Everything You Need To Learn About Digital Taxes and VAT

Struggling to keep up with digital tax rules in the world market? You're not alone. Within the U.S., states were initially slow to adjust to digital download taxation, after which they enacted a flurry of rules. Travel outside the U.S. and you have much more complex rules regarding the taxation of digital items. In particular, countries under the European Union will apply varying quantities of Value added tax (VAT) on all imports of digital products as well as services for fairness to EU sellers.

There's plenty to take in. Also, SaaS sellers must get correct or else face fines in both their country of origin and the countries they do business abroad in. Failure to register for VAT, or to apply it correctly, can cause hundreds of dollars in penalties, and may even result in your online product being barred from sale in some countries.

We'll take a look at ways to comply with tax law to protect the name of your SaaS company in selling digital products online.

What counts as digital goods or product?

For the purpose of this blog post We'll identify digital goods as tangible or non-physical items that are available in electronic format. Some examples include:

• Downloaded software (photo editors DJ software, photo editors, etc.)
• Digital assets (ebooks, image files, audio files/audio clips, films or digital videos)
• Web applications/Software as a Service (SaaS)

One of the best things regarding digital goods is the fact that, due to their digital nature, they can easily be reproduced and resold without the need for businesses to manage intricate manufacturing logistics. In addition, as the vast majority products that are digital exist digitally, customers can easily use the application or the service that they bought quickly, without having to wait for the item to be physically delivered and shipped.

Understanding the Taxation System in the United States

States in the U.S. have a mishmash of laws pertaining to digital taxes. North Dakota and Washington D.C. do not currently tax digital downloads. In contrast, Alaska, Delaware, Montana, New Hampshire, and Oregon don't have the tax on retail sales at all.

Recognizing the increasing prominence of online sales of digital products states such as 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 for "tangible personal property" to encompass digital goods.

A number of states have also enacted specific laws that define digital downloads in various ways, but always subjecting them to taxation including Colorado, Connecticut, Idaho, Kentucky, Nebraska, New Jersey, South Dakota, Tennessee, Vermont, Washington, and Wisconsin.

What digital companies need to recognize most is that the laws surrounding the selling of digital goods will change. Take a look at the most recent Wayfair State Tax ruling. The Supreme Court has ruled that online retailers may be legally required to collect sales tax in states they do business even though they do not have an physical brick-and-mortar shop. With the added fact the tax rates can vary from 1% to 7percent tracking the "digital products space" could be a challenge.

However, if you believe you're able to avoid taxation on the sale of digital goods, think again. The U.S. federal government is also paying special attention to digital taxes , and might treat the sale of digital items as a tax-deductible event in the near future. In 2011 the Internal Revenue Service (IRS) established the post of Director for Transfer Pricing to investigate the taxation and prices across the country for SaaS services.

Taxation in the European Union

The E.U. introduced the VAT which is applied to all imports of products and services so that its citizens are encouraged to choose E.U. businesses. Digital products are generally defined in the VAT, meaning in the event that you sell your product to E.U. citizens, the VAT probably applies to the products you sell to them.

VAT rates vary among E.U. countries, ranging from 15 to 27% - something to be aware of when setting the price for your SaaS to E.U. buyers. If you fail to account for the taxes on your digital item, it's going to appear expensive next to E.U. competitors.

As with selling to states within the U.S., selling to different countries within the E.U can be difficult because of the variety in tax rates and the way they're applied. In the past there were a few SaaS firms tried to circumvent the tax burden by setting up small subsidiaries in E.U. countries. Do not try it now, the VAT rate has been changed to apply to all sellers regardless of their location.

Doing it Right

Naturally, it's hard to be sure the digital business is fully complying with local and international tax laws. That's why experts suggest partnering with a digital commerce platform, a business who specializes in global financial transactions.

E-commerce platforms like this stay at the cutting edge of tax codes as well as international laws. It allows you to concentrate on the development and marketing of your products, while handling transaction-level information like taxes.

Do you want to know how to revolutionize your back office? Click here to get your complimentary trial right now!