Sales tax for SaaS businesses: Four common challenges
by December 22, 2025
Businesses offering software as a service (SaaS) as their primary product are in a uniquely hybrid product categorization for tax compliance. These offerings may be considered either a product or a service, depending on the state’s definition.
With this in mind, is SaaS a taxable product? A taxable service? Or none of the above?
TaxJar explores four unique sales tax challenges faced by SaaS businesses, providing solutions on how to address these challenges to ensure tax compliance.
Understanding sales tax for SaaS
Software as a service is such a unique and niche offering that it requires nearly every state to address its taxability with specific directives. On top of that, as SaaS offerings evolve, states continue to update their SaaS taxability laws to include new types of SaaS products.
SaaS may be defined as a product or a service. The definition varies across state lines, with some states requiring sales tax be applied to SaaS offerings while others consider SaaS exempt from sales tax.
Differences between SaaS and digital goods taxability
Why is SaaS so unique, and how does it differ from digital goods? The primary difference is that SaaS is typically a cloud-based software that requires a monthly subscription to access the service. For example, TaxJar is a tax software service.
Common digital goods include downloading music, movies, and other digital but tangible products. These purchases do not always require a subscription, and the buyer may enjoy their benefits over and over again after the initial purchase. Digital goods are considered taxable in many states, and this is due to their perceived tangible status (again, the customer/buyer owns the digital item and can use it repeatedly).
Prewritten software and custom software are also categorized as digital goods and are generally taxable. Prewritten software typically requires a license to use the product. AutoCAD, which is used by architects, is an example of prewritten software because it requires a license for use. Custom software is any software product designed specifically for the needs of a business, organization, or individual. This software is unique to the buyer and serves to meet a very specific need or functionality.
Key challenges in SaaS tax compliance
As SaaS may be considered either a service or a tangible product, companies offering SaaS may struggle with understanding sales tax compliance, how economic nexus affects their sales tax liabilities, and the impact of international sales. Here’s what to know about these common challenges and how to manage them.
1. Varying state-by-state requirements
Every state defines the taxability of SaaS in its sales tax laws and guidelines. As the SaaS industry grows, states have updated their sales tax guidelines to provide businesses with more context on the taxability of software as a service.
The taxability of SaaS is split nearly 50/50 across the US, but this changes often. These states consider SaaS taxable
- Alabama
- Alaska
- Arizona
- Connecticut (only SaaS for personal use is subject to full sales tax rates, while businesses are charged 1%)
- Hawaii
- Iowa (but only for personal use)
- Kentucky
- Louisiana
- Maryland (SaaS is taxed at the full rate for personal use; businesses are charged 3%)
- Massachusetts
- New Mexico
- New York
- Ohio (but only for business use)
- Pennsylvania
- Rhode Island
- South Carolina
- South Dakota
- Tennessee
- Texas (80% is taxable, 20% is exempt)
- Utah
- Vermont
- Washington
- Washington, D.C.
- West Virginia
Some states – including Delaware, New Hampshire, and Oregon – do not impose sales tax on any good or service. Montana has no state sales tax, but some counties assess sales tax (complicating the sales tax process).
In addition, these states do not consider SaaS to be taxable:
- Arkansas
- California
- Colorado
- Florida
- Georgia
- Idaho
- Illinois
- Indiana
- Kansas
- Maine
- Michigan (unless there is a downloadable component)
- Minnesota
- Mississippi
- Missouri
- Nebraska
- Nevada
- New Jersey
- North Carolina
- North Dakota
- Virginia
- Wisconsin
- Wyoming
Businesses need to identify the states where SaaS is considered taxable to ensure they remain compliant and assess sales tax on all applicable transactions. A few states have different taxability rules if the SaaS offering is being used for business use or personal use and it’s crucial for businesses to know these nuances.
2. Nexus and remote seller obligations
SaaS businesses should start by understanding the taxability rules for SaaS in the states they generate sales. As a next step, businesses should also begin monitoring their sales transactions to assess their economic nexus status.
A business is required to collect and remit sales tax if they have either physical or economic nexus in a state. Physical nexus refers to a tangible presence in the state, while economic nexus is defined by each state related to total sales or sales volume. Identifying when a business meets nexus guidelines is crucial to tax compliance in that state.
TaxJar provides free state sales tax guides that provide insights about nexus laws in each state, the steps for applying for a sales tax permit, statewide tax rates, and goods or services that may be exempt from sales tax.
Every state outlines unique directives related to economic nexus thresholds. Businesses must monitor sales activity in all states and be mindful of all nexus thresholds. Once a business reaches this threshold, states require the business to register for a sales tax permit or license. Collecting sales tax without this license may result in financial or legal liabilities.
If you are not sure where you have nexus, sign up for a free TaxJar trial and take advantage of our nexus insights tool. TaxJar’s nexus insight tool simplifies the process with an easy-to-use dashboard and notification system that helps you monitor your nexus exposure as you transact more sales online and across more states. Our dashboard warns you when you may need to register in a new state.
3. International taxation standards for global transactions
International taxation and global transactions pose another challenge to SaaS businesses. International tax laws are more complex, and businesses must understand the implications of any applicable taxes and where to remit any necessary sales tax.
While TaxJar does not manage international taxes, TaxJar’s parent company, Stripe, offers global tax compliance support. Stripe Tax supports more than 100 countries and 600+ product types.
4. Calculating and applying diverse tax rates
Every state has a set tax rate. In addition, states follow destination-based or origin-based sales tax guidelines, and these guidelines are different for remote sellers.
Destination-based states require sales tax to be assessed according to the buyer’s location. Origin-based states require sales tax to be assessed according to the seller’s location.
Most states are destination-based, which requires businesses to understand all the tax rates assessed in every customer’s location. This includes additional city, county, or special tax jurisdiction rates. While the state rate may be 4%, additional taxes imposed by the county and city may lead to rates that are nearly double. To remain compliant with local sales tax laws (and assess the appropriate tax rates), businesses need to research the sales tax rates in jurisdictions or counties; TaxJar offers an online sales tax calculator to simplify this research, or start a free TaxJar trial to see how to automate calculations.
Most of the time, if you are considered a remote seller in a state, that state wants you to charge the sales tax rate at your buyer’s destination.
When SaaS is a taxable product, businesses must adhere to state guidelines to ensure tax compliance and accuracy.
Future considerations for SaaS businesses
Sales tax guidelines related to software as a service may change over time. As technology evolves and SaaS products become more popular (with increasing options for subscription services), states may update their tax laws in response.
Evolving regulations in digital goods transactions
More and more software products are moving towards a subscription-based service. In the past, Microsoft Office was a tangible product that was installed on a computer. The buyer owned the rights to use the product, which required a product code to be entered for installation on any device.
Now, Microsoft Office is accessed via a subscription-based model. Users only have access to the products for a specific time period, and they do not own any rights to use the software or install it. While Microsoft Office was once considered a taxable product, today it may be considered a software as a service and is taxed differently per individual state laws.
Companies that offer SaaS must be diligent in understanding the regulations related to digital goods transactions and how these regulations impact the taxable status of their product.
Importance of staying up-to-date on regulatory changes
Current regulatory changes for SaaS include updates related to safety and security. Additionally, AI and its impact are at the forefront of regulations for SaaS.
AI tools that are designed to simplify workflow and other needs may be under more scrutiny in the future. SaaS companies that integrate AI capabilities need to be vigilant regarding any regulatory changes and how these changes impact taxation.
Solutions for streamlining SaaS tax compliance
Businesses offering software as a service can simplify their tax challenges by automating the sales tax process. TaxJar offers the capabilities and features that enable SaaS businesses to streamline every step of the sales tax process.
Benefits of automating sales tax processes
With TaxJar, businesses can automate sales tax calculations, ensuring the right rate is applied for every purchase in every state. TaxJar updates tax rates regularly, ensuring businesses never have to worry about collecting the right amount.
TaxJar also allows businesses to automate their filing and remittance with AutoFile. Regardless of their filing frequency, monthly, quarterly, or annually, AutoFile files and remits sales tax to the appropriate state tax authority, accurately and on-time.. Businesses are also notified of upcoming deadlines for filings, avoiding delays, and delinquent interest payments.
How TaxJar simplifies SaaS tax compliance
TaxJar streamlines sales tax processes for SaaS businesses like Big Cartel, Quimbee, and My Heritage. The API identifies states where SaaS is taxable, assigning the applicable tax when appropriate. TaxJar also monitors sales tax nexus thresholds, alerting businesses when they need to register for a sales tax permit in a new state. In addition, TaxJar provides the most recent sales tax rule updates as well as rate adjustments. TaxJar even automates the process of registering for a sales tax license.
- Automations for SaaS products: Since SaaS sales tax guidelines vary by state, using TaxJar simplifies the process of compliance, eliminating the research and frustration. With theTaxJar API, you can assign a product code to every product. When you choose the code that aligns with software as a service, TaxJar triggers sales tax to be applied when a sale is made in any state where SaaS is taxable.
- Nexus threshold alerts: Automate nexus monitoring, so you can take action and prepare to register for a sales tax permit as soon as you hit a threshold. This is crucial for SaaS businesses that may be approaching a nexus threshold in a state where SaaS is taxable.
- Up-to-date tax laws: TaxJar’s automatic updates ensure that businesses collect the right amount of tax each time. This also helps avoid hours of research related to uncovering any new tax changes or rate updates
- Automated filing and remittance: Businesses have the option to automate the filing and remittance process with AutoFile, avoiding late filings, missed filings, and potential financial penalties.
- Multichannel support: TaxJar’s dashboard enables you to view all your sales tax information across states, providing businesses with the option to create more detailed reports about sales tax payments and collections in any state.
As your business grows, you may expand to other states. As soon as you hit a nexus threshold in a state, you are expected to begin collecting sales tax from customers in that state. SaaS businesses that sell in a state where their product is taxable can use TaxJar to register for sales tax permits in as many states as needed.
How sales tax automation moves SaaS businesses forward
Ever-evolving regulations and tax laws may impact the future of SaaS taxability, especially as AI and AI-integrated tools within software become the norm. Automating sales tax processes with TaxJar ensures that SaaS businesses always have the most updated guidelines and rates to remain compliant.
Automate sales tax processes with TaxJar to remain current on all regulatory updates and get back to focusing on growing your SaaS business.
Ready to automate your sales tax processes? Explore TaxJar today.
