Arizona Sales Tax & Audit Guide
Straightforward Answers to your Arizona Transaction Privilege Tax (sales tax) Questions
- What is Arizona's Transaction Privilege Tax (TPT)?
- Do I need to collect Arizona sales tax?
- Should I be collecting or paying Arizona use tax?
- What do I do if I should have been collecting but haven't?
- I received an audit notice. What should I do?
- Guidance on fighting a sales tax assessment in Arizona.
What is Arizona's Transaction Privilege Tax (TPT)?
Technically, Arizona doesn't have sales tax. Instead, they have a transaction privilege tax (TPT). They are almost the same thing, but TPT differs from a true sales tax because it's a tax on the privilege of conducting business in Arizona. A sales tax is a consumption tax on the sale of goods and services.
So, a sales tax is imposed on the purchaser/consumer, and Arizona's TPT is imposed on the business. The business can legally pass the tax burden on to the purchaser/consumer at the time of sale. But the business can't pass its tax liability to the consumer after the fact, like when it's tax time.
Who Needs to Collect Arizona Sales and Use Tax?
Like most states, to be subject to Arizona sales tax collection and its rules, your business must:
1) Have nexus with Arizona, and
2) Sell or use something subject to Arizona sales tax.
How is Nexus Established in Arizona?
According to the Arizona Department of Revenue (ADOR), a business with a physical presence in Arizona has nexus. Any of the following can establish physical presence:
1. Occupying and maintaining an office or other physical location where business is conducted.
2. Having independent sales reps, employees, or agents conducting business in the state, including selling, delivering, or taking orders for taxable items in Arizona.
3. Assembling, installing, servicing, or repairing products in Arizona.
4. Owning, renting, or leasing real property or tangible personal property in Arizona, including a computer server or software to solicit orders for taxable items.
5. Delivering goods to Arizona customers using your company-owned or leased truck.
6. Maintaining inventory in Arizona using a third-party fulfillment service, such as Fulfilled by Amazon ("FBA").
Additionally, businesses that do not have a physical presence in Arizona can establish economic nexus by exceeding a certain annual sales threshold in the state. See the next section for details.
Economic Nexus (Wayfair Law) and Internet Sales in Arizona
Arizona introduced a new dollar-based standard for businesses with no physical presence in the state. This is known as economic nexus.
When the gross revenue from direct sales in Arizona, in the previous calendar year or the current year, is more than $100,000, you have economic nexus.
In short, if you make sales in Arizona through a website you own, you must collect and remit sales tax to Arizona once your sales reach $100,000. You have 30 days from when you hit this threshold to get a license and start collecting and remitting sales tax.
- As Arizona defines it, gross sales revenue includes all income generated by the remote seller or an affiliated party of the remote seller.
If you only make sales in Arizona through Etsy or another platform that you do not own or operate, you are a marketplace seller.
Marketplace sellers are not required to get a license with Arizona or file and remit tax on these sales. The marketplace facilitator you sell through collects sales payments and remits the tax to Arizona on your behalf.
You still need to report those sales. You'll also need to obtain exemption certificate(s) from each marketplace facilitator that you make sales through.
Here are some additional resources for marketplace facilitators and remote sellers:
Which Sales are Subject to Arizona Sales Tax?
If you have nexus in Arizona, the next step is to determine whether the products or services you sell are subject to Arizona sales and use tax.
Unless an item is specifically exempt, sales and rentals of tangible personal property are subject to Arizona sales tax.
The rules seem simple, but many details make applying Arizona's tax rules to your business challenging.
We recommend scheduling a time to review your specific situation with one of our sales tax professionals.
Common Exemptions from Arizona Sales and Use Tax:
- Sales to State and Federal Government
- Sales made to the state of Arizona or its counties, are taxable at the full rate.
- Retail sales to the U.S. government are taxable at half the regular tax rate.
- Sales of products directly to the U.S. government by a manufacturer, modifier, assembler, or repairer of such products are not taxable.
- Business activities performed on a reservation are tax exempt. See Tax exemption; sales to Indian tribes, tribally owned businesses, tribal entities, and affiliated Indians for more information.
- Sales of Groceries are exempt from the sales tax in Arizona. However, catering sales are taxable. See Tax exemptions related to food for more details
- Lottery tickets
- Textbooks, sold by a bookstore, that are required by any state university or community college.
- Magazines, periodicals, and other publications produced by this state to encourage tourist travel.
- Paper machine clothing, such as forming fabrics and dryer felts, purchased by a paper manufacturer, and directly used or consumed in paper manufacturing.
Arizona classifies many services as retail, which makes the services taxable.
- A photographer's activities are taxable as they are classified as retail. Gross receipts derived from photography services are taxable under the retail classification. This includes taking, processing, and printing pictures, prints, or images on or from film, video, or other similar media.
Pursuant to numerous letter rulings, Arizona treats the sale of software as tangible personal property and, thus, subject to TPT. Likewise, the sales of SaaS and cloud computing are broadly taxable in Arizona as well.
But software designed for the use of only one company or person is exempt from TPT. Computer hardware is considered a retail sale and is taxed.
Shipping & Handling
Arizona has traditional and somewhat technical rules on the taxability of shipping and delivery charges. Pursuant to Arizona’s regulations, a charge by the retailer for shipping and delivery charges are not taxable so long as they are separately stated on the invoice. However, if it is determined that the “delivery” charge has anything other than the actual cost of delivery in it, it becomes taxable.
Industry Specific Transaction Privilege Classifications
While the general sales tax rules seem straightforward, the application of those rules can get tricky when gray areas come up. These guides were developed by [Arizona] to provide some industry-specific and topic-specific guidance:
- 42-5061 Retail classification; definitions
- 42-5061; Version 2 Retail classification; definitions
- 42-5062 Transporting classification
- 42-5063 Utilities classification; definitions
- 42-5064 Telecommunications classification; definitions
- 42-5065 Publication classification; definition
- 42-5066 Job printing classification
- 42-5067 Pipeline classification
- 42-5068 Private car line classification
- 42-5069 Commercial lease classification; definitions
- 42-5070 Transient lodging classification; definition
- 42-5071 Personal property rental classification; definitions
- 42-5072 Mining classification; definition
- 42-5072; Version 2 Mining classification; definition
- 42-5073 Amusement classification
- 42-5074 Restaurant classification
- 42-5075 Prime contracting classification; exemptions; definitions
- 42-5076 Online lodging marketplace
Determining Local Sales Tax Rates in Arizona
Arizona's base or statewide transaction privilege tax rate is 5.6%. Cities, counties, special purpose districts, and transit authorities can charge a local surtax on top of the 5.6%. This often increases the seller's total sales tax.
Arizona collects the tax on behalf of its cities and counties, but tax rates vary among the cities and counties and by the type of business activity.
So, your business may need a transaction privilege tax or business license from the city or cities where the company is based or operates.
Businesses with many locations have two options:
- Get a separate license for each site and report each location individually.
- Get a consolidated license and report total sales for all locations together.
Local Sales and Use Tax Tables
On top of the state tax rate of 5.6%, counties and cities each have additional sales and use tax rates.
We recommend using Arizona's Sales Tax Rate Locator, which allows you to search for sales tax rates by address. You can also use this map lookup tool if you don't have an exact address.
The following tax table shows the additional taxes charged by each county and city.
« The county and city tax rates vary by industry. For example, sales tax on hotels, restaurants, and bars is often higher than the tax rates for other retail items and services. For this reason, the city tax rates in the chart below are the average tax rate across all industries.
*Exact tax rates vary by industry.
I Should Have Collected Arizona Sales Tax, But I Didn't
Many of our competitors will suggest Filing a Voluntary Disclosure Agreement in each state. This is a one-size-fits-all solution that isn't always the best. Our sales tax professionals will work with you to determine the best and most cost-effective solution for your business.
If you determine your business has nexus, but you have not collected Arizona sales tax, here are your options:
1. Register and pay back taxes, penalties, and interest, or
2. Complete a VDA to cut penalties (and, in some cases, reduce your tax liability and avoid interest).
Here is what you need to know about each option to make the best decision for your business:
Option 1: Register to Pay Back Taxes, Penalties, and Interest.
A VDA is not cost-effective if the past liabilities and penalties are minimal. Sometimes the best solution for a business is to register with Arizona and pay back taxes, penalties, and interest.
Be wary of the tax professionals that recommend doing a VDA in these cases. They are looking to make a buck rather than looking out for your best interests.
When to consider registration and payment:
- If you established nexus less than 3 or 4 years ago.
- The sales tax penalty is LESS than the professional fees charged for the VDA.
- Your business does NOT have a sales tax collected issue.
Beware: Registering does not generally end past liabilities.
If you're unsure what your past liabilities are, contact us. Our state tax professionals work with you so you can make the right choice for your business.
Option 2: Voluntary Disclosure Agreement (VDA)
Arizona's lookback period: The standard lookback period is four years; however, this is determined on a case-by-case basis.
In many situations, voluntary disclosures are a valuable tool to reduce extended periods of past exposure.
The voluntary disclosure limits the lookback period to four years. Suppose you should have collected sales tax over the past ten years but didn't. If that is the case, you may benefit from doing a VDA.
A VDA may be a good option for you if:
- You established nexus more than 3 or 4 years ago.
- The sales tax penalty savings is MORE than the professional fees charged for the VDA.
- You have a sales tax collected but not remitted issue.
What to Expect During an Audit
The typical audit process is shown in this flowchart. Detailed guidance for each stage of the process follows in the sections below.
Arizona regularly audits businesses required to charge, collect, and remit various taxes in the state.
Many audits begin with a call from an Arizona Department of Revenue's sales tax auditor.
Shortly after the call, your business will receive a Notification of Intent to Audit. This notification confirms that you were lucky enough to be chosen for an Arizona sales tax audit.
It is good to start with getting a state and local tax professional involved to prepare for the audit.
I Received an Arizona Sales Tax Audit Notice. What Should I Do?
Businesses that receive a sales tax audit notice need to consider the following questions:
- If you don’t have sales tax audit experience, how can you trust that the state's auditor abides by the rules and follows proper procedures?
- How will you know when to provide documents or when to push back?
- Do you have a thorough understanding of your sales and use tax areas of exposure?
- Controlling the audit is paramount to limiting exposure and shaping the results. Are you confident in doing that on your own?
Unless you can confidently answer these questions, hiring a professional is most likely to be the best option. Contact us to learn how our sales tax professionals can give you the peace of mind and confidence you’ll need during your audit.
Visit our resource pages for more information to help you make critical decisions during your Arizona sales and use tax audit.
- The Audit Overview & Selection Process
- The General Audit Process
- Statute of Limitations Extensions & Issues
- Managing the Sales Tax Auditor
What to Expect from an Arizona Sales Tax Auditor
If you want to know what to expect from an auditor, it can be helpful to see things from their perspective. What better way to do that than to read the playbook they use to conduct an audit? With that in mind, here is the Arizona TPT Audit manual for your review.
It's quite a lengthy read, so we've summarized the process below.
If you have questions about your situation, contact us to discuss it with one of our tax professionals.
For now, here is the summary of the general audit process:
- The auditor will conduct pre-audit research.
- The auditor will often schedule and perform an entrance conference.
- The auditor will request records (many of which the auditor is not entitled to and does not need)
Once the auditor receives the necessary records, they will compare your Arizona sales and use tax returns to your federal income tax returns or bank statements to determine whether you reported all applicable or gross sales on your Arizona sales tax return(s).
NOTE: A slight error in how the tax was charged on even a single type of transaction can add up to a significant sales tax liability.
Once the auditor is confident all sales are accounted for, they will:
- Review your exempt and out-of-state sales.
- Conduct a use tax audit – the auditor will request documents of accounts to make sure use tax was paid adequately on applicable purchases.
Common areas audited include:
- Advertising Expense
- Auto & Truck Expense
- Repair and Maintenance
- Rent (including related party rent)
- Office Expense
- Miscellaneous Expense
If a business buys an item online without paying use tax, the business is still obligated to remit the tax to Arizona. Believing otherwise often leads to shocking results for the unsuspecting taxpayer during an audit.
After the Audit – Understand and Defend Your Businesses Rights
Upon completion of the audit, there will usually be an exit conference with the auditor. The auditor will produce an audit report with corresponding work papers to support the Arizona sales and use tax assessment.
It is advisable to have a sales tax professional present during this meeting. This is your first opportunity to see the auditor's findings. You'll want to push back on areas where they have overstepped their bounds or misapplied Arizona's sales tax laws.
It's best to hold off on agreeing to the sales tax assessment until a sales tax professional has reviewed it for issues that should be challenged.
Many businesses wind up drastically overpaying the state because the business owner or in-house accounting personnel weren't well versed in the sales tax laws that, if challenged, could have reduced their sales tax liability.
We'll cover the process of challenging an Arizona sales tax audit assessment in detail in the following sections.
Contesting Audit Findings with the Auditor
Arizona Sales Tax Audit Protest Process Flow Chart
NOTE: If the deadlines are missed, you have a short period of time to pay the tax and seek a refund. If that deadline is also missed, it can be very difficult to get the case reopened.
After an audit, the auditor will issue an Arizona Notification of Audit Results (AKA the audit report). The audit report details the auditor's findings. It's essential to review and understand its implications carefully.
Audit Closing Conference
After reviewing and finalizing the work papers, the auditor will schedule a closing conference.
Schedule an Audit Closing Conference. The auditor provides the draft audit results during this conference.
Schedule a closing conference.
During the conference, the auditor will:
- Explain any proposed audit adjustments to the taxpayer.
- After explaining the results, the auditor will provide a due date for any further adjustments.
If a taxpayer believes there is an error, that taxpayer should contact the auditor to discuss necessary changes before the due date.
Any issues with the results are handled as follows:
The taxpayer has a short period to contest the findings with the auditor.
1. Issues related to exemptions, proof of paid tax, and calculations are worth addressing with the auditor.
2. Legal interpretations of sales tax law are often not resolvable at this stage.
If you cannot reach a resolution with the auditor, the next step is to appeal/protest the issue with the Arizona Department of Revenue.
Appeal/Protest with The Arizona Department of Revenue
Protest Rights and Audit Finding Confirmation
Taxpayers who disagree with an audit's findings have 45 days from the receipt date of the proposed assessment to file an appeal.
- The appeal form is provided with the proposed assessment, and a timely protest must be filed in writing.
- The appeal must state why the assessment, the tax, interest, and/or penalties are incorrect.
- A protest/appeal must be done within 45 days of the Proposed Assessment Issuance
If the informal hearing does not resolve the issues, the case proceeds to a formal hearing. During the hearing the taxpayer, or its representative, presents its case and the Department of Revenue presents its case. The Hearing Officer, who also happens to be a member of the Arizona Department of Revenue, hears each side and renders a written decision on the case.
If you miss the 45 days, in some cases, you may have additional time to pay the tax and file a refund claim.
If both periods are missed, the assessment becomes final, and it isn't easy to reopen the audit.
If both periods are missed, the assessment becomes final, and it isn't easy to reopen the audit.
If you have received a Proposed Assessment and haven't talked to someone experienced in Arizona State and Local tax, now is the time. Do it before these deadlines are missed.
If you cannot resolve the Arizona sales and use tax dispute through the protest/appeal process, the Arizona Department of Revenue will issue a Final Decision.
The Position Letter is an opportunity to:
- File an appeal with the Board of Tax Appeals within 30 days of the decision’s issuance; or File in Arizona's tax/administrative court, the Arizona Tax Court.
You only have 30 days from receiving a notice of determination to file in administrative court.
Settling an Arizona Sales Tax Liability
After any one of the critical notices is issued, it's possible to settle your Arizona sales tax case with the Arizona Department of Revenue by filing an Arizona Offer in Compromise. Often, you can get better results negotiating here than with the auditor. However, to qualify, the business must meet certain criteria, as explained by the Department.
Without experience and knowledge of Arizona tax laws, knowing a fair settlement from an unreasonable one will be challenging.
DO NOT attempt to negotiate a settlement without an experienced Arizona state and local tax lawyer or other professional.
Contest an Arizona Jeopardy Assessment
Arizona may issue a Notice of Jeopardy Determination in certain situations.
The jeopardy assessment gives the Arizona Department of Revenue the right to try to collect immediately.
Due to the jeopardy nature, the taxpayer only has 20 days to contest the assessment and must place a security deposit to fight the issue.
Arizona Tax Court
Suppose you can't resolve the case within the agency. Or maybe you have missed your deadlines. There's still one chance to fight your Arizona sales tax assessment: The Arizona Tax Court.
We don't generally recommend it, but you always have the option to skip the agency protest process and file it in tax court. Neither party wants to spend the time and resources on the uncertainty of administrative court. So, continuing to challenge the assessment can be an effective way to maximize your settlement potential.
If your case is filed in tax court, the case proceeds to a hearing. It is decided by a neutral tax judge. It is similar to a court hearing, and having an experienced representative is imperative.
Our team has handled hundreds of administrative court cases. It can help your company receive the resolution you are entitled to. Get in touch with us today.
Other Arizona Sales Tax Resources
- Arizona Department of Revenue Sales Tax Website
- Arizona Revised Statutes- Title 42 - Taxation
- Arizona Tax Notices
- Transaction Privilege & Use Tax Procedures
- Transaction Privilege & Use Tax Decisions
- Transaction Privilege & Use Tax Letter Rulings
- Transaction Privilege & Use Tax Rulings
- Transaction Privilege & Use Tax Notices
- Additional Use Tax Rulings