The recent explosion of state and local tax regulations aimed at the lodging industry has vacation rental owners, property management professionals and online travel agencies grappling with the complexities of compliance. While many are using existing staff and resources to manually sort out and pay what is owed, innovative technology solutions are becoming more readily available.
Keeping up with the volume and complexity of new tax laws and regulations imposed in the wake of the 2018 U.S. Supreme Court decision in South Dakota v. Wayfair is compounded by existing challenges to technology modernization in the industry.
The issues are well known. In the hotel sector, legacy technology systems have been slow to migrate to the cloud and many are unable to provide true integration of data from the multiple systems in use at most individual properties.
Financial issues are also at play, as a fragmented stakeholder structure that includes hotel owners, management companies and brands must reach agreement on who foots the bill for new technologies and whether the anticipated return on investment is sufficient to warrant the cost. Stakeholders in the short-term rental segment are even more fragmented, including individual or multiple property owners, property managers, management companies and one or more OTAs.
As outlined in a recent research report from Boston University School of Hospitality Administration, today’s tight labor market, increased cost of operations, uncertain economic environment and changes in consumer needs and behaviors require all hospitality businesses to pivot their services and products with the latest technology in order to keep their competitive edge. In short, innovating with the help of technology is necessary to thrive.
In the area of fintech, which broadly includes any software application that involves financial services such as payments, loans, settlement and insurance, the travel industry at large seems to be responding to that call. Research from Amadeus revealed that most travel businesses (across all segments) see the area of fintech as a high priority, and 80% plan to match or invest more in the post-pandemic era than they did in 2019.
New tax obligations hit the lodging industry
A renewed focus on fintech bodes well for the lodging industry as it must now comply with an ever-increasing array of local and state tax regulations as well as an uptick in auditing and enforcement of those regulations.
On June 21, 2018, the U.S. Supreme Court decided South Dakota v. Wayfair in favor of South Dakota’s imposition of sales tax collection obligations on remote sellers meeting economic thresholds based on in-state receipts or transaction volume. The landmark decision overturned long-standing precedent by allowing a state to impose a tax collection requirement on vendors selling into the state even though they lack a physical presence in the state.
The ruling had immediate and far-reaching implications for any business operating an online marketplace.
PwC reports that as of January 1, all states with a sales tax had implemented their own tax structure (nexus) using South Dakota’s law as a template. Unfortunately, there has been little forward motion since the Wayfair decision to harmonize sales tax definitions, taxability, sourcing, rates, filing frequencies and compliance responsibilities. At the same time, the lack of uniformity among the types (dollar or transaction) and dollar amounts of taxation thresholds, effective dates and other criteria - including the definition of a transaction - has made compliance challenging for remote sellers and marketplace facilitators, including those in the lodging industry.
To further complicate things, local taxes on accommodation providers have proliferated alongside those imposed by the states. In the United States alone, according to the State Tax Research Institute there are now more than 4,000 locally administered accommodations tax regulations spread among roughly 30 states, and they are even more diverse than the state laws.
Municipalities target STRs
Many cities have set their tax sights on the growing STR segment, which is now estimated to account for about 27% of the U.S. lodging industry. According to a 2022 survey by the National League of Cities, 82% of cities surveyed require short-term rental hosts to remit taxes directly to the city. Only 5% of the survey respondents require the online platform to collect and remit local taxes on behalf of the hosts.
Local tax compliance by the STR segment has come under closer scrutiny and in this area some cities are turning to artificial intelligence to streamline tax operations and improve efficiencies.
According to PwC, over the past few years AI is increasingly being used by businesses to manage tax operations by streamlining processes, reducing errors and providing real-time insights into tax compliance. Municipalities, ever on the outlook for additional sources of revenue, are now looking at these AI solutions to flag non-compliance of local taxes on STRs in order to facilitate collection of taxes and any outstanding fines.
American City and County (AC&C) reports that the process uses data-mining techniques to scrape information from publicly available STR booking platforms to create a list of active properties in a specific jurisdiction and then compares that list against regulatory information from local tax authorities.
The AI-data mining process could be a game changer for local STR tax compliance enforcement, according to the AC&C report, completing assessments with little or no involvement from humans that would have taken a full team of inspectors weeks of work. AC&C expects this approach to tax enforcement to rapidly scale up due to the economic boon streamlined compliance crackdowns could deliver to municipalities.
As a result of the enhanced emphasis on tax auditing and enforcement on lodging marketplaces, innovative technology solutions are garnering more attention in the industry.
Avalara, a cloud-based tax compliance software company, has developed solutions for the lodging industry designed to reduce audit risk exposure and non-compliance. Avalara’s SaaS solutions include Avalara MyLodgeTax and MyLodgeTax Pro, for individual vacation rental owners, property managers, property management companies and OTAs.
The technology solutions from Avalara help lodging industry users navigate the complex regulatory environment, streamline tax calculations, complete and maintain tax-related lodging registrations and permits and manage end-to-end tax returns, remittance and payments for required jurisdictions. Avalara offers support for clients from an in-house team of subject matter experts.
Conclusion
As outlined in a recent report from Phocuswright, while most segments of the lodging industry have in recent years focused on guest-facing technology adoption, the importance of modernizing back-end technology is no longer an option.
Although it is often overlooked, the mandated collection, reporting and remittance of transactional taxes now place a burden on individuals and staff and could pose significant financial risk should an auditor on the state or local level find any inconsistency in reporting and/or filing.
As an example, a recent study of Airbnb and Vrbo listings in Los Angeles by McGill University urban planning professor David Wachsmuth, an expert on the impact of short-term rentals on cities and housing, put noncompliance of STR tax payments at 45% citywide. That amounted to $300 million in fines alone that the city could have collected throughout 2022; in reality, the city brought in less than $40,000 in fines over a similar period.
In its examination of the impact of South Dakota v. Wayfair five years after the Supreme Court decision, PwC concludes that there has never been a greater need for companies to embrace sales tax technology and automation. PwC concludes that a comprehensive, technological and process-driven compliance function is key for taxpayers to navigate the new realities.
Manual tracking and remittance of state and local tax obligations imposed on the lodging industry in the last five years might be a necessary short-term solution in the challenging pandemic-recovery environment. Whatever the approach, one thing is clear: Vacation rental owners, property management professionals and OTAs cannot afford to ignore the complicated mix of tax regulations and new demands on online marketplaces in the post-Wayfair world.