State and Local Taxes Guide For Small Businesses
Each of the 50 states has its own tax system that funds state and local government. State taxes vary from state-to-state. For small business, the most significant state taxes include income taxes on individuals and corporations; state payroll taxes state sales taxes; and other taxes, such as use taxes, excise taxes, documentary and stock transfer taxes.The mix of taxes the states utilize to finance their activities can vary markedly from state to state. For example, seven states don’t have income taxes, while five have no state sales taxes. In this guide we’ll provide tips and resources for small business owners to gain a better understanding of their local and state tax requirements.
In most states, income taxes are imposed on both individuals and corporations. The only states without income taxes are Alaska, Florida, Nevada, South Dakota, Texas, Washington or Wyoming. New Hampshire and Tennessee impose income taxes on dividend and interest income only.
Most small businesses are operated as sole proprietorships or through pass-through entities—partnerships, limited liability companies (LLCs), and S corporations. The business owners pay state income tax on their business profits on their individual tax returns at individual tax rates. The businesses themselves generally pay no taxes. One notable exception is California which imposes a minimum $800 franchise tax on LLCs and S corporations.
Most state income tax laws parallel the federal tax law. Indeed, most states simply charge a percentage of the income shown on your federal income return. Depending on your income and the state in which you live, these percentages range anywhere from less than 1% to over 13%. You’ll also have to file an annual state income tax return with your state tax department. In all but five states—Delaware, Hawaii, Iowa, Louisiana, and Virginia—the return must be filed by April 15, the same deadline as your federal tax return.
If your business is established as a regular “C” corporation, your corporation will likely have to pay state income taxes and file its own state income tax return. State corporate tax rates range from as little as 1% to 12%. Again, it depends on the state. Nevada, Ohio, South Dakota, Texas, Washington and Wyoming do not have corporate income taxes. However, Ohio, Texas, and Washington impose taxes on business’s gross receipts. Delaware and Virginia have gross receipts taxes in addition to corporate income taxes. Some states also impose an alternative minimum tax on corporations. Many states also levy franchise taxes based on the capital stock or net worth of a business.
Each state has its own income tax forms and procedures. Contact your state tax department to learn about your state’s requirements and obtain the necessary forms. You can find links to your state’s tax agency athttp://www.taxadmin.org/fta/link/default.php.
As you are undoubtedly aware, a sales tax is a retail point-of-purchase tax paid by purchasers of goods or services. Business owners are required to assess and collect the tax and then pay it to the appropriate sales tax agency.
Almost all states impose sales taxes of some kind. The only states without a sales tax are Alaska, Delaware, Montana, New Hampshire, and Oregon. However, Alaska permits local sales taxes, while Delaware imposes a rental and service tax. Montana, New Hampshire, and Oregon impose sales-type taxes on certain types of business transactions.
All states that have sales taxes impose them on sales of goods or products to the public. If you only provide services to clients or customers, you probably don’t have to worry about sales taxes, because most states either don’t tax services at all or tax only certain specified services. Notable exceptions are Hawaii, New Mexico, and South Dakota, all of which impose sales taxes on all services, subject to certain exceptions. However, there is a growing trend among the states to impose sales tax on more and more types of services. Typical examples include data processing, debt collection, construction, and maintenance services.
If you sell goods over the Internet, and you’re not otherwise exempt, you’ll have to collect sales taxes if your business has a presence (also called a “nexus”) in the state of delivery. Your business has a nexus in a state if it has a physical presence there, such as a store, office, or warehouse. Thus, for example, a business with a nexus in Colorado must collect sales tax to orders it ships within Colorado, whether the order was made over the Internet or by some other means. If the Colorado business ships goods outside of Colorado, whether it must collect sales tax not depends on whether it has a nexus with the state into which it is shipping the goods.
For many years, some big retailers with local stores sold their products tax-free over the Internet by creating separate legal subsidiaries to handle their Internet business. However, lawsuits by several states ended this practice. (For details about actions by the states on this issue, see the Streamlined Sales Tax Governing Board’s website atwww.streamlinedsalestax.org.)
If the products or services you provide are subject to sales tax, you’ll have to fill out an application to obtain a state sales tax permit. Many states impose penalties if you make a sale before you obtain this permit. Generally, you pay sales taxes four times a year, but you might have to pay monthly if you make a lot of sales.
Each state’s sales tax requirements are unique. A product or service taxable in one state may be tax-free in another. The only way to find out if the products or services you provide are subject to sales taxes is to contact your state sales tax department. You can find links to your state’s sales tax agency here.
In addition to the sales taxes, many states also have use taxes, which are similar to sales taxes. Use taxes apply to most leases of personal property which are not covered by sales taxes. Use taxes are also applied to purchases from out-of-state vendors who are not required to collect state sales taxes. The same transaction cannot be subject to both sales and use taxes.
For more information about sales and use taxes, check out the Sales Tax Institute website.
State Payroll Taxes
If a small business hires one or more employees, it is required to pay and withhold state payroll taxes. These will make the business’s tax life much more complicated. Small businesses often hire payroll tax services to handle the paperwork involved. These taxes include:
- state unemployment compensation taxes in all states
- state income tax withholding in most states, and
- state disability taxes in a few states.
Federal law requires that all states provide most types of employees with unemployment compensation, also called UC or unemployment insurance. Employers are required to contribute to a state unemployment insurance fund. Employees make no contributions, except in Alaska, New Jersey, and Pennsylvania, where employers must withhold small employee contributions from employees’ paychecks. Employees who are laid off or fired for reasons other than serious misconduct are entitled to receive unemployment benefits from the state fund. You need not provide unemployment for independent contractors.
If your payroll is very small—less than $1,500 per calendar quarter—you probably won’t have to pay UC taxes. Contact your state labor department for details on your state’s law. You can find links to the 50 state unemployment tax agencies atwww.servicelocator.org/OWSLinks.asp.
State Income Tax Withholding
If you do business in a state that imposes state income taxes, you must withhold the applicable tax from your employees’ paychecks and pay it to the state taxing authority. No state income tax withholding is required for workers who qualify as independent contractors.
It’s easy to determine whether you need to withhold state income taxes for a worker: If your state has state income taxes and you are withholding federal income taxes for a worker, you must withhold state income taxes as well. Each state has its own income tax withholding forms and procedures. Contact your state tax department for information (find a link to each state’s agency atwww.taxadmin.org/fta/link/default.php).
State Disability Insurance
California, Hawaii, New Jersey, New York, and Rhode Island have state disability insurance that provides employees with coverage for injuries or illnesses that are not related to work. Injuries that are job related are covered by workers’ compensation. In these states, employees contribute to disability insurance in amounts their employers withhold from their paychecks. Employers must also make contributions in Hawaii, New Jersey, and New York.
Other State Taxes
A variety of other taxes are imposed by the states. For example, many states impose occupational taxes on particular types of businesses or occupations. Typical examples include accountants, attorneys, barbers, dentists, doctors, chiropractors, auto mechanics, plumbers, and real estate brokers. Many states impose excise taxes on the sale of specified types of goods such as alcohol and tobacco. All states impose taxes on gasoline on businesses and individuals alike.
You likely also have to pay local business taxes in addition to federal and state taxes. For example, many municipalities have their own sales taxes that you may have to pay to a local tax agency.
If your business owns real property, you’ll have to pay local property taxes. Some cities and counties also impose property taxes on business equipment or furniture. You may be required to file a list of such property with local tax officials, along with cost and depreciation information. Some cities also have a tax on business inventory. This is why many retail businesses have inventory sales: They want to reduce their stock on hand before the inventory tax date.
A few large cities—for example, New York City, Detroit, Michigan, and Portland Oregon—impose their own income taxes. Some also charge annual business registration fees or business taxes.
Your local chamber of commerce should be able to give you good information on your local taxes. You can also contact your local tax department.
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