Everything You Should Know About Digital VAT and taxes
Are you struggling to stay on top of digital taxes in the global market? You're not alone. In the U.S., states were initially slow to adapt to digital download taxation, then suddenly enacted a wave of rules. Venture outside of in the U.S. and you have even more complicated rulings around taxation for digital goods. In particular, countries under the European Union will apply varying quantities of Value Added Tax (VAT) on all imported digital goods as well as services to ensure fairness to EU sellers.
It's a lot to absorb. Also, SaaS sellers must do correct or else face fines for both their country of residence as well as the countries in which they conduct trade in. Failure to register for VAT, or apply it correctly, can lead to thousands of dollars in penalties, and may even result in your online product being barred from selling in certain countries.
We'll take a look at ways to be tax compliant and preserve the reputation of your SaaS company when selling digital goods on the internet.
What is a digital good or digital product?
In this blog this blog post, we'll identify digital goods as tangible physical or non-physical products that exist in digital format. Some examples include:
- Downloaded software (photo editors DJ software.)
- Digital assets (ebooks, image files, audio clips/audio files, movies or digital video)
- Web applications/Software as a Service (SaaS)
One of the great things regarding digital goods is that due to being digital in nature, they are able to easily be reproduced and resold without the need for businesses to manage complex manufacturing logistics. Additionally, because most of these digital goods exist digitally, customers can easily access the software or service they paid for immediately, and not have to wait around for their item to be physically shipped and delivered.
The Tax Laws of the United States
States across the U.S. have a mishmash of laws pertaining to digital taxes. North Dakota and Washington D.C. don't currently tax digital downloads. In contrast, Alaska, Delaware, Montana, New Hampshire, and Oregon don't have retail sales tax at all.
Recognizing the increasing prominence of online sales of digital products, many states like Alabama, Arizona, Indiana, Louisiana, Maine, New Mexico, Texas, Utah as well as West Virginia decided to cover digital downloads with no modifications to the tax laws they already have in place or simply by broadening their definitions that they use to define "tangible personal property" to include digital products.
A number of states have also enacted particular laws, which define digital downloads various ways but always subjecting them to taxation including Colorado, Connecticut, Idaho, Kentucky, Nebraska, New Jersey, South Dakota, Tennessee, Vermont, Washington, and Wisconsin.
However, what businesses selling digital products must be aware of is the fact that laws governing the selling of digital goods will change. Just take a look at the most recent Wayfair state tax ruling. The Supreme Court declared that online sellers can be required to collect sales taxes in the states that they conduct business in despite not having a physical brick-and-mortar store. In addition, given that tax rates will vary from 1% to 7%, keeping track of the "digital product area" isn't easy.
If you believe that you can afford to ignore taxes associated with the purchase of digital goods, think again. The U.S. federal government is also paying special attention to digital taxes and may treat the sale of digital items as a tax-deductible event at some point in the future. In 2011, The Internal Revenue Service (IRS) appointed the Director of Transfer Pricing to investigate nationwide prices and taxation of SaaS services.
Taxation in the European Union
The E.U. established the VAT, which is applied to all imported items and services in order in order to convince its citizens to buy from E.U. businesses. Digital products can be broadly described as VAT-related, which means in the event that you sell your product to E.U. citizens, the VAT probably applies to your business.
VAT rates can vary between E.U. countries, ranging from 15 to 27 percentage - something that you need to remember when pricing your SaaS for E.U. buyers. If you fail to include taxes in your sales, your digital product is going to appear expensive next to E.U. competitors.
Similar to selling to different states in the U.S., selling to various countries in the E.U can be difficult because of the different tax rates and methods of application. In the past certain SaaS businesses tried to avoid this tax problem by setting up small subsidiaries within E.U. countries. Do not try it now, the VAT rate has been changed so that it applies to all sellers , regardless of location.
Being a good steward
Obviously, it's difficult to be sure the digital business is fully in compliance with both international and local taxes. That's why experts advise partnering with an online commerce platform, a business that specializes in worldwide financial transactions.
A platform for e-commerce that is on the forefront of tax code as well as international laws. This lets you concentrate on creating and selling your service, while handles transactions-related information, such as taxes.
Are you ready to discover how FastSpring can transform your back office? Here to schedule your demo today!