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Thursday, September 5, 2019

Colorado's ‘Home Rule’ Creates Sales Tax Opportunities and Confusion Post-Wayfair, Including for SaaS


Numerous Colorado municipalities administer their own taxes because Colorado, amongst several other states, is a “home rule” state that allows municipalities significant autonomy with regards to self-governance. In Colorado specifically, Title 30 of the Colorado Constitution grants municipalities with a population greater than 2,000 the power to self-govern. Currently, there are over 70 self-governing municipalities in Colorado, including Denver.

However, specifically in regards to software-as-a-service (SaaS) sales, this can create a disconnect between Colorado’s sales tax rules and a Colorado municipality’s sales tax rules. For example, SaaS is not subject to the 2.9% sales tax by the state of Colorado, but Denver subjects SaaS to a sales tax of 4.31%. As such, a SaaS company may have nexus but no sales tax liability in the state of Colorado AND at the same time also have nexus with significant sales tax liability in Denver.

In this post-Wayfair world, this incongruous taxability of SaaS (and other types of sales/products) in various states has led to widespread confusion made worse by Wayfair, and left many taxpayers outside of Colorado unsure of which rules apply: those before Wayfair or after.

In Detail

As covered in a previous Tax Alert, as a result of the Wayfair decision, many states have adopted economic nexus provisions requiring sellers that exceed a threshold of sales in their state (most commonly $100,000 or 200 transactions over the prior 12 months) to collect sales taxes, even if they do not have a physical presence in that state, which was the pre-Wayfair nexus standard.

Specifically, on May 23, 2019, Colorado Governor Jared Polis signed House Bill 19-1240, which adopted economic provisions post-Wayfair that required retailers to collect not only sales and use tax for the state but also all state-administered municipal taxes when the vendor has physical or economic presence in the state. The state-administered municipal taxes are the taxes collected from the municipalities with a population of less than 2,000.

However, there are various self-governing Colorado municipalities that have not yet adopted Wayfair economic nexus provisions. As such, these self-governing municipalities will likely continue to require a physical connection with the jurisdiction in order to create nexus and therefore be subject to the self-governed municipalities’ sales and use taxes. (Ref. Denver’s Tax Guide Topics No. 18 and No. 70.)

This inconsistency between state-administered and self-governing municipalities often leaves taxpayers confused and opens the door to inappropriate collection or lack of collection of sales tax from customers.

Example 1: Assume ABC, Inc. (a SaaS company) has Colorado sales of $200,000 ($80,000 of sales to customers located in Denver, which is a self-governing Colorado municipality that taxes SaaS at 4.31% and another $120,000 to customers in Granby, a city that has state-administered sales taxes at 4%). Pursuant to Colorado’s economic nexus provision, ABC, Inc. has economic nexus in the state of Colorado as total sales to Colorado customers exceed $100,000.

So where is ABC, Inc. required to collect sales tax?

  • State of Colorado – has economic nexus but NOT required to collect as the state of Colorado does not tax SaaS for sales tax purposes.
  • Granby, CO – has economic nexus but NOT required to collect from Granby customers as Granby is a state-administered municipality and therefore does not tax SaaS for sales tax purposes.
  • Denver, CO - has economic nexus in Colorado; however, although Denver is a self-governing municipality and taxes SaaS, ABC is not required to collect the 4.31% sales tax from Denver customers on SaaS sales because Denver has not separately adopted Wayfair legislation and physical presence is therefore still required.

Insights

This is a fundamental and ongoing change in state and local taxation and requires taxpayers to conduct a state-by-state analysis, as well as potentially needing a by municipality/locality analysis to identify where there is now a tax collection obligation. If an appropriate level analysis is not completed, taxpayers become liable for what would otherwise be a pass-through tax to their customers for each month that sales tax is not collected under this new legislation. These liabilities likely are “certain” and must be accrued in financial statements pursuant to ASC 405 (Liabilities).

Similar to Colorado, many states’ new economic nexus provisions have already taken effect, making this an issue to be addressed sooner rather than later and one that we will likely continue to see.

However, as of now, Denver and the other 70+ home rule jurisdictions join all but three remaining states in implementing Wayfair-specific legislation and are likely to continue to determine nexus based on the pre-Wayfair physical presence standard.

To evaluate the state tax impacts of Wayfair as it relates to your specific tax situation, or to request a Wayfair nexus analysis, contact: Malcolm Ellerbe, CPA or Alex Thacher.

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