U.S. State Tax: Does it apply to your business?

In the United States, each state has its own tax system, with specific rules, obligations and tax credits.

Canadian businesses exporting to the U.S. may have some state tax obligations in those states where they do business. The criteria vary by state.

These obligations are in addition to their U.S. federal tax and commodity tax obligations.

Additionally, many states have a variety of tax levying methods which could be based on income tax, gross receipts or net assets in the state, minimum gross receipts, etc.

According to the Tax Foundation’s 2019 tax rates, 44 states impose a corporate tax, with rates ranging from 2.5% to 12%. Four states (Nevada, Ohio, Texas and Washington) impose a gross receipts tax instead of corporate income taxes. The combined rate of the state corporate tax and U.S. federal tax (21%) is an average of about 25%, considering that state tax is deductible from federal tax.

Do you have nexus?

Nexus means you have a taxable presence in each state where you do business because you have a sufficient connection with the state.

Each state has its own definition of nexus, as a result, the types of activities that create a taxable presence vary from state to state. Generally, the following activities create nexus:

In some states, an economic presence may be sufficient to create nexus. The volume of sales in a state (in dollars and as a percentage of total sales) determines the level of economic presence that triggers nexus.

Note that the criteria for determining nexus for state tax differ from those for commodity tax purposes.

Tax exemptions

In many states, even if you have nexus, you may be exempt from the state income tax (and other types of tax, depending on the state), under Public Law (PL) 86-272.

In this case, your activities in the state must be limited to those stipulated in PL 86-272, i.e. soliciting the sale of tangible property (but not services).

Also of note, PL 86-272 is a federal law, and some states will not apply it to foreign corporations.

Additionally, if you have nexus, you may also be exempt from paying tax in states that are parties to the Convention Between Canada and the United States of America.

In this case, you must not have a permanent establishment in the state, as defined in the tax convention. For example, the presence of an employee in the U.S. who has authority to sign contracts is considered a permanent establishment but using independent agents or simply storing goods are not (for more information on this topic, consult our U.S. federal tax article).

Tax returns

You are required to file tax returns in every state where you have nexus within three and a half months from the end of your fiscal year end (two and a half months if it ends on June 30th). You can, however, apply for a six-month extension by paying the estimated tax.

Some states do not require the filing of tax returns if you use PL 86-272.

To summarize, there are numerous considerations when it comes to your tax obligations in each U.S. state where you do business. We invite you to contact our team if you have any questions in this respect.