Tax on digital goods is a complex matter in the USA. You need to check various aspects to find out how you will be taxed.
Until not too long ago, goods such as books, music, and videos could only be purchased in a physical form – paperbacks, CDs or DVDs.
Nowadays, such goods can be delivered electronically to the clients, in the form of e-books, online or downloadable music and videos. The sales of such products have increased exponentially in recent years. In the meanwhile, sales of their tangible versions have decreased sharply.
When these intangible goods hit the market, the American sales tax system was focussed solely on the sales of physical goods and found itself in a predicament when it came to taxing digital goods. It took a while for it to adapt to this new type of products and set up an adapted taxation regimen.
To this day, the subject of digital goods remains complicated, as there is yet to be a uniform taxation process across the United States.
Sales tax in the USA
One of the first things to remember is that there is no uniform sales tax in the United States. It is therefore necessary to check whether or not you are subject to sales tax State by State.
Each individual State may decide:
- Whether or not to charge a sales tax;
- The sales tax rate;
- How digital goods will be taxed.
These aspects vary greatly from one State to the next.
Recently, State governments have been increasingly active in updating their sales tax policies so as to include digital products in the list of taxable goods.
The taxability of digital goods is still quite a recent concept, and it is changing constantly. It is therefore essential to check the latest updates on the topic with the State Governments related to your activity.
What are digital products?
General definition of “digital products”
In general, digital products (or digital goods) refer to a wide range of goods one can purchase online and access only through a device such as a computer, smartphone or tablet.
They exist only in electronic or digital format.
If media goods like music, videos, eBooks, online newspapers and magazines are obviously digital goods, there are also less obvious items such as: web radios, online TV, electronic tickets streaming media, webinars and online classes, etc…
We will exclude software from our definition. Oftentimes, they enter a different category altogether, which includes SaaS (Software as a Service), IaaS (Infrastructure as a Service) and PaaS (Platform as a Service).
State definitions of “digital goods”
The States that do tax digital products do not all use the same definition. Here are the three possibilities your business may face:
States that use their own definition.
Certain States will have set up their own definition of digital products, like Connecticut for example. You will need to check with each State’s administration to find out the exact definition and how much tax you need to collect.
States that do not use any definition.
Some States do not have a clear definition of digital products. In these States, case law might influence the definition of digital goods.
States that use the Streamlined Sales Tax definition.
The Streamlined Sales and Use Tax Agreement (SSUTA) is an agreement that was implemented in an attempt to create harmonized sales tax across the United States. It provides a number of definitions for taxable goods, which include digital products. As of now, 23 States are fully compliant members of the Agreement. One is an Associate member (soon to be full member). A number of other States also receive support and guidance from the SSUTA’s governing board even if they are not members of the Agreement.
How can digital goods be taxed?
Please do note that you will first need to check if you have a nexus in the state(s) where you are performing your activities. If you do, you will be liable for sales tax in the state(s) you have a nexus.
As each American State has its own independent administration, the way digital products are taxed will also vary depending on the State(s) in which you are selling your goods. There are several possible scenarios:
The State explicitly taxes digital products by means of a digital sales tax or equivalent.
The State does not have a digital sales tax per se but still taxes certain digital products under a variety of taxes that encompass a wider range of products. In fact, a tax on entertainment products may apply to the contents available on streaming platforms such as Amazon Prime and Spotify. For example, a ruling from Chicago’s department of finance that took effect on July 1, 2015 determined that its amusement tax applied not only to amusement one spectates in person, but also to internet-based entertainments such as streaming services (Hulu, Disney Plus, Deezer, etc…). In this particular case, the tax applies to digital products “rented” on the internet but not to digital sales of permanently downloadable goods.
However, these downloadable goods may nonetheless be subject to a different tax.
- The State does not have a retail sales tax altogether so digital products will be exempt from tax. This scenario applies in only five States: Alaska, Delaware, Montana, New Hampshire and Oregon.
In conclusion, the taxation of digital goods is a topic of great complexity and diversity. It is evolving constantly as new directives are issued and what applies to one State may not apply to the others. Furthermore, there is a constant influx of new digital goods and services. The pace at which the law businesses need to adjust is likely to remain the same, or even accelerate. Few companies may have the means to deal with the constant changes. They may well need to consult specialists or externalize their tax declarations in order to avoid the risk to file them incorrectly.