DIY (“Do-It-Yourself”) is a great idea when the task requires minimal expertise and failure will result in minimal damage. However, DIY is a terrible idea when the task is complicated and failure can bring down your entire business. This is why taxes are the ultimate DIY snare for business owners.
Entrepreneurs and small business owners feel that filing tax returns (sales; payroll; franchise, etc.) should be a DIY process. Why pay a professional to perform the simple task of filling out a straight-forward tax form? Perhaps taxes once were DIY material, but regulations have grown shockingly complicated over the last 50 years. The Tax Foundation, a tax policy research organization, found that the total number of words in the Internal Revenue Code & Regulations grew from 1.39 million in 1955 to over 9 million words in 2005. When you factor in individual state, county and city tax codes, interpreting your tax obligations becomes un-DIYable.
Taxes are difficult enough for certified accountants who specialize in taxes, let alone business owners who have to focus on growing and managing a company. So it’s worth exploring this question: if you did DIY taxes, what could go wrong?
1. You Won’t Realize Where You Have Tax Exposure And What You Owe
You can pay taxes in your home state but unknowingly owe hundreds of thousands of dollars in back taxes and penalties in 35 different states. I saw that happen to a young tech company last year.
Wherever you sell your product or services, you potentially create sales tax exposure. And depending on what you sell, your exposure can vary in each state and tax jurisdiction. For example, did you know that there is a different tax treatment if you sell or license software? In Texas, software delivered on a DVD and software downloads are taxed differently. Or in Florida, if you fly a specialist into the state to help a customer implement your software, you may create nexus and have to pay taxes there. If your support is mandatory versus optional, it will be taxed differently in different states. Without the proper expertise, you won’t even know what question to ask.
2. You Will Mix-up Tax Jurisdictions
If you use an online sales tax tool, you’re not necessarily safe. Many rely on zip codes to determine tax jurisdictions. However, in places like Colorado, one zip code can contain five different tax jurisdictions with rates ranging from 4.25% to 8%.
Even large companies with sophisticated POS systems confuse tax jurisdictions and rules. In recent years, Papa John’s, Hertz Rent-a-Car, Wal-Mart, Dell, Sears, Rite Aid and others have all been hit with class action lawsuits for applying the wrong sales tax rates. If these companies can miscalculate, your business can too.
3. You Will Miss Filing Dates
Although most states require businesses to file for sales taxes on the 20th of each month, some deviate from this norm. For instance, California and Connecticut set the 28th as their deadline while Maine goes with the 15th of every month. Some states have early, prepayment obligations, like Missouri’s requirement to file weekly payments. A lot of startups get busy and simply forget to file on time, or sell into a new state and miss its deadline. It sounds simple, but it’s not when you’re juggling 10 other responsibilities and trying to file sales tax at the last minute.
4. You’ll Lose Out on Tax Holidays
Even if you pay the right rate in the right jurisdiction at the right time, you can end up over or under collecting taxes. New York has a standard exemption on clothing items priced below $110 per item, while items over $110 are taxed. Every year many states will also declare a holiday on all purchases made during a certain weekend. You won’t get more than two weeks’ notice. If you miss this notice, you will find yourself charging sales tax when you shouldn’t be.
5. You Won’t Account for Different Ecommerce Models
Despite your best intentions, you can run into tax complications when you operate multiple online selling systems. For instance, if you use Amazon Fulfillment (“FBA”), any state with an Amazon warehouse can potentially create nexus, without your being aware of the location. However, if you use Amazon as a referral system or eBay and sell from your store, then you may not create nexus depending on the state. Regardless of your ecommerce model, you’re still stuck with the pleasure of navigating local tax jurisdictions, tax holidays, deadlines, product-specific rules and local regulations that might require calculating taxes based on the ShipFrom and not the ShipTo.
Abraham Lincoln supposedly said that “He who represents himself has a fool for a client.” With the complexity of today’s sales tax system, this statement should be expanded to attempts at DIY taxes.
If you value peace of mind; if you’d like to focus on growing a business rather than researching tax laws; and if you don’t find that hemorrhaging money into Uncle Sam’s coffers is a sound business model, then DIY taxes is not for you.
I can’t stress how many DIY mess-ups and disasters I’ve seen over my career in law and tax technology. Whether you choose to use tax automation software or contract a CPA, just do your business a favor and take taxes off your plate.