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Business Use Tax in Illinois and Other States: Part 1 - The Basics

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When you consult on a tax type administered by 47 state level jurisdictions, and over 100 more local jurisdictions, you deal with a lot of minutia. It’s easy to miss the forest for the trees, and sometimes I forget that there are a lot of people who are unfamiliar with the very concept of a use tax. Almost everyone is familiar with sales taxes, but what the heck is a use tax? In this post, the first in a short series, I’m going to cover some very basic use tax concepts, as well as some issues specific to use tax in Illinois.

Use tax is quite simply a tax imposed on the use, storage, or consumption in the state of tangible personal property and some services. Many people are unfamiliar with use tax because it’s complementary to the sales tax. This means that if you pay the sales tax on a transaction, you don’t also owe use tax. While we generally think of all tax charged by vendors as sales tax, the fact is that sales tax is only imposed on intrastate transactions. If you walk into a brick and mortar store and buy an item from the shelf, you are charged sales tax. These days, we make a lot more of our purchases remotely through ecommerce. If those purchases are made from out of state vendors, any tax charged is actually use tax, whether we realize it or not. The two taxes work together so seamlessly that we refer to both of them as sales taxes. So why does the distinction matter?

In Illinois, the distinction is important because while the state level use tax and sales tax rates are the same (6.25%), the use tax does not include the extra layers of local taxes that can push sales tax rates well above the state rate, to over 10% in some locations. Additionally, while every Illinois vendor is required to collect sales tax on sales to Illinois purchasers, remote sellers don’t always have a responsibility to collect use tax. Until Congress decides otherwise, out of state vendors are only required to collect tax from customers in Illinois when the seller has sufficient contacts or connections with the state, which we call nexus. If it lacks such nexus, the seller won’t apply tax to your invoices, but all that does is shift the responsibility for paying the tax from the vendor to the consumer, and this responsibility is rarely fulfilled. A study by the University of Tennessee estimated that states lost between $12 billion and $24 billion annually in untaxed sales in 2012. An older Illinois study put the State’s share of lost revenue at approximately $150 million in 2010, a number which has surely grown in the last five plus years.

So how does one go about satisfying their Illinois use tax obligation? Business taxpayers can file their use tax on form ST-1, the state’s standard sales and use tax return. Individuals, however, may be surprised to learn that they too are subject to the tax, and it can be paid on their annual Illinois 1040. The State asks you to track your purchases of tangible personal property on which tax was not collected, and multiply that amount by the 6.25% use tax rate. A worksheet is provided in the instruction to the IL-1040. Since this is clearly not something that most people are in the habit of doing, the State provides a method to estimate the tax due based on the taxpayer’s adjusted gross income. The fact is that it’s rare for the state to use its limited resources to audit individual purchasers, but taxpayers should be aware of their responsibilities and act accordingly.

In a subsequent post, I will cover some of the ways that business taxpayers can get tripped up when it comes to accurately accruing for and remitting use tax, and how to avoid those pitfalls.

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Comments

4 Responses to Business Use Tax in Illinois and Other States: Part 1 - The Basics

  • Posted by Karla on October 28, 2016 8:57am:

    Hello. We have an IL sales tax exemption due to our hospital operations. We give cups, blankets, bags etc. for employee service recognition. Would we incur Use tax on these items since not directly used for our exempt purpose? Thank you.

    • Posted by Christy on November 7, 2016 9:49am:

      Karla, sorry for the delay here. In Illinois, there are some limited exemptions from the Retailer’s Occupation Tax for organizations qualifying as “exclusively” charitable institutions. The tax exemption is applicable only if you operate as a not-for-profit, “exclusively” charitable organization.
      If your hospital is operating as a 501(c)(3) exempt organization with a valid Illinois sales tax exemption number, you are entitled to make tax-free purchases. You should provide your retailer with your exemption identification number at the time of purchase to document the exempt nature of the purchase.
      Generally, when a taxpayer removes an item from inventory to give it away free of charge, the taxpayer (donor of the gift) is considered the end-user of the property and is liable to pay Use Tax on the cost price of the property. Giving away items for employee service recognition is likely not a use “in the furtherance of your charitable purpose,” and therefore constitutes a taxable use. In this case, you would likely owe use tax on the cost price of the property. However, the context of how you give away the property may qualify as the “furtherance of your charitable purpose, ” so you may wish to get a private letter ruling for your specific facts.

      Hope this helps! Thanks for your question and good luck!

  • Posted by Christy on October 18, 2016 6:30am:

    Hi Beth - thanks for the question. If you fabricate and install the counter tops in homes and businesses, then you are considered a manufacturer and a contractor of materials incorporated into real property and should not collect sales tax from the customer on the product installed. Instead, you may owe a use tax on the purchase price of the materials used to fabricate and install the counter tops into the real property, which you would not state on the invoice, but instead build into the cost of materials passed on to the customer. If you also charge for installation labor, and the state (e.g. Illinois) does not impose a sales tax on labor, you should separately state that component of the charge on the invoice to the customer if there is any doubt as to whether you are installing the counter top into real property in order to ensure that portion of the invoice is not subject to sales tax. Hope that helps. Feel free to email me with additional questions. Thank you and good luck!

    Christina Edson / True Partners Consulting

  • Posted by Beth on October 14, 2016 11:52am:

    Hello,
    We fabricate stone, granite, marble, quartz etc. into countertops and install primarily in Illinois and Indiana. We have always charged Sales Tax on the entire product because "our accountant" said that is what we should do. On several occasions we have been asked by customers why they are charged for the entire amount when there is labor involved. Our response is "our accountant makes us do it". So my question is, if we are fabricating the granite into a usable product that we install inside of homes, businesses etc, what portion of the product should we be charging tax on? Thank you.

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