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US Sales Tax - Sourcing

Sourcing is the site, or location, at which sales tax is calculated.

Sourcing determines the “tax situs” of a transaction.  Put simply, the tax situs is the location where sales tax applies. Heads up: the terms “sourcing” and “situs” are often used interchangeably.

The real importance of sourcing comes into play in states that have local county, city, and/or district taxes (versus a single rate state: a state, like Massachusetts, where the sales tax rate is the same 6.25% at every location in the state). Sales tax present at the local levels, in addition to the state level tax, causes more complexity when determining the proper sales tax for a particular transaction.

Types of Sourcing

There are commonly two types of sourcing rules, referred to as “destination-based” and “origin-based.”  Most states utilize destination-based sourcing, but there are handful of states that we will list below that utilize origin-based sourcing.

  • Destination-based sourcing means that you charge sales tax at the “ship-to” address.
  • Origin-based sourcing means that you charge sales tax at the “ship-from” address.

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Destination-Based Sourcing (Most Common Method)

When a state utilizes destination-based sourcing, it means sales tax is collected based on the location of the purchaser.

Destination-based sourcing is the more common method of sourcing transactions intrastate -- from one place in the state to another; i.e. a transaction from Boston, MA to Salem, MA. With this method, taxable sales are sourced based on the location at which your customer receives their product. This is referred to as the “ship-to” location.

  • For example, when you sell your customer a widget, where do they receive it? If you ship the widget to their house, their home address is where your customer receives the widget, and their home address is then the proper situs of the transaction. Alternatively, if the customer picks up their widget at your store, the address of your store is where the customer receives their product and then that is the proper situs of the transaction.

Origin-Based Sourcing

Origin-based sourcing, a less common method of sourcing intrastate transactions, means that you charge tax at the “ship-from” location. In other words, sales tax should be collected based on where you, the seller, are located.

  • For example, let’s say you live in Phoenix, Arizona. In this case, you would charge all customers located in Arizona the same sales tax rate no matter where they live. The rate you would charge them would be the applicable sales tax rate in Phoenix, Arizona. This would still be true even if you shipped your widget to a customer in Sedona, Arizona.  Only a handful of states are origin-based states. The following is a list of those states:
    • Arizona
    • California  -  California is unique because it is a modified origin state. The state, county and city taxes are based on the origin (the ship-from address), but district taxes are based on the destination (the ship-to address).
    • Illinois
    • Mississippi
    • Missouri
    • New Mexico
    • Ohio
    • Pennsylvania
    • Tennessee
    • Texas
    • Utah
    • Virginia

Inter-state Transactions

Under the law of the Constitution of the United States and several precedents set by Supreme Court cases over the years, transactions which occur between locations in two different states, are sourced to the destination.

  • For example, this means that when a widget is sold by a Rhode Island business to a customer located in Iowa, the Rhode Island business would collect sales tax based on the location of their customer in Iowa BUT only if the Rhode Island business had an obligation to collect sales tax in Iowa. This obligation revolves around nexus rules.

Sourcing Services

Products and services are generally sourced differently due to the nature of the transaction.  Generally, for most services, states will say the situs is the ship-to location. As such, tax will calculate based upon the location where the services are performed.

  • For example, a landscaping company that has a business address or storefront location doesn’t perform services at their business location, but rather performs their services at their customers’ locations.  For this example, states will say the situs is the ship-to location and the tax will calculate based upon the location where the services, such as lawn mowing, are performed.

This applies in both origin-based and destination-based states.  Some states even have special rules regarding the sourcing of service-based transactions. Check your local and state laws when you enter into business.

For more information about sales tax in QuickBooks Online see Set up and use Automated Sales Tax

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