A growing number of dealerships today are operating stores in different cities and states. If your dealership is one of these, you may be responsible to other municipalities and states for payments of state and local income and sales and use taxes.

Many state and city governments are ramping up enforcement of filing requirements of out-of-state companies as they attempt to balance their budgets. This makes it critical that you understand your dealership’s filing requirements.

The role of nexus

Liability for making state and local tax payments is based on the concept of nexus. In other words, is enough business activity taking place in a city or state so that you’re considered to have a presence there from a taxpaying standpoint? If so, you have nexus in that location and are subject to its taxing jurisdiction.

States levy different types of taxes, such as income, sales and use, franchise, and payroll taxes. Different standards of nexus apply to different kinds of taxes. So, for example, if your dealership has income tax nexus in another state, you must file an income tax return and pay income tax in that state.

Several different scenarios can trigger nexus other than merely having a physical presence — such as a dealership location — in a different state. For instance, if your dealership is located near a state line and any of your employees reside in the next state over, you could have nexus in that state.

If dealership employees or independent contractors perform vehicle repairs or warranty work on your behalf in another state, or if you lease or own property there (including vehicle inventory), you also could be subject to that state’s income tax.

While sales tax nexus is usually created by any kind of physical presence, there are situations where income tax nexus isn’t created by physical presence. Federal law P.L. 86-272 protects taxpayers from income tax nexus when the only physical presence the taxpayer has in a state is for solicitation of sales of tangible property.

For example, suppose that an employee or independent contractor solicits vehicle orders in a particular state. But the orders are accepted by the dealership at its home office outside the state and filled from inventory outside the state. In this scenario, income tax nexus won’t be created. This example assumes that this is the dealership’s only activity in the other state.

A simpler approach

From a sales tax perspective, if your dealership has any kind of physical presence in a state, sales tax nexus applies there. This may include selling vehicles online to customers in other states and shipping vehicles to customers in other states. Of course, sales taxes are paid by buyers. But if your dealership has nexus in a state, it has a requirement to collect and remit the sales tax to the state taxing jurisdictions.

Meanwhile, you generally must collect and remit payroll taxes in each state where your employees live. If any of your employees live in a state different from where they work, your dealership could owe payroll taxes in both states. Check to see if there’s a reciprocation agreement between the states that would negate this requirement.

Relief from penalties and interest

If a state discovers that a dealership has nexus and is subject to tax, the state can require the dealership to file tax returns and pay taxes, plus penalties and interest, for as many prior years as the dealership had nexus in the state. But dealerships that are proactive in identifying nexus in other states can reduce the potential liability in some cases.

Most states offer voluntary disclosure programs whereby dealerships come forward with their desire to take care of prior liabilities. In exchange for cooperation, the state usually agrees to limit its lookback to a certain number of years, instead of the beginning of nexus. Also, penalties are usually waived on the taxes paid.

Dealerships must approach the state first, however. Dealerships that are discovered by the state or have previously filed returns in the state aren’t typically eligible to participate in the voluntary disclosure program.

Get advice

Consult with author Dylan Schneider, CPA via e-mail or phone (859.514.7803) or your MCM professional for more details about your potential state and local filing requirements. Don’t leave your dealership vulnerable.