How do states tax remote digital services — what must small businesses know?

States treat remote digital services differently. Some impose sales tax or a communications/service tax on subscriptions, streaming, downloadable content, and SaaS; others exclude certain services or apply business‑to‑business exemptions. Determining whether and where you must collect tax depends on two core questions: (1) does the state classify your product or service as taxable, and (2) does your business have nexus in that state. This article explains how to evaluate those issues, practical compliance steps, and strategies small businesses can use to reduce risk.

Why the rules matter now

The Supreme Court’s decision in South Dakota v. Wayfair (2018) gave states broader authority to require out‑of‑state sellers to collect sales tax based on economic activity rather than physical presence (South Dakota v. Wayfair, 138 S. Ct. 2080 (2018)). After Wayfair, most states adopted economic nexus thresholds and many enacted marketplace facilitator laws that shift collection duties to platforms (NCSL). That means even small, remote companies can have multi‑state collection obligations.

In my practice advising small digital businesses, I’ve seen how unexpected nexus and differing product classifications can suddenly increase compliance costs and change pricing strategy. A subscription‑based offering that seemed tax‑free in one state may be taxable in another, creating margin pressure if you don’t plan for it.

Key concepts: nexus, product classification, sourcing

  • Nexus: A state’s authority to make you collect and remit tax. Nexus can be physical (employees, inventory, office) or economic (sales dollar or transaction thresholds). Many states use economic thresholds similar to South Dakota’s law (for example, $100,000 or 200 transactions), but thresholds differ by state—always check the state revenue department.

  • Product classification: States differ in how they label digital items—digital goods (downloads), electronically delivered software, SaaS, and streamed content can be taxable or exempt depending on statutory definitions and case law.

  • Sourcing: Sales tax is typically sourced either to the buyer’s location (destination‑based) or seller’s location (origin‑based) depending on the state. For intangible and telecommunication services, sourcing rules can be complex and state‑specific.

For state guidance and a current map of state approaches, see the National Conference of State Legislatures (NCSL) research on digital product taxation (https://www.ncsl.org).

Common taxable categories (examples)

  • SaaS / cloud software: Some states treat SaaS as taxable tangible personal property or a taxable service; others do not. Classification is highly state‑specific.
  • Digital downloads and eBooks: Many states tax downloaded movies, music, and eBooks as digital goods.
  • Streaming and subscriptions: States may tax streaming video and audio subscriptions; taxation varies.
  • Online courses and professional services: Often treated as nontaxable professional services, but states sometimes tax access to prerecorded courses or subscription learning platforms.

Always review the statutory definition and administrative guidance in each state where you have customers.

Nexus triggers to watch for

  • Economic nexus thresholds (sales volume or number of transactions).
  • Physical presence: employee work, contractors, inventory, or trade show attendance.
  • Affiliate or click‑through nexus: referrals by in‑state affiliates can create nexus in some states.
  • Marketplace facilitator laws: if you sell through platforms (Amazon, Etsy, App Stores), many states require the marketplace to collect tax on your behalf.

For practical registration and filing steps if you establish nexus, see our guide: State Sales Tax Nexus for Remote Sellers: Practical Steps to Register and Comply (https://finhelp.io/glossary/state-sales-tax-nexus-for-remote-sellers-practical-steps-to-register-and-comply/).

Registration, collection, and remittance: step‑by‑step

  1. Inventory your offerings by type (SaaS, downloadable content, streaming, consulting) and map them to state definitions. Keep product descriptions consistent in invoices and tax engines.
  2. Determine nexus: review sales volume and activities by state. Keep automated sales tracking per state.
  3. Register with each applicable state revenue department before collecting tax. Some states impose penalties for late registration.
  4. Configure your billing system or tax engine to apply the correct tax rate and sourcing rule.
  5. File returns and remit tax on the state’s schedule. Maintain supporting records (invoices, exemption certificates, shipping logs) for audits.

Use automation tools (tax engines) and consider a tax professional for setup. In many cases, I have recommended that clients integrate a tax calculation service to avoid manual errors and to handle destination sourcing correctly.

Marketplace facilitators and platforms

Since Wayfair, nearly every state adopted marketplace facilitator laws. These laws generally require the marketplace (not the seller) to collect and remit sales tax for marketplace sales. That relieves some compliance burden but does not eliminate nexus risk for direct sales or for other obligations (income tax or payroll). Verify whether the platforms you use collect tax and whether that coverage applies to your specific products.

Exemptions, resale, and business‑to‑business sales

Exemptions vary. Common exemptions include sales for resale (requires a valid resale certificate), certain educational materials, and specific professional services. If you sell to other businesses, obtain and keep reseller certificates and check state certificate validity rules and renewal requirements.

Pricing, receipts, and customer communication

If you must begin collecting tax in new states, update your pricing or display tax clearly at checkout. Some businesses absorb the tax; others show tax as a separate line item. Transparent pricing reduces customer complaints and chargebacks.

Audit risk and recordkeeping

States have stepped up audits of digital sellers. Keep at least three to seven years of records (some states request longer). Maintain a clean audit trail: invoices, payment processor reports, exemption certificates, and customer shipping or billing addresses.

Practical strategies for small businesses

  • Conduct a states‑by‑states product classification review annually.
  • Limit unnecessary physical or affiliate presences that can create nexus, where possible.
  • Use a hosted tax engine (Avalara, TaxJar, Sovos, etc.) to automate calculations and filings.
  • Consider pricing models that distinguish taxable and nontaxable elements (e.g., professional services vs. subscription access).
  • Schedule periodic compliance reviews with a CPA or sales‑tax specialist.

For SaaS and service providers, our related primer, State Tax Nexus Considerations for SaaS and Digital Service Providers, outlines specific factors to evaluate (https://finhelp.io/glossary/state-tax-nexus-considerations-for-saas-and-digital-service-providers/).

Real‑world examples (brief)

  • Virtual fitness classes: After expanding marketing, a client discovered economic nexus in multiple states and had to register, collect tax, and reprice subscriptions. They recovered margins by itemizing tax at checkout.

  • Graphic design firm: One client found that some states classify delivered templates and finalized artwork as taxable tangible personal property; collecting in those states required registration and additional remittance.

These examples show that a single business model can trigger different tax treatments depending on customer location and state law.

Common mistakes to avoid

  • Assuming a single state’s treatment applies nationwide.
  • Failing to track customer locations accurately (billing vs. service location can affect sourcing).
  • Ignoring marketplace facilitator rules or relying on platforms without verifying coverage.
  • Missing renewal or maintenance of resale certificates.

Quick compliance checklist

  • Classify each offering and document the reasoning.
  • Run an economic nexus test for each state quarterly.
  • Register where required and set up tax calculation in your billing system.
  • Collect and store exemption certificates securely.
  • Reconcile tax collected to state filings monthly or quarterly.

Frequently asked questions (short)

Q: Do I need to collect tax for digital services in other states?
A: If you meet a state’s nexus standards and the state classifies your service as taxable, yes. Check the state’s revenue guidance and thresholds.

Q: What creates nexus for remote digital services?
A: Economic activity (sales dollars or transactions), employees or contractors in state, inventory, affiliates, and certain marketing activities can create nexus.

Q: Do marketplaces collect tax for me?
A: Often they do for marketplace sales under facilitator laws, but verify the detail and whether it applies to your product line.

Professional disclaimer

This article is educational and summarizes state trends and compliance practices as of 2025. It is not legal or tax advice for specific circumstances. Consult a licensed tax professional or state revenue agency for tailored guidance.

Authoritative resources

Related FinHelp resources:

If you’d like, I can produce a state‑by‑state checklist for your specific products and revenue profile or a one‑page compliance roadmap you can share with your accountant.