Sales Tax Sourcing: Using the Right Tax Rules for Your Transactions

Sales tax combines great detail and granularity, and even if it is a fundamentally simple tax, determining where to start is not always obvious.

When I speak to non-sales tax pros, I usually start with a seemingly simple question: which sales tax laws apply to a given sale?  Not in the granular, individual item sense, but at a higher level.  As in, which state or local government’s rules?  Which rates, filing requirements, taxability rules, exemption rules, etc. must a seller adhere to when they make a sale from Point A to Point B?

The questions relate to the concept of sourcing.  The “Sourcing” of a sales tax transaction describes the “source” of the rules that apply to a given sale.  Establishing the appropriate “sourcing” for your sales is not always intuitive, but here is a quick refresher to help you ask the right questions.

What rules? 

Rules apply to a given sale transaction.  For sales tax purposes, the sourcing rules help a vendor determine:

1. Whether the object sold is subject to sales tax (carefully analyze the objects sold),
2. The rate to be charged (may vary based on product or service type),
3. Geographic boundary location (a single address can be part of several jurisdictions),
4. Appropriate reporting and filing requirements (returns are not uniform), and
5. (This list could go on but you get the idea).

The “Source” of the rules for a given transaction vary depending on the nature of the sale.  Rules are generally applied in one of two ways:

1. Origin Sourcing: determined by location of the vendor.
2. Destination Sourcing: determined by location of the customer.

Intrastate Sales.

When a customer is in the same state as a vendor, the sale is an intrastate sale. In the majority of states, the applicable rules are “sourced” at the location where the customer takes delivery of the object, aka destination-based sourcing.

However, some states still utilize an origin-based sourcing regime for intrastate sales.  In these states, the applicable rules are “sourced” at the business location of the vendor, regardless of where the customer takes delivery of the object.  Some of the states that continue to use origin-based sourcing are Virginia, Ohio and Utah.  Other states are moving from an origin to a destination basis (Tennessee for example). Other states such as Texas use a hybrid sourcing regime that may include elements of both origin and destination rules based on the parameters of a given intrastate sale.

Interstate Sales. 

When your customer is in a different state as your company, the sale is an interstate sale: the origin and destination of the sale are in separate states.  For all interstate sales, the applicable rules are “sourced” at the location where the customer takes delivery of the object, aka destination based sourcing.