Sales Tax Glossary: Exemption and Non-Taxable

When we asked sales tax professionals on LinkedIn to share the terms that confuse clients in sales tax lingo, some brought up the difference between an exemption and something non-taxable—both of which bring very relevant points about how you should set up your sales tax processes to make sure nothing slips through the cracks. An exemption is different from a non-taxable item when you’re talking about sales. Understanding the difference is the goal today. Let’s talk about candy, flour, and apples in a fictional sales tax world to really dig into these two terms. In our imaginary world, candy is taxable because it’s considered a non-essential luxury.

Flour is considered an essential, however, and legislators decided that any products containing flour shouldn’t be taxed. Apples also fall into the category of essential-to-life items. If you were to buy a chocolate bar in this tax jurisdiction, you would pay sales tax because it is considered non-essential. If you were to buy a sack of flour or an apple, you wouldn’t pay sales tax because it is considered essential and is non-taxable. However, a candy bar containing flour still falls into the candy category in the store—right? So how do we interpret our set of rules? A candy bar with flour is an exemption, or is not subject to the rules applied to candy because it contains flour.

Although real-world rules in certain jurisdictions might result in a different scenario, remember that the premise of this example is the imaginary world rules outlined above. Why it’s not always clear why legislators decide to create exemptions, it’s usually to give a specific industry an incentive for growth. For instance, you might find a flour-containing product exemption in a state where wheat is a valuable part of the economy or where a specific candy manufacturer that uses flour in their products is located. Thanks to lobbying for specific exceptions, sales tax is pretty complex due to exemptions.

An easy way to remember the difference between exemption and non-taxable is the following: If the category isn’t taxed, the item is non-taxable. If the category is taxed but there is a special rule that excludes the item, it is exempt. So why is this important to understand? While the outcome is different, exemptions change far more frequently than categories that are considered non-taxable. Lobbyists are constantly at work to create exemptions for their particular type of product but rarely does a state change the thought processes behind sales tax.When you set up sales tax information, you should keep non-taxable changes different from exemptions because it makes it easier to change exemptions as the laws change.

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