USA – Sales and Use Tax – Basics for MM Consultant
Introduction to US Tax:
As MM consultants, we are frequently asked questions related to taxes levied during purchasing by business teams. Its an area with heavy overlap with the FI space and region-specific nuances. As a result, many of us find it daunting to answer those questions. This blog aims to provide basic knowledge and context of US tax, which can later be built upon.
In US, sales tax is placed on sale or lease of goods & services. Sales tax is governed at the state level and there is no nationwide tax regime. Additionally, many states grant authority to local governments (like city and county) to impose additional taxes.
Generally, the seller must collect tax from in-state buyer at the time of retail sale (final sale to end consumer) and remit it to the state. What this also means is that sales tax may not be collected:
- From out-of-state buyer (see Use Tax) or
- If goods are for resale or further manufacture
Further exemptions for collecting sales taxes can be:
- Certain categories of products like food, medicine, agriculture products etc.
- Certain organizations like charitable or religious organizations etc.
Additionally, for items which are sold in retail multiple times, for example used cars, sales tax will be collected on those transactions indefinitely.
Use tax is functional equivalent of sales tax and is applied when the buyer has not paid sales tax at the time of initial purchase for a taxable purchase. For example, from out-of-state vendors that are not required to collect tax on their sales.
It is self-assessed tax and designed to discourage purchase of taxable products that are not subject to sales tax in other tax jurisdiction. Buyer needs to accrue the use tax amount at the time of purchase and remit it to the state.
The sales and use taxes, taken together, provide a uniform tax upon either the sale or the use of the product irrespective of where it may be purchased. Therefore, for any transaction, either a sales tax is applicable or use tax but never both.
Key SAP setup:
Now that we have discussed the basics of US tax, lets dive into the SAP specific setups. From SAP MM consultant’s perspective, it is important to understand how tax codes are populated in the PO and what impact does it have.
TAXUS – Based on tax codes, but not jurisdiction codes (Non-jurisdiction method)
TAXUSJ – Based on tax jurisdiction method with tax codes (Jurisdiction method)
TAXUSX – Used in combination with third-party tax calculation packages (TAXWARE International and Vertex)
For complex businesses, it is generally recommended to use tax configurations in combination with third party tax engines (i.e. TAXUSX), especially considering the complexity, statutory requirement and manual effort required to keep it updated.
Tax code on the purchase order is the key driving factor for accounting entries related to tax. It can be populated automatically on the PO through the condition technique or manually keyed in on the PO. It can also be modified at the time of Invoice receipt.
Broadly Tax Codes can be categorized as follows:
- I0 – Tax Exempt
- Mainly used for scenarios where transactions that are exempt from taxes as explained above
- Seller should not include any tax amount on invoice
- No Tax accrued or paid to the seller
- I1 – Sales Tax
- Mainly used for taxable purchase where the seller and buyer belong to the same state
- Seller should include accurate tax amount on invoice
- Tax amount paid to the seller, no tax accrued
- U1 – Use Tax
- Mainly used for taxable out-of-state purchase (seller and buyer belong to the different state)
- Seller should not include any tax on invoice
- Tax amount is accrued by the buyer and paid to the state
Besides these two configurations, there are many others configurations in this path related to tax procedure which typically falls under FI realm.
Tax for Purchasing:
Factors affecting taxability:
Summarizing the introduction to US tax above, there are four main factors affecting taxability and therefore the tax code determination for a transaction. Following are those factors and the configurations that SAP provides which can be used as levers to determine taxability and tax code
1 – Set and Assign Tax Indicator for Material
This can be defined in configuration and then assigned to the material master in purchasing view. As purchasing view is at plant level, this essentially informs the system if the material is taxable in that unit. For example, certain agricultural product may be taxable in jurisdiction of one plant but not in another
2 – Set and Assign Tax Indicator for Plant
If needed, certain plants can be classified as always exempted through this configuration. For example, plants dedicated for charitable duties can be marked as exempted.
3 – Set and Assign Tax Indicator for Account Assignment
If needed, certain account assignments can be classified as always exempted through this configuration. For example, account assignment for consumption “K” will always be taxable, while a new account assignment set up for resale will always be exempted.
4 – In-State Out-of-State
Although there is no explicit set up for this, as the state is determined from the Vendor’s address and Plant address, this plays an important part in determining whether it is Sales Tax or Use Tax or Exempted together with factors above.
When third party tax engines are used, tax jurisdiction codes are automatically populated for Plants, vendors and customers based on address entered suing an RFC call to the external tax engine.
Tax Code Determination through condition technique:
Above mentioned tax indicator can be combined in condition technique for Condition NAVS, to determine the tax code that will be automatically determined on the PO.
The access sequence for the condition can be further extended to include other factors which may affect the taxability or tax code determination. For example, a stationary retailing company may purchase pens both for own consumption as well as resale. In this case there may be an additional factor, like purchase group, which will have to be added to the condition to determine tax code correctly.
Some third party tax engines provide “bolt on” or accelerator functionality for very fine control of how the tax codes are determined.
Tax touchpoints during procurement process:
Following are the touchpoints during procurement process:
- On Purchase Order
- Based on the tax code and material, plant, account assignment etc., tax code is determined automatically if condition records are maintained, else needs to be entered manually
- Amount for condition NAVS is populated automatically based on tax rates maintained in the configurations or tRFC call is made to the external tax engine for fetching the rates
- The tax amount calculate is linked to Tax rate, purchase price and quantity of PO line item
- At the time of Goods Receipt
- Amount of tax estimated at the time of PO creation in condition NAVS, is included in the account postings during goods receipt (in proportion of received quantity)
- During GR, no call is made to external tax engine, if applicable
- At the time of Invoice Receipt
- If external tax engine is involved, tRFC call is again made to it to revalidate the tax amount. (Calculate Tax flag should always be checked on the Invoice so that the system calculates the tax automatically)
- In case of any changes to price quantity etc, adjustments accounting entries are made to the estimated tax entries made during GR
If any discrepancy is observed between the tax amount charged by the seller and SAP calculated (buyer) tax, then it needs to be discussed with the seller, just like any other discrepancy in 3 way match.
Some tax engines or external “bolt-on” tools also provide the ability to automatically flip tax codes during invoice and make necessary accounting adjustments in order to accommodate minor differences or to reduce manual intervention needed to address discrepancies.
Thanks for reading and hope this was helpful to provide a high level view and business context.