According to Wikipedia, “in computer science, garbage in, garbage out (GIGO) is the concept that flawed, or nonsense input data produces nonsense output or ‘garbage’.”
It should come as no surprise then that when computers are used to streamline the sales tax process for a business, GIGO applies.
This post falls somewhat outside the typical scope of this blog. However, I have on numerous occasions been involved in helping companies fix their sales tax coding, and on even more occasions represented taxpayers before a taxing authority when “garbage” coding resulted in a sales tax assessment that could have been easily avoided had things been set up correctly when implementing a sales tax software package.
Many reputable companies offer software solutions to taxpayers that promise to make filing state sales tax returns in multiple states quick, easy, and reasonably priced. However, if a taxpayer does not understand some basics of sales tax then even the best software solution will lead to the problems discussed above.
At minimum, a taxpayer must consider the following when setting up sales tax software:
In which jurisdictions will goods and services be sold
In which jurisdictions will the taxpayer have sales tax nexus (the “filing jurisdictions”)
In each filing jurisdiction every good and service must be coded as either taxable (with an applicable rate) or non-taxable
Whether or not some of of the taxpayer’s customers may be exempt (due to resale or for some other reason) from sales tax in some or all filing jurisdictions (taxpayer must also maintain current exemption certificates)
That one customer may have locations in multiple jurisdictions, and in some jurisdictions an exemption may be available, but not in others
Common mistakes I have seen made when building out sales tax software include assuming different states apply sales tax to one item the same way or that exemptions by type of taxpayer are the same across state borders. Similarly, I have seen taxpayers code an item as non-taxable because it is “only sold to tax exempt” entities which then later creates a tax obligation if that same item becomes popular with entities subject to sales tax.
When setting up accounting and sales tax software a company would be well advised to hire specialists in both sales tax (from a legal perspective) as well as a specialist in the software in question. Failure to understand the necessary upfront setup of sales tax software can result in expensive audit results down the road.