A comprehensive guide on the basics of sales tax in California

TL;DR

• The US sales tax is a tax that is levied on the sale of taxable goods and services.
• As a seller with a commercial presence in California, you have to register, collect sales taxes from your customer, and pay the amount to the state. 
• The sales tax rate in California varies between 7.25% to 10.75%.
• California is a hybrid state with both origin-based and destination-based rates. Your location (origin) will be considered for local tax rates, while the buyer's location (destination) will be considered for the district sales tax rate.
• Sales tax is levied based on whether you have a significant commercial presence in the state, the identity of the buyer, and whether the product or service is taxable.
• Some of your buyers (non-profit organizations and government entities) can purchase goods without paying sales tax.
• Tangible personal property are taxable, but some goods like groceries and medical supplies are non-taxable.
• Most services are not taxable, unless they are vital to the manufacturing process or use of a product.
• The amount that the state collects from you is ultimately used for public service programs and for funding the government.

Keep scrolling to know more!


What is the US sales tax?

The sales tax is a tax that is levied on the sale of goods and some services. It is the seller's responsibility to collect taxes on behalf of the government when such sales are made.

California has a few sales tax rules and regulations of its own. Understanding CA sales tax is important for anyone who makes transactions in the state, whether they're a business or an individual.

Why is it important?

• If you are a seller in the US, you have a responsibility to calculate sales tax and collect the right amount from the buyers. If you don't collect sales tax from the customer at the point of sale, you have to bear the cost yourself. Moreover, if you haven't been collecting or paying taxes for a long time, you may end up facing several penalties. 
• If you are running a business, you need to register with the state, know what products are taxable, determine the right tax amount for each transaction, collect sales tax, and be consistent in remitting the tax you collect. Failure to do any of this will result in a variety of penalties. For instance, if you do not remit the sales tax that's due to the government, your personal assets could be seized for payment. Other penalties include fines, being charged with fraud, or even facing criminal citations.
• Sales tax applies whether you're selling through direct physical means or online, and even if you're selling out of state. Sales tax rules can also differ based on the location and nature of the sale, so it's important that every business owner knows the specific rules surrounding their sales tax obligations.

This guide offers a simple view of the California sales tax, including the sales tax rates, how to calculate and collect sales taxes, when taxes are levied, what is taxed and exempted, and how sales tax impacts the state as a whole.

How does sales tax work in California?

California sales tax is levied on the sale of goods and services, and sellers have to collect it from buyers. California is a Seller Privilege Tax state, which means that the seller is primarily responsible for the tax in exchange for the privilege of carrying on business in the state.

In some transactions, sales tax isn't collected, so use tax is collected instead for the storage or consumption of a taxable good or service. For instance, when a taxable good has been bought outside California but is used within the state, use tax is applicable.

What are the sales tax rates in California?

If you want to calculate sales tax, it is important to remember that each state's rates vary. Sales tax is levied as a combination of taxes that are applicable at the state level, county level, city level and/or district level.

Initially, the sales tax rate in California was 2.5%, and the total revenue was distributed to the state's general fund. Since then, several changes have been made—the tax rate has increased while more goods have been exempted from this tax, such as groceries and medical supplies.

Currently, rates vary between 7.25% and 10.75% based on the county and city. The statewide basic tax rate is 7.25%, which is distributed between state and local funds (with the majority going to the state). Individual counties and cities may also apply their own sales taxes, which range from 0% to 3.5%.

How do you collect sales tax?

You have to collect sales tax from your buyers at the point of sale. First, you'll have to register with the tax authority (CDTFA), apply for a seller's permit, calculate sales tax and collect the right amount, and remit this with the CDTFA. California is a hybrid state with both origin-based and destination-based rates. Your location (origin) will be considered for local tax rates (based on the city/county), while the buyer's location (destination) will be considered for the district sales tax rate.

The first step in this process is to obtain a seller's permit, a document that allows a business owner to collect taxes on behalf of the government. After this, you will have to determine and calculate sales tax based on the selling price of goods and services. Manual methods of calculating taxes are gradually being replaced with high-tech systems to calculate sales tax, especially dedicated POS (Point of Sale) systems and invoicing/POS apps. After the right amount is collected as tax, it is then filed and remitted based on the filing frequency.

When is sales tax levied?

Sales tax is levied based on the following criteria:

1. Whether you have nexus in the state of California

2. The identity of the buyer

3. The type of product or service

1. Based on whether you have nexus in the state of California

'Nexus' refers to a commercial connection that one has with a state. A commercial connection exists when an individual or entity has some form of business in that area. For example, if you have a physical store in California, or if you're an out-of-state seller doing business in California, sales tax is levied because of the economic transactions that are taking place within the state.

Nexus can be established both directly and indirectly, through the presence of a direct connection (eg: employee) or an indirect connection (eg: third party contractors). Sales tax can also be charged if there is a third party in California who refers a customer to a seller located elsewhere. Such third parties are considered to be an affiliate nexus, which conducts business in the state in an indirect manner. This leads most businesses to be liable for sales tax even through agents and contractors. So, nexus includes employees, stores (both temporary and permanent), affiliate,s and even those involved in dropshipping. Even if a seller stores goods in a fulfillment center in California for the purpose of selling them online, the seller has physical nexus in the state and should register with the CDTFA and collect taxes.

2. Based on the identity of the buyer

Sales tax cannot be charged when products are sold to foreign and state governments. Some non-profit organizations, religious, educational, and charitable organizations are also exempted from having to pay tax to sellers. For instance, a non-profit museum operated by a governmental entity or a non-profit organization is exempted from tax. Apart from these exceptions, sales tax applies to most others, ranging from individuals to businesses.

3. Based on the type of product or service

Sales tax is applicable on Tangible Personal Property (TPP). Services are not taxed in this state, unless they are vital to the product that is being sold. 

What is taxed and what is not taxed?

Taxable goods:

Tangible personal property—any personal property that is perceptible to the senses—is taxed in California. This means any ordinary physical item, like furniture or a vehicle, is taxed even if it's purchased through an online seller.

Taxable services

If a service is an important part of a product being purchased, and is essential to the use of the product itself from the time of sale, it will be taxable—for instance, services to design a custom poster, which is a tangible product and the main object of the sale. Services that go into manufacturing a product are also taxable. However, many other common services, like labor costs for repairs, are not taxable.

Non-taxable goods:

California doesn't apply sales tax to:

1. Essentials such as groceries, hot beverages, livestock, farm equipment, and medical supplies.

2. Real property, such as land.
3. Digital goods, such as the download of a digital book or pre-written software.  

Some items such as clothes, manufacturing equipment, gasoline, and over-the-counter medicines have their own sales tax laws and may be subject to a lower tax rate. Tax rates can also vary based on how a certain item is sold or whether it is combined with something else.  

What is sales tax used for?

It is the CDTFA's responsibility to ensure that the tax it receives is distributed to local and state agencies. From the basic state sales tax rate of 7.25%, 6% goes to the state for self-funding and public services programs, and the remaining 1.25% is passed on to county and city governments. Overall, 18.4% of California's state revenue comes from sales and use taxes.

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