Sales Tax Slice: Where Is the Substantial Nexus Threshold for Imposing Tax on Services?


Each year Bloomberg BNA asks state revenue officials to clarify their states’ approaches to the gray areas of state tax law and publishes the answers in its Survey of State Tax Departments.  This year BBNA asked several new questions about sales tax nexus for taxable services. The survey will be published on April 25, and some early results suggest a divergence among states.  

Services in most states are generally not subject to sales tax unless they are specifically enumerated as taxable statute. For instance, some states that generally exclude services from tax impose sales tax on certain activities such as information services or repair and installations.

One area for which there seems to be little guidance is the sales tax nexus implications for providing a service over state lines. While it is clear that a vendor providing a taxable service must have a physical presence in a jurisdiction before it could be subject to sales tax collection and remittance obligations, it is less clear when a state considers a service provider to have such a physical presence in the state. Consider, for example, a scenario in which a service is performed in one state and then delivered to a customer located in another jurisdiction. Does the service provider have a physical presence in the customer’s location? What if the service provider enters the state as part of the service?

In light of varying business models, BBNA set out to determine each state’s primary nexus position, and under what circumstances a state’s nexus determination might change.

The survey results are still being tallied, but many states, including California and Michigan, responded that they would not find substantial nexus with their state when an out-of-state corporation repairs tangible personal property in another state and delivers it by common carrier to their jurisdictions (assuming the repair services are taxable in that state). However, North Carolina and Rhode Island indicated that those services would create substantial nexus with their states.

What about whether substantial nexus would be established if an out-of-state vendor performing a taxable service sent employees into the taxing state on a regular basis to deliver tangible personal property that is incidental to the performance of the taxable service? Numerous states, including New Jersey, New Mexico and Nevada, agreed that the answer to this particular question is yes, this would establish substantial nexus.  

Arizona, Iowa and Kentucky are among the few states that reported that the hypothetical examples in all new questions on service providers would establish substantial nexus for sales tax purposes. The 2014 questionnaire asked each state to specify if a finding of substantial nexus will result for an out-of-state corporation that:

  1.  Repairs tangible personal property in another state and delivers it by common carrier to an in-state customer (assume the repair services are taxable in your state).
  2. Provides a taxable service to an in-state customer in which no part of the service, including the tangible personal property that is incidental to the performance of the taxable service, is physically transferred to the in-state customer.
  3. Provides a taxable service to an in-state customer in which tangible personal property that is incidental to the performance of the service is physically transferred (i.e., by common carrier), to the in-state customer.
  4. Transfers to an in-state customer, only by electronic means, documents that are incidental to the performance of a taxable service.
  5. Has employees that regularly (e.g., 12 or more times per year) enter the state to deliver to in-state customers tangible personal property that is incidental to the performance of a taxable service.
  6. Has employees occasionally (e.g., less than 12 times per year) enter the state to deliver to an in-state customer tangible personal property that is incidental to the performance of a taxable service.
  7. Stores tangible personal property with a third party in the state that is transferred to in-state customers as an incidental part of the performance of a taxable service.

Be on the lookout for a webinar analyzing the survey results in May.

Continue the discussion on Bloomberg BNA’s State Tax group: What standard do you think states should use to find substantial nexus based on services?

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