Did you know that Tax Foundation reports 45 states impose state-level sales taxes, and consumers in 38 of those states also face additional local sales taxes? These taxes, combined with excise taxes on specific goods, can significantly impact your finances or business operations.
As tax season approaches in 2025, understanding the differences between sales tax and excise tax is more critical than ever. In this article, unravel the complexities of these taxes, gain insights into their applications, and understand how they impact your business or personal finances.
What is Sales Tax, and How Does it Work?
Which Items Are Subject to Sales Tax?
Sales tax is a broad-based consumption tax typically levied on goods and services at the point of sale. Unlike excise taxes, which focus on certain goods like gasoline or tobacco, sales taxes are general taxes applied to a wide range of retail transactions.
Here are the key details:
- Taxable goods and services: Most retail sales of goods, such as furniture or electronics, are subject to sales tax. Some states extend taxation to services, like repairs or entertainment.
- Exemptions: Certain items are exempt, such as unprepared food, prescription drugs, or clothing in many states. For example, a household purchase of groceries may avoid sales tax in Florida but not in Tennessee.
- Local variation: State and local governments set different tax rates, which means the sales tax you pay in New York City might be much higher than in rural areas.
Understanding what is taxed and what is exempt is essential for small businesses to avoid overcharging customers or facing penalties.
How is Sales Tax Collected and Remitted?
When you sell a product or service, you’re responsible for collecting sales tax at the point of sale and sending it to the relevant state or local tax authority. Here’s how it works:
- Collection: Sales taxes are typically added to the purchase price and visible on receipts. For instance, if the state tax rate is 6% and the local rate is 2%, you’ll collect 8% on the transaction.
- Remittance: As a retailer, you must file regular reports, detailing tax revenue collected and ensuring compliance by paying the correct amount to the state. Filing schedules depend on your revenue; small businesses may file annually, while larger operations might report monthly.
- Complexities for online sellers: If you sell across state lines, you may need to collect taxes based on the consumer’s location under the sales tax nexus rules.
Failure to comply with these requirements can result in audits, fines, or other tax liability issues. Proper tax planning ensures smooth operations.
Further Reading: What You Need To Know About Sales Taxes
What is Excise Tax, and Why Is It Applied?
What Are the Different Types of Excise Taxes?
Excise taxes are typically levied on specific goods or services, often included in the price of the product. These taxes generate revenue for public projects or discourage certain types of consumer behavior. Common examples include:
- Federal excise taxes on gasoline: The per gallon tax on gasoline is $0.184, with additional state taxes varying widely. These taxes fund infrastructure projects like highways.
- Cigarette and tobacco taxes: A pack of cigarettes may carry both federal and state excise taxes to reduce smoking and offset health costs.
- Luxury goods: High-value items like yachts or private jets are subject to ad valorem taxes to generate significant revenue without heavily burdening average consumers.
Excise taxes come in two main types:
- Specific taxes: These are fixed amounts, like the tax on cigarettes or a gallon of gasoline.
- Ad valorem taxes: These are calculated as a percentage of the price of the product, often applied to luxury goods or services.
How Does Excise Tax Differ From Sales Tax?
The two taxes differ in application and purpose:
- Sales tax is a broad-based tax imposed on most goods and services during retail sales. It’s collected directly from the buyer at checkout.
- Excise taxes are often included in the product's price and target certain goods like tobacco or gasoline. For example, a federal excise tax on diesel is built into its cost, affecting consumers indirectly.
While sales taxes aim for general revenue, excise taxes serve to fund specific programs or curb detrimental consumption (e.g., cigarette taxes reduce smoking).
Further Reading: Discover essential insights on excise taxes
Key Differences Between Sales Tax and Excise Tax
How Are Excise and Sales Taxes Different in Purpose and Impact?
Excise taxes are imposed with a specific fixed purpose, such as addressing an externality like pollution or funding infrastructure through gas taxes, while sales taxes serve as a general revenue tool for state governments. Excise taxes are collected from producers and included in the price, impacting consumers directly or indirectly, whereas sales taxes are added at checkout. These differences can disproportionately affect low-income individuals or businesses handling amusement, tobacco, or luxury goods, as excise taxes often constitute a higher share of their expenses.
Who Pays the Tax?
In the sales tax vs. excise tax debate, the key difference is who pays the tax and when:
- Sales tax: This is a transaction tax collected from the buyer at the point of purchase. It’s visible on receipts and can vary depending on state and local tax rates.
- Excise tax: This is a tax applied to producers or wholesalers and is often included in the price you pay as a consumer. For example, the excise tax on tobacco is paid by manufacturers but passed on to buyers through higher costs.
What Are the Compliance Requirements for Businesses?
Compliance differs significantly for these two tax types, requiring businesses to adopt tailored approaches:
- Sales tax compliance: You must register with your state for a sales tax permit, calculate and collect the correct tax rate, and remit it on schedule. Missing a payment can result in interest or penalties.
- Excise tax compliance: If you sell or manufacture certain goods, like alcohol or tobacco, you’ll need to file federal excise tax returns (Form 720 for U.S. businesses). Some states require special licensing, such as for cigarette taxes or gasoline distribution.
Proper planning and bookkeeping tools are crucial to manage tax liability and avoid non-compliance, which could lead to audits or fines.
How Does the United States Compare to Other Countries?
Excise Tax Revenue: U.S. vs. Other Nations
The United States collects about 4% of its revenue from excise taxes, significantly lower than the 12% average among the 29 nations in the OECD. Why the difference? In the U.S., most consumption taxes are managed at the state and local levels, leaving excise taxes with a narrower scope.
For instance:
- The federal tax on gasoline is $0.184 per gallon. It applies uniformly across the country, making up nearly half of all federal excise tax revenue.
- Other nations often have broader excise taxes, covering additional products like sugary beverages and plastics to boost their tax revenue and encourage sustainable practices.
Why Excise Taxes Are Applied in the U.S.
The U.S. uses excise taxes strategically on certain goods for several reasons:
- Mass consumption revenue: Excise taxes on heavily used items, like gasoline, generate substantial funds without raising income taxes. These funds often support infrastructure, such as road maintenance.
- Discouraging harmful behaviors: Taxes on cigarettes, tobacco, and alcohol aim to curb usage by increasing the cost. For example, a pack of cigarettes in New York carries over $4 in excise tax, significantly more than the $0.30 in Virginia.
- Mitigating environmental impact: Taxes on gasoline or chemicals help offset damage to the environment caused by their use.
Further Reading: Learn how to properly file for quarterly federal excise tax returns
How to Ensure Your Business Stays Compliant in 2025
Best Practices for Bookkeeping and Tax Filing
Keeping up with federal and state excise taxes is vital for small businesses to avoid penalties. Follow these practices to stay compliant:
- Use specialized software: Tools like QuickBooks or Avalara can track tax applied to transactions, calculate liabilities, and generate reports for both state and federal excise taxes.
- Hire a professional: A certified tax preparer or accountant ensures accurate filing and keeps you updated on new tax rates and exemptions. This is especially important if you deal with goods like tobacco or luxury items that have complex excise tax rules.
Frequently Taxed Goods to Monitor
Certain items consistently fall under excise taxes. Knowing them can simplify compliance:
- Tobacco products: Check state-specific rates since they vary widely.
- Alcohol: Rates can depend on volume and type (e.g., spirits vs. beer).
- Luxury goods: These often carry an ad valorem tax based on the price of the product.
- Gasoline: Understand the per gallon tax on gasoline for federal, state, and even local levels.
Use state websites or IRS resources to verify applicable excise taxes. Staying informed reduces errors and ensures compliance with ever-changing regulations.
Key Takeaways
- Taxes may differ greatly depending on whether they are sales taxes or excise taxes, as each serves a unique primary purpose in generating revenue or influencing behavior.
- The tax different from a sales tax, like an excise tax, often targets specific goods, with costs included in the price rather than added at checkout.
- Businesses handling goods where excise taxes apply, such as tobacco or tanning services (tan), must understand the compliance requirements to avoid penalties.
- While excise taxes may have lower rates for some items, their impact is significant in curbing harmful behaviors or discouraging the black market.
- To comply, ensure you track whether you need to pay federal excise taxes or file for state-specific goods under excise tax regulations.
How can Taxfyle help?
Finding an accountant to file taxes is a big decision. Luckily, you don't have to handle the search on your own.
At Taxfyle, we connect you with licensed, experienced CPAs or EAs in the US. We handle the hard part of finding the right tax professional by matching you with a Pro who has the right experience to meet your unique needs and will file your file taxes for you.
