Taxes can be confusing, but online taxes can be mind-boggling. Now throw in that online sales tax laws vary from state to state. The word conundrum comes to mind, mainly when the product sold is software or SaaS.
SaaS is defined as centrally hosted software delivered on a subscription model. Famous examples are Microsoft Office, Salesforce, and Adobe Acrobat. While there are scores of home SaaS users, the biggest market is business users.
Part of the confusion over taxing SaaS is because it is cloud-based; it can be sold wherever there is Web access. This presents new opportunities for businesses and customers alike, but it also brings headaches regarding taxes. Specifically, SaaS sellers must follow tax laws based on county, state, national, and even regional guidelines.
If tax regulations are not adhered to, parties can face tax evasion charges. Even if the action is accidental and unintentional, tax fraud is punishable by fines and imprisonment. Because of this, sellers must remain current on the latest sales tax regulations on at least a state-by-state basis.
Taxing SaaS Products
For those involved in any aspect of SaaS sales, it is essential to remember that the United States has three software categories. Tangible software is utilized much less than it used to be as this product is sold on a physical medium like a DVD. Downloaded software is much more commonplace as it is a program downloaded directly to a computer or mobile device. The ruling SaaS model is cloud-based software that can be accessed via an Internet connection anywhere in the world.
The products hosted in the cloud cannot be downloaded and can only be remotely accessed. Some states consider these products custom or “canned” software delivered on the physical property such as computers or mobile devices. Therefore, these states do require sales tax on the program.
While the best due diligence is to research which states require tax, there is another method of determining if you should be charging tax on SaaS.
- Determine each state you are selling a SaaS title
- Find out if these states have a “nexus” on software
- If a state has a nexus check on the five taxed software categories
- Find out if “canned” custom software is taxed
As SaaS explodes in popularity, it is even more critical to stay abreast of tax protocols. This is one of the fastest-growing areas in the tech sector and is estimated to grow at 9% over the next five years. Small companies can give tech giants a run for their money.
Why You Need a Tax Plan
Once you grasp the multitude of sales tax requirements, it’s time to get a solid tax planning strategy in place to optimize your revenues. This includes taking every deduction and credit your company qualifies for. Not to mention tax planning can reduce your liabilities and the risk of running afoul of the IRS. This might not sound like a glamourous step, but it is critical. After all, a solid tax blueprint can help your organization pay the lowest taxes (legally) required.
To achieve this, your company must be proactive and develop a dynamic plan. After all, as a tax expert analyzes your P&L statement, they can create a customized tax plan that will tremendously benefit your organization. This mitigation has a host of benefits, including minimizing the risk of an audit.
A tax plan brings streamlined operations, increased profits, tidier bookkeeping, segmented expenses, and designated funds for unexpected circumstances. Payroll can be offset with qualified research expenses, new equipment can be deducted, and losses can even be turned into assets. While these are huge plusses for startups or young companies, even organizations that have been around for decades are sure to enjoy these financial perks.
When developing a tax plan with your CPA or financial professional, also be sure to ask about reviewing the prior tax year, analyzing your accounting systems, creating financial projections, auditing tax credits, and optimizing the overall business structure.
Need to prepare for tax planning? Here are some tips for quickly pulling the necessary reports.
South Dakota v. Wayfair
In 2018, the Supreme Court of the United States (SCOTUS) set a tax precedent with the case South Dakota v. Wayfair. The ruling expanded seller responsibilities for collecting sales tax on out of state transactions. Based on tech advancements, Wayfair overturned a 1992 SCOTUS ruling on sales tax due to the interstate nature of e-commerce. The case also established that a seller did not need to have a physical presence in the states where its products were sold to be responsible for collecting sales tax. While large companies with comprehensive accounting departments simply viewed this ruling as another tax protocol, it created a significant burden for smaller companies that do not have the resources to familiarize themselves with approximately 10,000 tax codes. This minority also felt that the situation would have been better handled by Congress than SCOTUS.
Yes, there is a difference between tax planning & preparation. Find out more here.
Protecting Your Organization
If you are a SaaS seller, one of the most important things your company can do is become familiar with tax codes. It is a complex and expansive area but one that must be incorporated into your business’s financial operations. Just think of it from this perspective, if you think learning thousands of tax codes is tough, just ask yourself if you would rather take on this task or face losing your business and possibly spend time in jail. After all, some risks simply are not worth it.