I Have To File In How Many States?!?
By Louisa Else, Tax Practice Leader
In our tax corner of the world, we are just finishing up our first tax deadline and barely have time to catch our breath as we start looking toward that magical April 15th date. As I have been working with my team on our returns and sending drafts off to clients, I find myself asking variations of one question more than any other:
"I know where you worked from, but where were your customers while you did the work for them?"
So often with startups and small businesses, it's easy to simply think about what is right in front of you. Getting sales off the ground is an accomplishment! It comes with so much stress and things to keep straight that the last thing anyone is thinking about are the state tax implications, and that is completely understandable. Depending on your model and how much customer information you need to process your sales, you might not even be gathering the state information.
As your tax advisor, I wish I could let you continue on not thinking about it, but unfortunately in this connected world, where providing services or you SaaS product to someone across the country is as simple as setting up your Zoom call or giving out your download link, the states are watching carefully and all scrambling for their piece of that tax pie. More and more, the states are doing this by adopting a "market based" approach to determining which of your sales are "sourced" to their state. In the past few years, states have moved in droves to switch to this from the previously popular "cost of performance" rule. Plus, of course, all the states have various thresholds or quirks in how they apply these rules.
What this means in the real world is that in a market based system, you had sales to a state "where the benefit was received" - so where your customers are when they used your service or product. This means that a consultant based out of Wisconsin may have to consider filing taxes in 4 or 5 other states if their customers are located out in California, on the East Coast, or anywhere in between.
Unfortunately, these state returns often take businesses by surprise. It's simply not something we consider throughout the year. That is where my team comes in and we're happy to talk through your specific situation and make our recommendations on filing! As with so many things though, the more you can think ahead, the better you can set your business up for success both in efficient tax filings, budgeting for costs, and also having your ducks in a row if the states come looking for you:
Communicate! Communicate with your FPC Controller or whoever your accounting team is. Check in with your tax team during the year, not just in March. Finally, think ahead as you are setting up your processes around your sales. At the end of the year, I am going to ask you to tell me what your breakdown of sales is by your customers' states. Then I'm going to take that. So you've been warned.