Are online classes subject to sales tax?

COVID-19 is hitting schools hard. Public schools rely on tax revenue and tuition for funding, yet both tax revenue and enrollment are down in much of the country. To fill classes and coffers, many community colleges are following the lead of their four-year friends and marketing to prospective students based in other communities, states, and even countries. This could boost enrollment and help keep the lights on. It could also have sales tax implications.

Just as selling tangible goods to customers in other states can establish a sales tax collection obligation in those states for businesses, selling online education to students in other states can create a sales tax obligation for schools.

A school can establish sales tax nexus (the connection that allows a state to tax a business’s sales) like a business, through physical presence in a state — including traveling representatives or recruiters. Yet in most states, physical presence isn’t the only way for an out-of-state entity to establish sales tax nexus: A remote entity can create nexus solely through sales activity in a state, or economic nexus.

Economic nexus is now enforced in 43 states, the District of Columbia, and parts of Alaska (where there are local sales taxes but no statewide sales tax). In fact, only two states with a general sales tax have no economic nexus law: Florida and Missouri. The remaining states — Delaware, Montana, New Hampshire, and Oregon — have no general sales tax.

As sellers of education or training services, through in-person classes, online classes, or a hybrid of both, community colleges and other schools may be required to register then collect and remit tax on taxable sales in states where they have physical or economic nexus.

Online education and training may or may not be subject to sales tax; it depends on the state as well as the nature of the service or seller. Factors affecting taxability include:

• The format (e.g., live-streamed vs. pre-recorded)
• The type of program or school (e.g., degree vs. non-degree, nonprofit vs. profit, credentialed vs. non-credentialed, vocational, professional)

The format

How a class is presented to a student can impact how it’s taxed. For example, a ruling recently issued by the Tennessee Department of Revenue explains that while live, instructor-led online courses aren’t subject to Tennessee sales and use tax, self-paced online classes that provide no live online instruction are taxable “because the student is paying for the use of computer software.”

According to Diane Yetter of the Sales Tax Institute, “Live, in-person education seminars are rarely taxed except in states that tax virtually every service, such as Hawaii, New Mexico, and South Dakota.” However, “when you move to online, whether it is taught live or is on-demand makes a difference. More states will tax an on-demand class.”

Yetter notes that “online events meet the definition of a digital audio visual good” in the 24 states that are members of the Streamlined Sales and Use Tax Agreement (or SST), though she’s not sure states had online education in mind when they created those definitions. She says a few SST member states, like Wisconsin, have issued rulings to clarify this matter.

In Wisconsin:

• Sales of live in-person educational services are not taxable
• Sales of live digital online educational services are not taxable
• Sales of digital books and videos and tangible books and videos are generally taxable
• Sales of pre-recorded seminars and webinars (downloaded or streamed) are generally taxable

Wisconsin does provide an exemption for the sale of a digital good (e.g., pre-recorded webinar), but only if the student is evaluated by an instructor or has live interaction with the instructor or other students through the internet or other networks. When that interaction occurs (e.g., how long after the video or webinar was provided) can also impact taxability. See the Wisconsin Department of Revenue’s excellent guidance on the sales tax treatment of educational products, goods, and services for examples.

The type of program or school

When it comes to selling online education, Yetter says, “Who is providing and selling can make a difference.” She gives Arizona and Missouri as examples of states where normally taxable sales of online training are exempt when sold by a nonprofit or governmental agency: “The status of the provider overrides and the online training is exempt.”

In Texas, “standalone charges for training or educational services, which are primarily instructional in nature, are not taxable,” according to the Texas Comptroller. Nontaxable training or educational services include:

• Courses that provide accreditation, certification, or continuing education credit based on the learner’s final test (or assessment)
• Online training courses                                                                            
• Webinar training programs during which participating viewers can submit and receive responses on questions from the presenters

Of course, schools often sell more than just education. They often sell textbooks and consulting services like career counseling or resume building. Schools with physical facilities may rent spaces to businesses and other organizations. These sales may or may not be taxable.

For example, while books are generally subject to New Mexico gross receipts tax, the state provides a textbook exemption. Textbooks and other material required for courses are exempt when sold from a bookstore located on the campus of a public post-secondary educational institute to a student who presents a valid student identification card (see FYI-105: Gross Receipts and Compensating Taxes: An Overview).

Institutions that provide nontaxable educational services in Texas may need to register with the Texas Comptroller and collect and remit tax on sales of educational materials to customers. They can purchase goods for resale tax-free with a properly completed resale certificate, but they must have an active sales tax permit to give a resale certificate to a supplier.  

Entities like schools that make exempt sales into other states may still establish economic nexus. While they may not need to collect sales tax, they may need to register with the state, validate exempt sales with exemption certificates, and file returns. It depends whether the state includes exempt sales in its economic nexus threshold.

For example, while no services are included in California’s economic nexus threshold, both taxable and exempt services should be included when determining economic nexus in North Carolina. A remote business that makes more than $100,000 in gross sales or at least 200 transactions into North Carolina in the current or preceding calendar year — including exempt transactions — generally needs to register and comply with North Carolina sales tax laws.  

Schools have been around for millennia, but online education and training are relatively recent phenomena. Some states don’t clearly address the taxability of these sales. That will likely change, especially now that COVID-19 has propelled more education and training online.

Find out where you may be at risk of having economic nexus with this free sales tax risk assessment.