As higher education expands online, what’s subject to tax?

Revenue from online education is creating new sales tax obligations for higher ed institutions, but the rules vary widely by state.
By: | October 16, 2020
Getty Images: Miguel SanzGetty Images: Miguel Sanz

Many higher ed institutions have been battling budget woes in recent years due to decreased funding and dwindling enrollments, which has prompted some to diversify their revenue streams. Amid ongoing struggles, the COVID-19 pandemic has had a further negative impact on public and private institutions alike. As a result, many institutions are expanding into new digital channels to reach students based in other areas to lift enrollment numbers and increase revenues.

Still, expanding online isn’t as clear cut as it may sound at first. Colleges are finding creative ways to provide virtual classes that span from continuing education to professional development, and some are even going beyond the traditional bounds of higher education. As colleges and universities expand their online footprint and wander into new non-traditional education services, it’s likely that they will encounter new sales tax obligations that they would otherwise not face while solely operating in-person courses.

Remote sales tax: What does it mean for education?

In June 2018, the Supreme Court decision in South Dakota v. Wayfair, Inc. made it possible for states to tax the transactions created by remote sellers regardless of the seller’s physical presence in the state in the form of economic nexus laws. Today, economic nexus laws exist in 43 states, the District of Columbia, and parts of Alaska (where there are local sales taxes but no statewide sales tax). What many don’t fully understand is that state and local governments tax many different types of services. So, not only do economic nexus laws apply to businesses selling goods into other states, but they could also apply to the sale of online education to students in other states.

Determining whether or not online education and training sales are subject to sales tax can be inherently complex. There are two main factors that can impact taxability—the format education is delivered and the type of program or school.

• Format. The format in which a class is provided to students can affect taxability. A nuance as simple as the class or content being provided via a live-stream or pre-recorded video can change taxability. For example, the Tennessee Department of Revenue recently issued a ruling that explains that while live, instructor-led online courses aren’t subject to Tennessee sales and use tax, self-paced online classes that provide no live online instruction are taxable. In this scenario, when the class isn’t taught live the state considers what the student is paying for is the use of the computer instead of the instruction itself.

In some cases, the move from live, in-person education to online learning changes the definition of a service (which are often tax-exempt) to a digital good. While many states tax the sale of digital goods, it’s unclear whether online education came to mind when the laws were created. Still, some states, like Wisconsin, have clarified the taxability of online education sales by stating that the sale of live digital online educational services is not taxable, but the sale of pre-recorded seminars and webinars is generally taxable.

• Type of school or program. The taxability of online education can also hinge on what type of institution is selling it. For many states, education is exempt if taught by a nonprofit or government, but for-profit institutions don’t always have the same type of general exemption. When it comes to the program type, the rules vary widely by state. Traditional degree-focused education is often exempt while education granting certificates is not always exempt. For example, in Texas, training and education services that are instructional in nature are not taxable, including online training courses and classes that provide accreditation, certification or continuing education credit.

Other tax considerations: Exemptions and changing legislation

Online higher education providers can run into new tax complexity even if they are not required to pay a single cent to tax authorities. Economic nexus laws can in many instances require an institution to register even though they may have few sales of online education that are actually taxed. One of the often-unspoken requirements of a sales tax is the requirement to provide and collect exemption certificates. Ultimately, the need to register and file exemption certificates depends on the state’s definition of economic nexus and whether it includes exempt sales as part of the economic nexus threshold.

We are just beginning to understand how the tax complexity that education providers are facing and will encounter as they expand online. One thing that is certain is that business practices will continue to change, and the law will struggle to keep up. The Wayfair decision upended decades of tax policy. As more goods and services are sold online, it’s likely that tax laws could adapt and expand to include historically exempt sales, including education.

As education providers navigate a new world that hinges on the flexibility and convenience driven by technology, building sales tax compliance into their operations will become critical. Sales tax law is complex and nuanced. When the law, which is often very old, is applied to changing products and changing business processes, it can be very difficult for organizations to understand and manage their sales tax obligations as they grow their business online. Getting compliance right is essential for higher education providers to successfully scale their enrollments online and stay ahead of the curve.

Scott Peterson was the first executive director of the Streamlined Sales Tax Governing Board, where he was devoted to making sales tax simpler and more uniform for the benefit of business. He is also vice president for U.S. tax policy at Alavara, a provider of tax compliance software.