Taxes

Navigating Sales Tax Compliance in eCommerce & Retail: Part 1

Sep 17, 2025 4 hours ago

Sales tax compliance in eCommerce and retail is anything but simple. Between changing state rules, multiple jurisdictions, and unique business models, the process can quickly become overwhelming. At its core, though, compliance comes down to one word: awareness.

Awareness of nexus (both physical and economic), awareness of the taxability of your products and services, and awareness of all the complexities of being a remote seller across states.

In this first part of our two-part series, we’ll walk through the fundamentals: nexus, taxability, and drop shipments.

Nexus (Physical & Economic Nexus by State)

“Nexus” is the connection between your business and a tax jurisdiction that creates a sales tax obligation in that state.

Physical nexus may come from offices, employees, warehouses, inventory stored in a state, or even sales reps attending trade shows. Many states still use broad or vague definitions of physical presence, catching businesses off guard.
Economic nexus, a concept enforced widely after the 2018 South Dakota v.
Wayfair Supreme Court ruling, requires remote sellers to register and collect sales tax if they exceed a state’s sales or transaction thresholds.

Pro tip: While thresholds vary, if your business has $100,000+ in sales or 200+ transactions into a state, you likely need to review nexus rules there. Popular states like California, Texas, Florida, and New York all have different requirements.

Taxability of Products & Services

Taxability rules vary widely by state and even by the type of customer.

Products: Tangible personal property is generally taxable, but states like Pennsylvania exempt certain clothing items while Minnesota exempts groceries.
Services: Many professional services (medical, engineering, architecture, legal, accounting) are exempt, but states such as New Mexico and Hawaii tax many services.
Situs (the taxing location): Determines whether the sales tax applies based on the origin state (where shipped from) or destination state (where shipped to). For example, Texas is an origin-based state, while California is destination-based.

Drop Shipments & Multi-State Compliance

As eCommerce grows, drop shipments are more common and bring complex tax challenges.

Drop shipping involves three parties:

Distributor/Manufacturer – ships directly to the customer.
Retailer – sells the product but doesn’t handle inventory.
Customer – receives the product.

There are typically two taxable transactions: distributor → retailer and retailer → customer.

Example: South Carolina → Illinois

A retailer in South Carolina sells to a customer in Illinois.
The retailer purchases inventory from a distributor in Arkansas, who ships directly to Illinois.
The tax situs is Illinois (the ship-to state), not South Carolina (bill-to state).

If the Arkansas distributor has nexus in Illinois, they must charge Illinois use tax unless given a valid Illinois resale exemption certificate.

But here’s the challenge: retailers must be registered in Illinois to issue that exemption.

This creates tough decisions for businesses: Should you register in Illinois (or any ship-to state) just to handle drop shipments? Or is there a compliant workaround?

This is only one simplified example of the potential problems that drop shipments present to sales tax obligations.

Hear others on our recent webinar “Navigating Sales Tax Compliance in eCommerce & Retail.”

Why Awareness Matters

Even this basic overview of sales tax compliance, covering nexus, taxability, and drop shipments, shows how quickly complexity arises across different states.

Key takeaway: Businesses selling across state lines must stay on top of state-by-state rules. Missing a registration requirement in Illinois, California, New York, or Florida can trigger audits, penalties, and back taxes.

In Part 2, we’ll dive into more advanced challenges: