What is Use Tax? - Full Explanation

By: First Union | Date:

business-finance

What is Use Tax? - Full Explanation

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What exactly is use tax? Often confused with standard sales tax, UT is a form of sales tax, though it does differ from how we traditionally think of what sales tax is. UT is a tax that must be paid on things purchased outside of your state of residence but such that will be used within your home state. So for example, if you live in New York and purchase lawn equipment from a company in Utah. They will not collect sales tax on that lawn equipment. However, back in NY where the equipment is to be stored and consequently used, you would need to pay a UT which is equivalent to your localstate sales tax rate. This tax is generally remitted to the requisite state authority after the purchase is made. This type of ut is called Consumer Use Tax. There is also what is known as Vendor's Use Tax. Vendor's UT applies to sales made to customers outside of the vendor's state. In this article, we look at the concept of ut and how you can stay compliant as far as adhering to UT regulations.

Sales Tax vs. UT

As far as sales tax goes, the idea is fairly simple. A buyer purchases an item, and at the time of that purchase a tax is collected; this would be the sales tax and is charged at the localstate tax rate relevant to where the purchase was made. There are circumstances where a consumer will buy a product from a vendor in another state. The vendor of that state may not charge sales tax. In other words, the purchaser is now the one responsible for assessing and remitting UT to their state's taxing authority.

UT is often fairly hard to enforce, particularly if it's an individual buying an item from another state rather than a business making such a purchase. What it comes down to for individuals is a sort of honor system. They need to report the items purchased from out of state on their annual taxes. As businesses are generally held to tighter scrutiny, especially when it comes to tax matters, reporting and paying UT is regularly adhered to.

Buying Items Online

Many consumers nowadays do make frequent online purchases. And very often these purchases will be from vendors outside of their home state. Given this scenario, the seller will not attach sales tax to the purchase. As a result, many consumers will assume that that particular purchase was thus tax-free. This however is incorrect. Ecommerce sellers will almost always just collect sales tax where they have a "nexus." A nexus represents a physical location within a state or some form of business connection suggesting they have activity in that state.

If you are not charged sales tax on an online purchase, that means the business has no nexus relevant to your state. This again though does not signal that the purchase you made is tax-free. Rather, it means that now the burden falls upon you as the purchaser to pay the requisite use tax. When it comes to individuals buying online products, very few will assess and pay the UT required. To help rectify this issue, many states have begun passing laws aimed at remote sellers which try and shift the responsibility of paying tax on out of state purchases to the sellers.

UT and Companies

Collecting UT from businesses that purchase items from another state is often easier, as again, businesses are held to tighter tax-related scrutiny. That said, many companies aren't necessarily aware of when and on what they might need to pay UT. For example, if a business purchases equipment from an out of state vendor, they need to pay the UTrelevant to their home state. If they then move to a new location and the tax rate is higher at this new location, they'd have to remit the difference now regarding UT.

When a company gets audited, the auditors will carefully look into things such as inventory that's been resold and fixed assets to ensure that the company in question has paid the proper UT if applicable. Many auditors cite use tax errors as among the most common mistakes businesses make on their tax returns. And when dealing with certain industries to include construction and manufacturing, the use of tax rules and regulations becomes even more complicated.

Understanding

What it comes down to as far as UT is that the purchaser, be it a person or company, needs to understand the rules associated. You cannot shift blame to the seller as they are not the ones responsible for paying UT. Ultimately, you are responsible for ensuring you handle sales and use tax correctly. Some sales are exempt from use tax. If this is the case, you'll want to make sure that you get an exemption certificate showing that that purchase did not require UT.

As a business owner, you want to record all relevant purchases and UT paid on expense reports. Do the same with sales tax paid, as an auditor will red flag especially larger purchases that do not show how much tax was paid at the time of purchase, and ultimately they will expect you to pay UT if you lack a sales tax record.

One thing business owners might consider as far as keeping tabs on use tax and what consequently needs to be paid, is to automate the process. This too will provide more accurate and efficient records should the company be audited. Versus having a series of complex spreadsheets, automating to this end offers a smarter way to stay organized where your taxes are concerned.

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