Deep Dive: Let’s Make Sales Tax Less Taxing

There may be errors in spelling, grammar, and accuracy in this machine-generated transcript.

Alicia Katz Pollock: In this edition of the unofficial QuickBooks Accountants podcast, we're going to take a look at sales tax in QuickBooks online. I'm Alicia Katz Pollack at Xyz.com, and this is a class that I just taught a couple of weeks ago. Now when I teach it in my classes, it's several hours long, full of every piece of granular detail I could possibly think to include and includes demos. [00:00:30] In today's episode, you're going to get kind of the nutshell version, but if you want to see those demos and get all the skinny, then do check out my class at com. So let's go ahead and get started. So sales tax in QuickBooks online is a totally different animal than it was in QuickBooks desktop. In QuickBooks desktop, you had to actually set up all the different line items and add them individually in QBO. [00:01:00] It does it natively for the whole entire transaction, and even better, it updates the rates for you. It recognizes tax holidays, and in some states it will even pay the sales taxes for you. So the sales tax center has moved in the new interface. There's now a whole sales tax section with four tabs. One is an overview to keep tabs of your whole entire sales tax existence. There's one tab specifically for your sales tax returns. [00:01:30] There's one to track your economic nexus, and there's one for all of your sales tax settings. The first thing that we actually need to do is talk about sales tax in general, though, before we talk about how to do it in QuickBooks online.

Alicia Katz Pollock: And it's important to realize that sales tax is a liability. It doesn't ever actually show up on your profit and loss report. You're collecting sales tax on behalf of your client, of your customers, and you're storing it on your balance sheet as another current liability account. Then when you pay [00:02:00] the taxes to the state, you are just paying down that liability so it doesn't affect your income or your expenses at all. The amount of tax collected does pay attention to the invoice date so your rates will change. Maybe your state has a sales tax holiday. For example. When schools are getting ready to be in session, sometimes they'll waive sales tax on school supplies in August, things like that. It'll also pay attention to your economic nexus. In order to [00:02:30] even have to pay sales tax, your sales have to be over a certain dollar amount or a certain number of sales. If you're selling on e-commerce, it may be exempt. It might be doing the sales taxes for you, and you don't even have to touch them. A lot of the time you don't have to pay sales tax on services. It might just be on products in your state. And you do have to pay attention that certain products have special rates. Like in Florida, hair ribbons and flags have a different sales tax rate.

Alicia Katz Pollock: You also have to pay attention to where [00:03:00] you're located. I live in Oregon. We don't even have sales tax, so I get off lucky. But in other states you have state taxes, you have local taxes. You might even have use taxes as well. And in some states, it's just one tax rate for the whole state. In other states, it's broken down county by county by county. Then some states are source states or home states and others are destination states. And that basically means in some states, the sales tax is calculated [00:03:30] by the location of your company. Where is your office or your store? Other states base it off of where they're located, where the customer is located, or where you are shipping to. And in some states, it's a hybrid. Like in California, your state, county, and city taxes are based on your seller's location, but the district and local taxes are based on the delivery address where the buyer is located. So needless to say, this does get pretty complicated. When you're setting up your QuickBooks online, [00:04:00] you will set up agencies for each state that you are collecting sales tax from, and if your state has counties, you will also set up the individual counties. Then it will ask you for your filing frequency. How often do you need to pay your taxes? Do you need to pay the monthly? Do you need to pay them quarterly, or do you need to pay them annually? You do also have the ability to create custom rates as well.

Alicia Katz Pollock: So if you need to do use taxes or [00:04:30] you have some specialty taxes that aren't in Qbo or, you know, here in Oregon, for example, we don't have sales tax, but we do have a City of Portland tax and a Multnomah County tax. And so while those aren't collected from my customers, I created those tax rates so that I can run reports and see how much sales I had right here in Portland, how much I had in the greater Portland area, and how many of our sales came from other locations. And then I can use my sales tax reports [00:05:00] to pay those taxes appropriately, even though we don't have sales tax. You also do need to pay attention to cash or accrual. Some states require accrual based sales tax even if you're a cash based business. Washington and Texas are examples of that. And so when you are setting up your states, you will want to make sure that you are reporting on the correct basis, which is not necessarily your basis. It's the basis the state is interested in. The next thing that you need to do in order to set up your sales [00:05:30] tax properly is set up your products and services and their default taxes, that there is just a basic a basic rate just called taxable. But if you have certain products and services that are taxable in different ways than you do need to pay attention to that.

Alicia Katz Pollock: And so every time you set up a product or service, You can click on the Taxability and pick which category it fits in. So you know under I'm [00:06:00] just looking at clothing for example. And I have clothing for general clothing. And then there's a separate tax rate for hunting apparel with blaze orange or reflecting materials. And then there's a subsection of athletic clothing with athletic helmets and aqua shoes and athletic clothing not suitable for everyday wear like, you know, football pads or athletic clothing suitable for everyday wear, like the yoga pants I'm wearing right now. And all of these mean that some state somewhere [00:06:30] has different tax rates on these items. And so it's a good idea to make sure that you've got everything dialed in, even if it's not relevant for your particular location, because you never know when your company is going to learn and grow and get nexus in a new state where it might actually matter. But a lot of the time localities will have specific taxes on software, digital goods, telecommunications, medical devices, food and beverages, you know. So [00:07:00] you do have to know your location and understand the tax implications for where you are based. Then, after you've set up all of your products and services with their tax rates, then you need to set up your customers. Most of your customers are going to be taxable, and so they just fit in that default.

Alicia Katz Pollock: But some of your customers might be tax exempt like non-profits or resellers. And so you can mark them as exempt and then [00:07:30] give a reason why. Now if your sales tax is based on the location of the customer a destination state, then when you're setting up your customers, you have to have their addresses, because if you don't have their addresses, it's going to tax you at your location, not at your customers location. So shipping address really does come into play when you're using sales tax in QuickBooks. It's also crucial that you're using Qbo forms. So if you are doing [00:08:00] your sales in external software or another website and importing them, you may not be able to use the sales tax center unless you're using an integration that actually creates sales receipts and invoices in your system. The biggest thing to remember when you are entering in your sales is that what you do on the sales form really matters. And there's a few different places that are absolutely crucial. One is the product and services checkbox. [00:08:30] If you have a product or service that is sometimes taxable and sometimes not taxable, you actually have to make two products and name them, you know, like gardening, taxable and gardening nontaxable and make sure you pick the right one on the form when you run the sale. The reason for that is that the sales tax reports are based on whether the product itself is taxable, not whether you collected [00:09:00] sales tax on that sale.

Alicia Katz Pollock: So if you have a taxable product and you uncheck the tax, the tax box, you're not saying that the sale is not taxable. The sale was still taxable. You just didn't collect sales tax on the sale. So when you run your reports it's still going to include that sale in the taxable sales. But the amount of sales tax that you collected is going to be off. And when you are trying [00:09:30] to figure out your sales tax and double check everything, that is the biggest determinant of errors is that your reports show that you have taxable sales, but the amount of sales tax you collected is different. And that is almost always the reason why so huge, huge importance. The next thing on your sales forms is the sales tax rate. It will come up with automatic calculation by default, and most of the time you absolutely [00:10:00] want to leave it there. A lot of the time when I see sales tax errors, it's because somebody is manually changing it. They've created their own custom rates, or they came over from desktop where they had custom rates. But those are so old and obsolete that you're that you're actually overriding the system with bad data and mis collecting your sales tax. So unless you have a specific reason. Do leave the sales tax rate in the bottom right hand corner on automatic.

Alicia Katz Pollock: The big Pebkac. When I say pebkac, I mean the [00:10:30] problem exists between chair and keyboard. The biggest problem with collecting sales tax. Well, actually the second biggest, because the product check mark being on and off is really the biggest. But the second one is that the new invoice, the modern invoices have a location of sale box and that is toggled on and off using a little tiny, almost invisible link that says add shipping info. And if you are a location based company, your [00:11:00] QuickBooks is using the shipping address if it's available. And if it's not available, it's going to use the location of sale, which auto populates by default. If there is no shipping information for the customer, it auto fills with your address. So if you're in a destination state, you actually need to make sure that the shipping info box is showing on your invoice. And then if there is no shipping address, it will look at [00:11:30] the billing address of the customer. But if you have the shipping info closed, it does not look at the customer's billing address. It looks at your address instead. So when you're using sales tax you have to have this happy storm, this perfect storm of things coming together. And that's one of the reasons why the sales tax gets a bad rap sometimes is people are like, oh, the sales tax center miscalculates. Well, no, it's actually 100% user error. But you have to have three different things, all lining [00:12:00] up completely.

Alicia Katz Pollock: The sales tax rate has to be on automatic or specifically chosen. You have to make sure that the taxable status of your products is set to the right type of tax, and that the location of the sale for the customer is accurate to, depending on your location status. So pay close attention to that shipping address. Then there's also the ability when you look in the bottom [00:12:30] right hand corner, that when you're looking at your taxable subtotals and your discounts, you also have a little looks like a bracket, like a double headed arrow. And you can flip the order of your taxable subtotal and your discounts so that either your discount comes off first and then you collect taxes based on the amount after the discount, or you calculate your sales tax and then you subtract the discount. After that, you have [00:13:00] to make sure that you know the proper legalities in your location, for which way you should roll that. Now, if you look at the sales tax rate and you're not sure how it calculated, there's a little link that says, see the math. And when you open up, see the math, it opens up a panel that shows you how your sales tax is calculated. It will show you if your customer is taxable or exempt. It will show you the location of the sale where it's doing the calculation, so that you can double check is your address [00:13:30] or the customer's address, and then it will break down the taxes by state, by county, by district, all of the components that make up the comprehensive sales tax.

Alicia Katz Pollock: So, you know, maybe you have a in California 6.25 state rate, but then Contra Costa County 1% and the Contra Costa County district at 1.5%, and San Pablo City district at 0.75%, so that the whole sales tax adds up to [00:14:00] 9.5%. So it's nice that it understands all the different localities. Then in this pain where it's looking at how you're calculated, it then shows you each of the products and services that are on your invoice or sales receipt, and shows you what the sales tax amount is on each one of those, including which sales tax category it is calculating based on. If you see something that's wrong, go back to the setting, go back to [00:14:30] the customer, go back to the product and make sure that you're that all of your settings are correct. If there's some other reason why you need to override it. There is a little link to override this amount, and what that will do is give you just on this one invoice, the ability to enter the sales tax manually and either change the rate or change the dollar amount, and then choose a reason for the override. When you use this override, it will affect your reports and calculate properly [00:15:00] on your reports, but make sure that you're overriding for a real reason.

Alicia Katz Pollock: Otherwise you're the person introducing the miscalculations. All right, now, after you've taken all that money from your clients, then you have the sales tax center where you manage all of your payments. You can look there for your current accruals. You can see what your upcoming and maybe overdue tax payments are. You can adjust your sales tax settings. As I mentioned, there's a Nexus tracker as [00:15:30] well. When you're looking at the upcoming and overdue tax payments, you'll see a big list with all of the states where the payments were collected and you can filter it by state and you can filter it by date. You'll also be able to see the status, whether it's still upcoming and is still being collected, or whether it's overdue or whether it's paid. The economic nexus pain is really, really nice because that shows you the different states where your sales are being run and [00:16:00] the count of the number of transactions and the total dollar amount on the sales. And then when you meet the threshold, it will actually alert you that you have met the threshold. Now, once you meet a threshold, you're not responsible for the back taxes that you haven't collected before you were eligible. But now this is the time when you need to go in and set up that agency so that you can start collecting and remitting your taxes moving forward. There are several reports in the tax center.

Alicia Katz Pollock: There's a tax liability [00:16:30] report, there's a taxable customer report and a nontaxable transaction review. That way you can run these reports and do your due diligence and your cross-referencing. When it's time to pay the tax, you'll view your tax return and then that will show you the amount that is due. Some states you're able to actually file inside QuickBooks online, but in most states you actually have to go to your Department of Revenue website and log in there. Make sure when [00:17:00] you are filling in their forms that you're picking the right amounts. I have seen people mis enter their data and then overpay or underpay their sales taxes. So your state will usually ask you for your gross sales, and then the amount of your taxable sales and the amount of your nontaxable sales. And then the calculation should be pretty darn close to what you see in QuickBooks for what tax you owe. It is really important that you make the payment inside the sales tax center [00:17:30] in QuickBooks. If you make the payment externally and then just accept it through the banking feed. I bet you dollars to donuts you're going to put it in as an expense instead of against the liability. And making journal entries or payments into the sales tax liability does not tell QuickBooks that you paid the sales tax. And so it thinks it's open. Now, when you are looking at the form to fill in in QuickBooks, to tell it what tax payment you are making, it does [00:18:00] give you the ability to make adjustments.

Alicia Katz Pollock: And there's different kinds of adjustments. Some states will give you a credit if you do a prepayment. So if you've prepaid your taxes, you can adjust for the amount that you've paid. Sometimes they give you a credit or a discount, and sometimes there's a rounding error and it's off by a couple pennies. So any time that your QuickBooks calculation doesn't match the state, the first thing that you do is make that adjusting entry to true the two of them up. When [00:18:30] you're making those entries, you might have to increase your sales tax, and you might have to decrease your sales tax. If you're increasing your sales tax, then what you're doing is you're creating an expense because you are having to pay extra money out of pocket that you did not collect. So if you're increasing your sales tax payment, you as an employer have an extra expense. If you are decreasing your sales tax, that means that you over collected sales tax and now you're sitting on money [00:19:00] that you're not submitting to the state. So you would have to make your adjustment to an income account. Now you've got to be careful here. If it's just a rounding error and you're talking, you know, a couple dollars, it's no big deal. But if you collected sales tax on sales that you were not supposed to collect sales tax for, you are actually under legal obligation to return that money to that customer.

Alicia Katz Pollock: So if it's a material amount, be prepared to pay it back. Or maybe communicate with your customer and say, oh, hey, I overcharged [00:19:30] you your sales tax, Acts. We'll give you a credit towards your next order. So after you go in and you enter in your adjusting entries to round up or round down the amount of the payment, then it will ask you which bank account you are paying, what's the date of your payment and what is the amount. And then that will put the tax payment in your QuickBooks and the transaction type will be tax payment. Once you've created it, if you edit it, you can't change it. You would actually have to delete it [00:20:00] and then start over again and create it again. So at this point, if you are on the state's website, you would use their system to remit your payment. Maybe you're paying by credit card, maybe you're paying by ACH. And then be very, very sure that when the payment clears that you match it in the banking feed, that you don't add it as a separate tax expense. When I'm doing year end cleanups, this is one of the major areas where I find mistakes and always have to clean them up. [00:20:30] So what I do to make sure that they're correct is I reconcile my sales tax liability accounts to make sure that the workflows are right.

Alicia Katz Pollock: I'll go into the sales tax liability. I'll drill in through the chart of accounts and then reconcile it, and I'll reconcile it to zero. Now when you're making a sales tax payment, if this is January, I'm not going to make that sales tax payment until February. So when you're doing the reconciliation, you would check off all of January's sales and you would uncheck all of February's sales [00:21:00] and then make sure you check off the tax payment that happened in February. So generally, my reconciliation date is either the end of the following month or the date of the payment. And then they should equal zero if you've been doing everything correctly. If you're finding that there is a balance in there, that's where you do have to do some cleanups. Qbo does have the ability to send you a reminder as well, when it's time to make the payments. Now, if you're lucky enough to [00:21:30] live in some of the states where you can file your taxes right inside QuickBooks, that makes it even more seamless. They started that in North Carolina a year or two ago, and they've been slowly adding new states. Now, if you find when you're reconciling that the amount is off, fixing it is absolutely a game of whack a mole. You can't just make adjusting entries to the sales tax liability account and call it good. You actually have [00:22:00] to go back to the sales tax center and look at the payments that are there.

Alicia Katz Pollock: If they marked it as paid and also brought it in from the banking feed, and you have two of them, then you delete the expense that came in from the banking feed and then rematch it to the sales tax payment that was made from the sales tax center. Now, if the dollar amount is wrong, then you have to take the further step of deleting the sales tax payment, adding in the adjusting entries and then making the payment, and then rematching [00:22:30] it to the actual payment that was made. Now, what do you do if you're cleaning up your accounts receivable and you have some uncollectible invoices and they have sales tax on them? What you do from there depends if the sales tax was accrual based or cash based. If the sales tax was cash based and they never paid the invoice, then you're all good. You can just void the transactions, no harm done. If your cash based but your sales tax [00:23:00] was accrual based, then you're going to have to make a credit memo with the original item and the original tax in the current period, and then use it to pay and close the invoice so that you can get the tax reduction reduced in your current period. And then of course, if your accrual based, that's what you would be doing anyway. But basically you have to treat your unpaid cash invoices as accrual based in order to adjust [00:23:30] the sales tax.

Alicia Katz Pollock: Now, in my class I go into some more complicated situations, like what do you do if you forgot to charge a customer sales tax and you need to charge them just for the sales tax. The upshot is you take those two products that I told you about, one taxable and one nontaxable, and you charge them for the item with the sales tax, and then you subtract the item that does not have the sales tax. [00:24:00] And that leaves a $0 invoice except for just the sales tax. And then your customer can pay that. There are some times when QuickBooks is not robust enough to manage your sales tax. So if you have a nationwide sales or international sales or complicated local taxes, or you're doing e-commerce and you're across all 50 states or you don't record your sales in QBO, then you're not going to be able to use QuickBooks for your sales tax, in [00:24:30] which at which case you're going to need to turn to a third party app. Avalara is one of the most popular. There's also Taxjar. So I hope that quick overview of all things sales tax helps you really understand the sales tax center because it usually the problems with sales tax aren't the sales tax center. It's the fact that the user overlooked any one of those things. They didn't set up their products properly.

Alicia Katz Pollock: They were unchecking check [00:25:00] boxes. The the shipping box was open or shut. And that's a fun one to try out. Just next time you're in an invoice and you have that has sales tax on it, go ahead and open and shut the shipping box and watch that sales tax change. So to see all of this in action including demos, please do visit Roy's com and look for my sales tax and QBO class. I'll also put a link directly to it in the show notes. And the good thing about taking my classes is [00:25:30] that you get CPE for doing it. You get the demos and you get the lifetime access to the recordings. So, you know, you might not need the details on how to clean up a sales tax liability situation now, but in the future when you do, it's nice having a step by step guide that you can just follow along through the video. So thanks, everybody, for sticking with me through a concept that I actually think is fascinating. But a lot of people, you know, there's a lot of people in this world who are just like, you really just spent a half an hour [00:26:00] listening to a podcast about sales tax. Well, yes you did. More power to you. You are one of those experts who absolutely helps our clients survive and thrive. So thank you all for listening and I will see you in the next one.