In many states, the taxability of a freight charge depends on the taxability of the products being shipped. Learn how this is handled in AvaTax.
The most common version of this is that the taxable amount of freight depends on the taxability of the products being shipped. This is referred to as Tax Depends logic in AvaTax.
- If the products being shipped are all taxable, freight is fully taxable.
- If the products being shipped are all non-taxable, freight is non-taxable.
- If the shipment includes a mix of taxable and non-taxable products, Tax Depends logic is used to tax freight proportionally.
AvaTax determines the percentage of the sale that is taxable and calculates tax on that percentage of the freight amount.
- Tax Depends considers only Product tax codes when determining the taxability of freight.
- Service tax codes are not factored into the Tax Depends calculation.
- If a transaction includes freight but no Product tax codes, freight is generally treated as fully taxable.
- If a transaction includes a line item with a Product tax code but a $0.00 amount, the $0.00 Product line is not factored into the Tax Depends calculations. If all of the Product lines are $0.00, freight is generally treated as fully taxable.
Example of a tax depends calculation
You have a $10,000 sale with a $100 freight charge. The tax rate is 10%. The sale includes:
- $5,000 in physical products
- $3,000 is taxable
- $2,000 is non-taxable
- $5,000 in services
Of the $5,000 of the physical products portion of the sale, 60% is taxable. Tax is calculated on 60% of the freight amount, which is $60.00.
- 60% of $100 = $60.00
- 10% of $60 = $6.00
- Total tax on freight: $6.00
Some states also adjust the tax rate on freight depending on the tax rates applied to the other products in the transactions. This is called Rate Depends logic in AvaTax, and impacts the tax rate but not the taxable amount.
- If the products being shipped are all taxable at the same rate, freight is taxed at that rate.
- If the products being shipped are taxable at different rates, Rate Depends logic is used to adjust the tax rate on freight proportionally.
Rate depends calculation logic impacts the rate used to calculate tax, but the standard rate is displayed in Avalara and on reports.
Example of a rate depends calculation
You have a $1,000 sale with a $100 freight charge. The general tax rate is 6.25%, but food is taxed at a reduced rate of 1.0%. The sale includes:
- $250.00 in physical products (taxed at the general 6.25% rate).
- $750.00 in food (taxed at the reduced 1.0% rate).
The physical products represent 25% of the total sale, and food represents 75%. The tax rate on freight is adjusted proportionally, so 25% of the freight charge is taxed at 6.25%, and 75% is taxed at 1.0%.
The total freight charge is $100.00, and the total tax on freight is $2.31.
- The calculation for the smaller portion taxed at the regular rate is: 25% of $100.00 = $25.00.
- $25.00 x 0.0625 = $1.56
- The calculation for the larger portion taxed at the reduced rate is: 75% of $100.00 = $75.00.
- $75.00 x 0.01 = $0.75.
- Total tax on freight: $1.56 + $0.75 = $2.31
In some states, freight is typically fully taxable if the shipment includes any taxable products. If the shipment includes only non-taxable products, freight is also non-taxable. In AvaTax, this is referred to as Tax Hinge logic.
Tax hinge sum
In some states, freight is fully taxable if the majority of products are taxable, and fully non-taxable if the majority of products non-taxable.
For example, in a transaction with $75.00 of taxable products and $25.00 of non-taxable products, freight is fully taxable. In a transaction with $25.00 of taxable products and $75.00 of non-taxable products, freight is fully non-taxable.
Avalara tax codes
Not all states use tax depends, tax hinge, or rate depends logic, and they are not used for all Avalara freight tax codes. Open a support case to confirm if any of this logic applies to the freight tax code that you use.
Non-taxable codes and freight
- NT is a code for a non-taxable product and is taken into consideration when determining the taxability of freight. It should not be used for fees or services.
- ON030000 is a non-taxable tax code that is not treated as a physical product. It is not taken into consideration when determining the taxability of freight, so it can be used for non-taxable fees, services, or pass-through costs.
If a miscellaneous fee is mapped to NT on an invoice, it will be factored into the freight calculation and may cause incomplete taxation of freight on a shipment of taxable products.
The tax depends, rate depends, and tax hinge calculation logic for freight factor in only line items where the sign of the line matches the sign of the freight line. For example, if the freight line item is a negative dollar amount, AvaTax factors in only negative line items when calculating tax on freight. Positive line items are ignored.
Custom tax codes, rules, and overrides
- If you use custom tax codes, the tax code type impacts the taxability of freight. Custom tax codes that use the Service type are not factored into tax depends, tax hinge, or rate depends calculation logic.
- Custom tax rules can also impact tax depends, tax hinge, and rate depends logic.
- Line items that include a tax amount override are not factored into tax depends, tax hinge, or rate depends calculation logic.