Ecommerce merchants frequently make tax-exempt sales to resellers, not-for-profits, and other entities. Sales tax auditors are increasingly scrutinizing exemption claims, which, if poorly documented, could result in merchants paying fines, interest, and back taxes.
As time and technology move forward, sales tax auditors’ focus has shifted. A generation ago, sales tax audit assessments were typically based on calculation or simple reporting errors. Incorrect rates, inaccurate assignments of customer address jurisdictions, incomplete forms, and even plain old mathematical mistakes were commonly identified by auditors.
Universal adoption of spreadsheet software and integrated enterprise resource programs has reduced the number of calculation mistakes in tax compliance. This is especially true in the confounding realm of indirect tax — taxes paid by companies on behalf of consumers — where a lot of unique information is processed daily. The adoption of software for sales tax calculation and reporting has further conquered many of the errors.
This reduction in calculation errors has left auditors searching for assessments in other areas. Nowadays, auditors are discovering assessable errors in sales tax exemption certificate management. Merchants who make sales to other businesses or exempt organizations can find themselves open to negative audit results if their exemption documentation management is lacking.
Nowadays, auditors are discovering assessable errors in sales tax exemption certificate management.
Ecommerce sellers face an additional challenge in managing exemption certificates, as they rarely have direct face-to-face contact with their customers and, therefore, may be vulnerable to spotty execution of certificate management standards.
The most common form of exemption is for resale, where a buyer purchases items with the intent of selling them to retail customers. However, there are many other exemption types, including agricultural, manufacturing, construction, government entities, and not-for-profits. All of these require documentation. The specific forms and record-keeping obligations vary by state, but the requirement that exempted sales are documented and supportable is universal.
Exemption Management
At an early point in the growth of an ecommerce company, the manner and process of accepting sales tax exemption certificates should take some priority. Accepted certificates or additional documentation are important business records. Their absence or lack of validity can have serious consequences for a seller in an audit.
In the event of a request from an auditor, sellers must be able to quickly produce a valid exemption certificate or similar documentation corresponding to an exempt sale. All exempted sales based on a recognized exemption must be documented. Otherwise, the seller risks owing taxes that should have been collected plus penalties and compounding interest.
Address your company’s exemption certificate management by looking at your sales cycle. For example, it might make sense for salespeople to collect exemption documentation in person, or perhaps this responsibility is best left to other functional stages in the sales cycle.
In the event of a request from an auditor, sellers must be able to quickly produce a valid exemption certificate or similar documentation corresponding to an exempt sale.
Discuss the importance of exemption certificate procurement with sales, operations, accounting, and invoicing functions. Develop a repeatable process with checks to obtain and validate exemption certificates.
For ecommerce sellers with buyers spread across the country, build the capability for collecting exemption documentation in all sorts of ways, such as a secured online portal, email attachments, U.S. Postal Service, and (if you still own one) a fax machine.
Don’t build processes that function only when things go just right. For example, think about how to handle a sale where the customer has not yet provided a valid certificate. Is the sale completed with tax or is the sale canceled? Plan for situations when a customer is billed sales tax but later produces a valid exemption certificate. And some customers may insist they are exempt but never produce a valid certificate. Develop a policy to handle these scenarios — in advance.
Establish a process to occasionally review exemption documentation you have already accepted. Remember, some certificates have expiration dates. Other certificates may be very narrow in the type of products or services they apply to. In most cases, a seller has some explaining to do, and maybe a check to write, if exemption documentation is lacking.
Technology, Certificate Management
Many ERP systems offer some level of tax exemption functionality. But often these functions are basic and require significant input and effort from the seller. However, even a simple exemption function backed by documented, repeatable processes will be of great value.
Automated sales-tax-calculation software often includes exemption-certificate-management features. The most robust of these provide no-touch exemption documentation procurement and validation for sellers.
In fact, an exemption certificate management system that is integrated with sales tax calculation and filing functions can streamline the exemption workflow almost to the point of invisibility. There are also providers of stand-alone exemption certificate management solutions with similar capabilities.
…an exemption certificate management system that is integrated with sales tax calculation and filing functions can streamline the exemption workflow almost to the point of invisibility.
Full-service exemption-certificate-management software will typically provide multiple portal types for customers to submit exemption documentation. The services provide a validation process to ensure all documentation is complete. A robust offering will codify the exemption documentation received to ensure only sales of items covered by a submitted exemption certificate are actually exempted.
As is often the case, a technology solution may not be the first stage of a company’s exemption management journey. But companies that make an effort to build reliable and accurate processes around sales tax exemption documentation early in their life will be best prepared to adopt the right technological solution when the time comes.