State Income Tax Nexus: Can you Incorporate Around it?

One of the things I’ve seen over and over again as a sales pitch by incorporation services is the idea that Nevada = pay no income tax. Because Nevada has no state personal or corporate income tax, people are led to believe that simply by incorporating in Nevada they can escape paying taxes altogether.

I wish that were true, but it’s not. Everyone pays federal income taxes. Plus, the reality is, where your business (and you) pay taxes depends on a lot more than just where the business is incorporated.

Nexus means connection – in this case, what state is your business connected to. That usually means looking at the state where it is physically located. After that, the net widens to take in where employees are located and where income is being earned.

For a lot of Internet businesses, nexus can be really vague. If you’ve got a website where people go to download a digital product, where is your nexus? The state where the website is operated? The state where the host server is located? The state where the purchasers are operated?

Rather than fight all that, states take a more concrete approach. They look at where YOU are. As the business owner, you’ll be paying yourself somehow, typically through a blend of salary and passive profit draws. And, as employees are a trigger point for nexus, your physical presence will take care of that nicely. The business is now required, under state law, to register into your home state, and get into the state tax system for payroll and income taxes. Incorporating in Nevada just means you have to keep your business active in 2 states, not 1.

Can you not pay yourself a salary? That depends on the kind of business you have. In some cases yes, you can escape paying a salary, and have the money flow through as passive income. You may be able to avoid bringing the business into your home state and paying double resident agent and incorporation/maintenance fees. Even so, you will still need to declare that passive income tax on your personal return each year.

Can you minimize your tax obligations by incorporating in Nevada? Actually, in some instances, and with some careful planning, you can. But you’ve got to know what you’re doing ahead of time, or you’ll wind up spending money and not seeing the result.

Diane and I talk about effective tax strategies in Smart Business Stupid Business. Good planning is just part of good business. After all, you didn’t become a business owner and take on all the challenges just for Uncle Sam’s benefit!