Is Your Business Selling Items Online Across State Lines? Here's What You Need to Know

If you're running a small or mid-sized business that sells online nationwide or ships products to customers in other states, you might be dealing with a greater number of tax obligations than you realize. The rules around state taxes have changed significantly in recent years, and what used to be straightforward has become quite a bit more complicated.

The good news? Understanding these rules doesn't have to be overwhelming. Let's walk through what you need to know about selling across state lines understanding your responsibilities when it comes to sales tax, income tax and state registration.

Understanding State Tax Nexus

The concept at the heart of all this is something called "nexus." Think of it as the connection your business has with a state that gives that state the right to tax you.

There are two main types you should know about:

Physical Nexus

This one's pretty straightforward. If you have any physical presence in a state, you've likely created nexus there. That includes having employees (even remote ones), storing inventory in a fulfillment center, maintaining a warehouse or office, or even sending contractors to work in that state temporarily.

Economic Nexus

Here's where things get more interesting. Back in 2018, the Supreme Court ruled in South Dakota v. Wayfair that states could require businesses to collect sales tax, even without any physical presence. Now, if you hit certain sales thresholds in a state, you're on the hook for collecting their sales tax.

Most states have landed on $100,000 in annual sales as their threshold, though some also look at transaction counts (typically 200 or more separate sales). A few larger states have set the bar higher at $500,000. The key is that these thresholds can creep up on you, so it's worth keeping track of where your sales are going.

Sales Tax and Income Tax: Two Different Animals

It's important to understand that sales tax and income tax are separate issues, and nexus works a bit differently for each.

Sales Tax

When you sell something to a customer, the state where that product gets delivered is generally the state that can tax the sale. But you're only required to collect that state's sales tax if you have nexus there and you've registered with their tax authority.

If you don't have nexus in a state, you typically don't collect their sales tax. (Though technically, the customer is supposed to pay a "use tax" on their end) Once you cross that state's economic nexus threshold, though, it's time to register and start collecting.

Income Tax

Income tax nexus can be trickier. Your home state will generally tax all your business income, even if some of it comes from customers elsewhere. But other states might also want a piece of the pie if you have enough activity there.

Having remote employees or contractors in a state, performing services there, storing property or inventory, or even licensing intellectual property that's used in that state can all create income tax nexus. The rules vary quite a bit from state to state, and income tax nexus tends to be triggered more easily than sales tax nexus.

As discussed earlier, both physical presence nexus and economic nexus can apply to sales tax and income tax. For income tax purposes, however, some states go a step further by adopting factor-based nexus standards. Under these rules, a business can establish nexus if it exceeds specified levels of in-state economic activity, even without employees or property in the state. Common thresholds are based on in-state sales (for example, $100,000 or $500,000 of receipts), and in some states also include thresholds for in-state property or payroll. If a business exceeds one of these thresholds during the year, it may be required to file an income or franchise tax return and apportion a portion of its income to that state. Because these standards vary widely, and often differ from sales tax economic nexus thresholds, businesses with growing multistate revenue can unintentionally trigger income tax filing obligations despite having no physical footprint there.

Don't Forget About Franchise Taxes

Some states also impose what's called a franchise tax, which is basically a fee for the privilege of doing business there. Unlike income tax, franchise taxes typically aren't based on your profits. Instead, they might be calculated based on your net worth or capital, your gross receipts, or a flat fee depending on your business type or size.

Texas charges a margin-based franchise tax, for example, even though the state doesn't have a traditional income tax. California imposes a franchise tax that applies regardless of whether your business is profitable. Here's the kicker: franchise taxes can apply even if your business doesn't owe any income tax in that state, so they're worth factoring into your total state tax burden.

When and How to Register

Once you've established nexus in a state, you'll need to register with that state's tax authority before you can legally collect sales tax, file a state income tax return or claim exemptions or deductions related to out-of-state business activity. This isn't optional, and states can impose penalties and interest for failing to register when you should have. Failing to register can lead to back taxes, penalties and interest, as well as audits and administrative complications, so this is very important to take care of.

If you discover you should have been registered years ago, don't panic. Many states offer Voluntary Disclosure Agreements (VDAs) that let businesses come into compliance with reduced penalties and limited lookback periods. These agreements are often anonymous until you commit, which can make the process less stressful. If you think you might have missed registration requirements, a VDA is usually your best path forward.

What About Public Law 86-272?

You might have heard about Public Law 86-272, a federal law that offers some protection from state income taxes. But it's important to understand its limits because they're pretty narrow.

This law only applies if your business exclusively sells tangible personal property (think physical goods you can touch), your only activity in the state is soliciting orders, and all orders are approved and shipped from outside that state. It doesn't protect you from sales tax obligations at all, and it won't help if you're selling services or digital products.

The protection also disappears if you do anything beyond basic solicitation. Product installation, in-person delivery, training, or even certain website features might disqualify you. The Multistate Tax Commission issued guidance in 2021 suggesting that things like live chat, virtual product demos, or accepting returns through your website could count as activities beyond solicitation. Not all states have adopted this narrow interpretation yet, but it's something to be aware of, especially if you're relying on this law for protection.

Practical Steps to Stay Compliant

Start by mapping out where you have any physical presence—offices, warehouses, inventory storage, employees, contractors or even trade show attendance. Treat each of those states as places where you likely have nexus for both sales and income tax purposes.

For all other states where you're shipping products, keep track of your annual sales and transaction counts. Compare these numbers against each state's economic nexus thresholds. You'll want to review this regularly, maybe quarterly, so you don't accidentally blow past a threshold without realizing it.

Once you cross a threshold, get registered promptly and start collecting sales tax on new orders. Many businesses use automated tax software to handle the complexity of different state rates and rules. If you're dealing with multiple states, this kind of automation can save you considerable time and reduce errors.

The Bottom Line

Selling across state lines opens tremendous opportunities for business growth, but it does come with real tax responsibilities. The key is being proactive rather than reactive. Understanding your nexus footprint, knowing when to register, and staying on top of your obligations in each state will help you avoid unpleasant surprises down the road.

If your business is already selling online and crossing state lines, now is a good time to review your multistate tax situation. The Kerkering Barberio State and Local Tax team can help you figure out where you have nexus, confirm where you need to be registered, and assess any risks related to income tax or Public Law 86-272. We can also help you take advantage of voluntary disclosure options, if needed.

Reach out to your KB team member at (941) 365-4617 or (800) 966-8676 to discuss how we can help you navigate complicated state business tax regulations. We're here to help you focus on growing your business while staying compliant.