future."
For determining what's the most effective for your business it is recommended to evaluate the available resources and choices.
"It's essential to know your company's needs you operate, the footprint of your business, tax law (duh) as well as the risk you're willing to take on."
