As companies expand and begin to sell, deliver, and/or maintain products in multiple states, there are tax impacts that need to be researched and understood. Recognizing the different variables that trigger the requirement to file a state income tax return is vital in developing a growth strategy. The following are five of the most commonly asked questions regarding Income Tax Nexus.
1. What is nexus?
The term nexus is used to describe when a company has a “presence” in a state and is required to file a state income tax return. Nexus describes a state’s ability to tax a company’s income given the company has a sufficient connection with that state.
2. How do I determine if I have nexus in another state?
Determining if a company does or does not have nexus is difficult at best. Public Law 86-272 is vague when defining activities that would determine nexus. When researching activities that would create nexus, it is recommended to look at state specific guidance in the form of statutes and court rulings. Several states have even created a “bright-line” test to assist entities in determining if they have enough activity to create nexus.
3. What type of activities are not protected under Public Law 86-272?
Public Law 86-272 lists a few activities that are not protected and will create nexus:
- If an office branch is opened in a new state
- If a service is provided with the product sold, such as maintenance, installation, or supervision of installation
- If intangibles are sold, such as franchises, patents, copyrights, trademarks, and service marks.
- If a company leases or rents certain tangible personal property within a state
4. I have an independent contractor that works in a different state. Will this create nexus?
Independent contractors have additional protection under Public Law 86-272. If an independent contractor partakes in the following activities, the company they are working with will not be subject to nexus:
- Soliciting sales
- Making sales
- Maintaining an office
However, it should be noted that if the independent contractor maintains a stock of goods in the state for purposes other than display and solicitation, the underlying entity will be subject to nexus in that state.
5. I have determined that I do have nexus in another state. What are the next steps?
Each state has their own rules and processes, but generally the next step would be to register with the Secretary of State; many jurisdictions allow this process to be completed online and it will include a filing fee. After registration, the company can begin conducting business in the state, which includes any of the following but is not limited to, sales tax collection and remittance, payroll tax withholdings, and utilizing any states benefits for new businesses.
Overall nexus is a very important factor to consider when planning out a growth strategy. Income tax nexus has many complicated variables that affect whether or not the company’s activities are protected from creating nexus.
