Can SaaS Companies Afford to Ignore Sales Taxes and VAT? -
One of the things I've observed while working is the widespread tendency for SaaS as well as software firms to not pay transaction-related taxes (sales taxes, VAT, GST, and so on. ).
And I get it.
Sales taxes, VAT, and GST are complicated, confusing and not something software leaders want to spend their time.
But also, you should be aware that not paying taxes related to transactions can lead to a risk that goes beyond the payment of certain back taxes sometime in the future.
In one of my chats with the Global Tax Director of's Rachel Harding, the most knowledgeable person I have on the subject She told me:
- 40% interest and penalties Software companies have incurred 40% interest and penalties when they've ignored the sales tax laws of states.
- Multi-million dollar valuation adjustments from historical sales tax noncompliance during acquisition due diligence.
And many plus.
In answer to our own question: No, you shouldn't ignore the VAT, sales and GST taxes.
In this piece in this piece, we will discuss the five main aspects SaaS firms need to be aware of concerning taxes. Much of it is taken from my conversations with Rachel. Below, you will be able to listen to two of our chats to learn more.
5 things SaaS Companies Need to Understand Concerning Sales Taxes
1. VAT, Sales taxes on GST and Sales Taxes may affect SaaS's Value
In the time that Rachel was working on a group of tax specialists for mergers and acquisitions for small software companies she was able to observe million-dollar acquisition price increases as a consequence from tax compliance issues.
"If you're looking to have any kind of ownership change, whether it's a majority or minority investment, people are going to investigate your company," Rachel explained. "They will look at all your processes such as do you have a handle about where your product is tax-deductible? Are you following these regulations when collecting and remitting? Are you compliant? Since if you're not, the buyer will be required to rectify the issue before buying the item, or else they'll reduce the price of the purchase."
2. If You Do It Right There's no reason to owe anything Additional
"If you've done it the right way technically, then it's zero for you," Rachel explained.
Sales tax is a consumption tax, a tax to the consumer and not your company. You shouldn't have to be having to pay out of pocket. However, it's the responsibility of you to to collect taxes on the buyer's behalf, and remit it to the appropriate government agency. The buyer is responsible however, a seller's duty.
"It's when you're doing the wrong thing that it's an expense and liabilities in your balance sheet. Feasibly, you're not going to assess sales tax two years later than it was due. Then it's paid for out of pocket."
3. Consumption Taxes Are Calculated based on the location that the buyer is located, Not the Seller.
Sales tax is a complicated issue (especially in countries like the U.S.), but generally, what you need to be aware of is that sales taxes are paid where the item is realized (aka the location where your client is). The tax isn't dependent on where you are or the place of the headquarters for your business.
The most important data to source sales is billing information and computer IP address. As the name implies, SaaS is taxed similarly to products, but not services and therefore only 20 of the 45 U.S. states with sales tax regimes have tax rates that tax SaaS. In 2018if there are enough taxable sales in a region that exceeds the specified limit, then you're legally considered to be an economic nexus (a huge shout-out to South Dakota v. Wayfair for this concept! ).
A threshold for sales is the amount of sales you have in a specific region before you are required to submit taxes. Every tax area (whether it's at a national, state, territory, or even a national at a global level) is unique in defining the threshold.
4. The Tax Laws and Regulations have Significantly changed in the last 10 Ten
Sales taxes, VAT, and various other taxation related to transactions have seen a significant change over the last ten years. Certain changes are more significant than others, but they've changed the landscape entirely.
2015: EU Tax Collection Requirements From Non-EU Software Companies
1 January 2015 on the 1st of January, 2015, the EU has begun requiring software providers to collect and pay VAT according to the location of the purchaser and not on the address of the business or its employees.
The VAT rates are determined by each country. This means that the country is responsible to keep up with any the changes in these rates at a country level.
2018: U.S. Votes That States Can Collect Sales Taxes From Non-Resident Businesses
In the year 2018, in 2018, the U.S. Supreme Court ruled that states can impose sales tax on purchases through sellers located outside the state (including online sellers) regardless of whether the seller is not located in any physical presence within the state that taxes it ( South Dakota v. Wayfair, Inc.). (A.k.a. why we wrote this article since now nonresidents and businesses of all sizes must be aware of sales tax and the way it is applied.)
The U.S., sales tax rules vary state by state. Florida and California do not require collection of sales taxes on SaaS subscriptions. But New York and Pennsylvania do.
Then, in 2020, Massachusetts changed the classification of SaaS fees in 2020 as "personal tangible property," which means SaaS subscriptions now are subject to sales taxes in the state.
In our conversations, Rachel offers other examples of how tax laws are shifting to SaaS businesses around the globe:
"We have seen, over the globe, governments adopting rules that target companies that are not resident in the country and provide digital goods as well as services. Certain countries will set a minimum amount for sales while some will state that every dollar of revenue is taxed."
5. Global Consumption Taxes Keep Getting More Complex
New tax mandates are being passed that directly impact SaaS. In the near future, in various countries around the world, SaaS companies running digital platforms could be required to disclose all sellers using their platform.
How come tax laws have become more complex?
Nations are aware of the loss of the tax revenues from digital sales which software firms aren't revealing.
In the process, they're finding new ways to monitor the movement of money in their state or across the country, and also enforce their collecting.
The 4 Ways SaaS Companies Can Manage Sales Taxes and VAT
How do SaaS businesses determine all the taxes they need to be withheld and pay all over the world?
There are four approaches that we have observed SaaS companies take to fulfill their tax obligations related to transactions:
1. Don't Pay Attention
As we've described in this post, not paying sales tax is a frequent practice, but it could leave your company with years of back taxes or fees and penalties. The period in which this method will work are vanishing. While online shopping continues to grow, so is the motivation and capacity to control it.
2. Do It Themselves
Tax preparation on your own is a good option for companies that have the resources to manage it effectively with an in-house team.
However, it's not as simple as plugging an automatic tax tool to the sales system you use.
SaaS firms also must be thinking about:
- Ensure that your information is clean and accessible.
- Understanding what's taxable and the rates to charge.
- Monitor tax thresholds so you know when you'll have to pay taxes as well as file tax returns.
- Paying the right amount and submitting returns by the deadline for all tax jurisdictions where there is an obligation. It could be a monthly, quarterly, or annually.
- Keeping up to date about changing tax laws and regulations.
- Responding to inquiries and notices by tax authorities. Are they phishing, or are they a legal matter?
It can be a burden to a department that does not have technical expertise and cause resentment and increased turnover.
3. Hire an Accounting Firm
When you decide to outsource your tax obligations, there are lesser internal resources to be utilized however it will cost more. Instead of a custom method, employing an accounting company usually implies that they'll follow a more conservative strategy and ensure compliance to the maximum extent even though you'd prefer to have a more personalized approach.
The perspective is one that only an inside tax professional can provide -- one that requires understanding the business, its strategies, tax regulations, and the ways in which they are all interconnected.
4. Use an Merchant of Record (MoR) and outsource the Liability
We are the official merchant for all transactions on your site which means we are accountable for collecting and remitting taxes on your behalf. If you're looking to handle the tax rate reduction, custom taxation, tax-exempt transactions B2C or B2B -- everything is handled by us.
A merchant of record is there to assist you if there are tax audits or questions that arise. In the event of an audit We intervene to take the lead and allow you to concentrate on building and growing your SaaS business.
What's the most effective solution for your company?
Maybe this is all confusing, but the most damaging thing you can do is nothing.
As Rachel put it, "I can never promise that you won't receive an audit. But what I can assure you is that the smallest actions taken now will help you prepare for a far brighter prospects in the future."
For determining what's the most effective for your business She suggests assessing the resources available and the options.
"It's really knowing the business you operate, the footprint of your business, tax laws (duh) and the risk you're willing to accept."
Stream My Full Interviews With Rachel Harding
Part One: The Reasons SaaS Companies Can't Afford to not pay sales tax
Part Two: What Are the Stricter Tax Laws will Mean for SaaS
