What Is the Difference between Sales and Use Tax?

Under U.S. tax law, sales tax is money that is owed to a U.S. state at the time goods are purchased there, while use tax is a tax that is levied against goods that have been bought elsewhere, but are nonetheless used in the state. In most cases, sales tax and use tax involve the same amount of money. The main difference between sales and use tax is when the tax paid, and how it is collected.

Although most countries in the world assess some form of tax on purchased goods, use taxes are an exclusively American phenomenon. United States tax codes permit individual states to set up their own taxation structures. Most states assess sales tax, which is collected at the point of sale — usually by store owners or merchants — and remitted to the state. A purchaser usually does not have to worry about sales tax on purchases beyond knowing that it is factored into the total price paid.

Use tax is a bit more complicated. In many respects, use tax is a tax on out-of-state purchases. State residents owe use tax on goods purchased out-of-state when two conditions are met: (1) the sales tax paid at the point of sale was less than the home state’s sales tax amount, and (2) the purchase was primarily used in the home state. It did not take states long to realize that high sales taxes might drive residents to make major purchases, such as cars, outside of state lines. When states assess a use tax, they are in essence trying to equalize the playing field.

Sales and use tax provisions have been on the books in most states for decades, though there has been a resurgence of use tax assessments as Internet sales have risen. Most state laws require any business with an in-state presence to collect and remit sales tax for goods sold to state residents, even if those sales take place over the phone or online. Not all merchants have physical presences in all states, however. This means that many Internet purchases are tax-free, at least at the outset.

States with use taxes require residents to remit money equal to the state’s sales tax for these kinds of purchases. If no tax was initially paid, then purchasers will typically owe the full amount that would have been charged had the item been purchased in-state. Purchasers will not generally be double-taxed, though. If taxes were paid to some other state, purchasers usually only owe the difference. Use tax does not usually apply if more tax was paid at purchase than the home state would have collected.

Individuals are typically responsible for remitting use tax on their own, usually within a set amount of time after the goods were brought into the state. States that require use taxes usually provide specific sales and use tax instructions and remittance forms on their websites and through their main offices. Failing to properly report goods purchased out of state can lead to stiff fines and penalties for individuals and businesses alike.

Much of the motivation for assessing both sales and use tax is to ensure equal competition, and to encourage residents to purchase from local merchants. A use tax is in many ways designed to dis-incentivize residents from crossing borders or comparison shopping online solely to avoid tax liability. In practice, sales and use tax serve the same purpose: to remit a portion of the proceeds of all sales to the state. The main difference is in how the tax is collected, and why.