What Are Back Taxes and How Do They Affect Your E-commerce Business?”

Do you know that back taxes can be a ticking time bomb?

Imagine this: you started an e-commerce business, which is an instant success. Orders are coming in, your products are flying off the virtual shelves, and everything falls exactly as you manifested. However, one day, you get a letter. It's not from a happy customer or a new supplier—it's from the state tax authority, and it's about back taxes.

You realized that while you were so focused on growing your business, you overlooked one important thing — taxes. Now, the Internal Revenue Service (IRS) is after you for missing your tax deadlines and delinquent payments. You begin to worry about penalties and interest since they can accumulate over time.

Whether selling on Shopify, Amazon, WooCommerce, or Etsy, understanding back taxes isn't just important—it's essential. Learn more about back taxes, why they occur, how they could limit your business growth and impact your finances, and how to settle them.

Ready to defuse that ticking tax time bomb? Let's get started.

What Are Back Taxes? Definition and Meaning for E-commerce Businesses

Back taxes refer to taxes that were partially or not fully paid by the due date, including sales tax, income tax, or other state and federal tax obligations, per Investopedia. For e-commerce businesses, back taxes usually arise when sellers fail to collect, report, or remit sales tax to states where they have a nexus (a tax connection), often due to economic nexus thresholds or physical presence requirements.

These unpaid taxes don't go away—they accumulate interest, penalties, and may lead to audits or even legal action from tax authorities. In many cases, businesses don't realize they owe sales tax in other states until they're audited or try to apply for a business loan or exit through acquisition.

How Back Taxes Can Hurt Your E-commerce Business

Back taxes are a national problem with over 11 million US residents owing back taxes to the IRS. "Millions of people are living with the stress of back taxes, and many don't know where to start," said Tyler Bennett, Co-Founder of American Tax Service (via Morningstar).

Here are some ways back taxes can negatively affect your e-commerce business.

1. Accumulated Penalties and Interest

Unpaid sales taxes accumulate penalties and interest over time, which can significantly increase the original amount owed. What starts as a small oversight can snowball into a large, unexpected financial burden that eats your profits.

In 2023, the IRS collected over $104 billion in unpaid taxes on returns filed with additional tax due. They also collected nearly $2.8 billion from late filings. Hence, settling your taxes on or before the deadline is important to avoid accrued penalties and interest.

2. Risk of Costly Audits and Investigations

Tax authorities can flag your business for non-compliance due to back taxes. As a result, your business may face a sales tax audit, which can be time-consuming, expensive, and stressful. To make metter worse, some states audit retroactively for several years, adding to your liability.

According to the research study A Welfare Analysis of Tax Audits Across the Income Distribution, IRS audits are one way the government makes revenue to fund its needs. It is expensive because those who do it are those from higher pay grades, but "the revenue raised from those audits is even greater."

Audits are not punishment and are done to ensure tax compliance. While the audit itself is free, the cost of defending your business is at your expense. You may need to hire a CPA to represent you, who will charge you by the hour, and the process may take months, which can somewhat hamper your operations.

3. Limited Business Growth Opportunities

When an e-commerce business owes back taxes, it doesn't just create a problem with the government—it also sends red flags to anyone looking to invest in, finance, or acquire your company. Banks, venture capitalists, and other lenders typically conduct financial due diligence before approving loans or investments. If back taxes show up during this review, it can lead to loan rejections, higher interest rates, or unfavorable terms because tax debt is a liability that threatens cash flow.

Also, if you are scaling into new states, you may need to settle outstanding obligations before registering in a new state and this will slow down or limit multichannel selling opportunities. Partnerships may also be challenging because big retailers want to ensure you are legally and financially sound before they join your business. In the case of mergers and acquisitions, back taxes could lower your company's valuation and delay or cancel the deal.

Back taxes don't just affect your past—they limit your future. If you want to raise capital, expand your store, or sell your business one day, unresolved tax issues can close doors before you even reach them.

4. Suspension or Loss of Sales Privileges

When your e-commerce business fails to comply with sales tax laws, especially by not paying or filing back taxes, you can face serious consequences, including the suspension or complete revocation of your right to sell.

This doesn't just mean trouble with the government. It can affect your ability to sell on key platforms, process payments, or operate legally in certain states.

Major e-commerce platforms like Amazon, Walmart Marketplace, Etsy, and eBay now comply with marketplace facilitator laws and take tax compliance seriously. If they detect that you have not registered in states where you trigger nexus, ignored tax notices, or the state has flagged your account, they could suspend your account.

Suspension of sales privileges means you're not just losing sales—you could also be cut off from your customers and this will cost you revenue, momentum, and market trust.

5. Damage to Reputation and Customer Trust

Your customers will eventually notice or feel your sales tax issues because it will manifest in one way or another, even if the platform does not suspend you outright. For instance, there could be delayed orders due to backend restrictions and refund complications if payment processors like Shopify Payments, PayPal or Stripe limit or freeze your ability to collect payment due to non-compliance. You will also lose buyer confidence when they see your listing disappears or shows errors.

It's not just customers because wholesale buyers, affiliate marketers, fulfillment partners, and even software vendors may hesitate to work with you if you are under tax investigation or are seen as a legal or reputational risk due to back taxes. Your brand's reputation isn't just about good reviews or fancy packaging—it's about consistency, legality, and professionalism. Unresolved back tax issues put all of that at risk.

Common Reasons E-commerce Stores Owe Back Taxes

There are many reasons e-commerce businesses find themselves owing back taxes to the government. Some are probably aware they have unpaid taxes, but many are not until they receive notices about back taxes.

Here are some of the common reasons behind back taxes and you can probably relate to one or more.

1. Unaware of Economic Nexus Laws

Many e-commerce sellers mistakenly believe they only need to collect sales tax in states where they have a physical office, warehouse, or employees. However, since the 2018 South Dakota v. Wayfair Supreme Court decision, states can require remote sellers to collect sales tax based on economic nexus, which is triggered by sales volume or transaction thresholds.

For example, if you make over $100,000 in sales or complete 200 transactions in a state like California, you're required to register and collect sales tax there, even if you've never set foot in that state. The problem is, many businesses don't monitor where they've crossed these thresholds.

Without tracking tools or tax automation in place, sellers may go months or years without collecting tax where they should. This leads to a backlog of unpaid sales tax—also known as back taxes—that the state can later demand, often with penalties and interest.

2. Selling Through Multiple Channels Without Unified Tax Tracking

E-commerce sellers often use multiple platforms for more product exposure and to likely sell more. It is important to note that these platforms have different rules when it comes to sales tax collection.

Amazon and Etsy are marketplace facilitators and they handle tax collection and remittance on your behalf. However, you are responsible for managing sales tax compliance on Shopify.

Manually tracking your taxes makes it easy to overlook what's being collected (or not collected) on each platform. Over time, these blind spots can lead to thousands of dollars in uncollected taxes you're still liable for—even if you didn't know you owed them.

3. Incorrect Product Tax Classification

Sales tax isn't one-size-fits-all—products are taxed differently depending on what they are and where they're sold, hence the importance of product classification. For example, skincare products, clothing, supplements, and digital goods have varying taxability rules across states.

Misclassifying a taxable product as non-taxable means you'll undercharge your customers and ultimately be responsible for the difference. Misclassification happens due to outdated tax tables or wrong assumptions.

Unfortunately, tax authorities don't accept ignorance as an excuse—they'll expect you to pay the correct amount retroactively.

4. Failure to Register in Nexus States

Establishing nexus either through economic activity or physical presence requires you to register for a sales tax permit. Once you have a sales tax permit, you can start collecting taxes. However, many e-commerce owners either do not realize they have triggered nexus or postpone registration out of confusion or fear of complexity.

The longer you delay registration, the longer you are technically out of compliance, and the more back taxes you owe. States can retroactively assess tax for the time you should have been registered but weren't. This is particularly dangerous because states may impose penalties or interest on top of the owed tax. If you are audited, you could face a hefty bill that could have been avoided with proactive registration and compliance.

5. Not Filing "Zero" Returns

Even if your store does not make any sales in a particular state during a given month or quarter, you are still required to file a "zero return" if you are registered there. Many sellers forget this step or assume that no sales mean no filing requirement. Unfortunately, most states consider a missed return non-compliance, even if no tax is owed.

This can lead to automated penalties, late fees, or worse—being flagged for an audit. In some cases, states will estimate what they think you might owe and issue a tax bill based on those assumptions. Filing "zero" returns on time is an easy but critical step in avoiding unnecessary back tax issues.

6. Dropshipping Without Proper Sales Tax Handling

When you sell products via dropshipping, you often deal with multiple parties in different states—the customer, the supplier, and your business. Many assume their supplier will pay the taxes. However, you can still trigger nexus even without touching the project.

The IRS will go after the seller for uncollected or under-collected sales taxes. So, it's essential to ensure taxes are taken care of and to know who is in charge of them.

7. Underestimating Digital Product Taxability

Digital products—like downloadable templates, eBooks, software, and online courses—are taxed differently across states. Some states consider them taxable goods, others treat them as exempt services, and a few apply hybrid rules based on how the product is delivered or consumed.

Most e-commerce sellers assume digital products are non-taxable. However, US states have different rules for this. For instance, in Arizona, digital products are taxable as they are considered tangible products. However, digital goods are not taxable in California unless they come with a physical storage medium, such as a flash drive or a CD.

Many sellers overlook this because it doesn't involve physical goods. However, failing to tax digital products in states where they are taxable could mean trouble for you.

8. Assuming Marketplace Facilitators Handle Everything

Marketplaces like Amazon, Walmart, and Etsy must collect and remit sales tax on behalf of sellers in many, but not all, states. This leads many sellers to believe they don't need to worry about tax compliance if they're using a facilitator platform. However, this assumption is dangerous.

Marketplace laws vary by state, and some still hold sellers responsible for specific types of sales, such as direct sales, cross-border orders, or sales through third-party platforms. If you also sell through a direct website (like Shopify or WooCommerce), you're likely responsible for collecting tax independently. Without clear separation and oversight, it's easy to under-collect and owe back taxes on the portion of sales the marketplace didn't cover.

How to Check If You Owe Back Taxes in Any State

If you are not sure if you are behind on sales tax at this point, here are some ways to check your status.

1. Review Your Sales by State

Export your sales data from all platforms (e.g., Shopify, Amazon, Etsy) and total your revenue and transaction count by state. Compare those numbers to each state's economic nexus thresholds—typically $100,000 in sales or 200 transactions annually.

2. Check for Past-Due Filings

If you have triggered nexus and registered in a state, make sure that your taxes are paid on time. You can check your status on the state's online tax portal. Also, make sure to file a "zero return" when there's no or limited sales to avoid penalties and charges.

3. Request a Tax Account Statement

A summary of your tax account shows whether you owe anything, missed a payment, or filed late. This is useful if you've changed accountants or use multiple tax tools.

4. Look for Notices or Letters from State Tax Agencies

Check your mail and email for compliance notices, late filing reminders, or audit triggers. States often send a warning before escalating action, so do not ignore official correspondence.

5. Consult a Tax Professional or CPA

If your tax situation is complex or you suspect you've crossed nexus in several states, a CPA or tax advisor can help conduct a nexus study, review exposure, and guide you on voluntary disclosure or amnesty programs.

6. Use Tax Automation Tools

Platforms like Kintsugi can help you identify where you may owe back taxes by scanning your sales data against state laws. These tools are invaluable if you sell in multiple states or through multiple channels.

Best Ways to Settle Back Taxes for E-commerce Businesses

Here are the best and most effective ways to settle back taxes for e-commerce businesses, especially those operating across multiple states or platforms like Shopify, Amazon, WooCommerce, and Etsy:

1. Pay the Balance in Full (If Possible)

The fastest and cleanest way to resolve back taxes is to pay what you owe outright, including any penalties and interest. You can pay your taxes online, since most states have online portals for payment. This approach helps you quickly restore compliance, avoid further penalties, and get back to business without ongoing stress.

2. Set Up a Payment Plan with the State

If paying in full isn't feasible, many states offer installment agreements. These allow you to pay off your balance in monthly payments over time. You'll still accrue some interest, but you can avoid enforced collections like liens or bank levies if you stay on track. Approval is typically faster if you act before the state escalates enforcement.

3. Apply for a Voluntary Disclosure Agreement (VDA)

A Voluntary Disclosure Agreement (VDA) lets you come forward proactively before the state contacts you. In return, the state may limit how many years of back taxes you must pay and waive penalties. This is especially valuable if you've never registered in the state but have created a nexus. Most states offer VDAs through their Department of Revenue or via third-party help.

4. Take Advantage of Sales Tax Amnesty Programs

States may offer amnesty programs to make it easier for tax payers to settle their back taxes. These programs usually waive penalties and reduce interest for overdue taxes. Although, they comes with strict deadlines and eligibility requirements, amnesty programs are cost-effective to settle large balances. It's a limited-time opportunity, so staying updated on tax policy changes is key.

5. Hire a Tax Professional or Sales Tax Consultant

A CPA, enrolled agent, or sales tax consultant can help negotiate on your behalf, calculate what you owe, and prepare documentation. They're especially helpful if you operate in multiple states or have complex product tax classifications. Professionals can also guide you through the VDA process or help reduce exposure during an audit.

6. Use Sales Tax Automation Tools to Stay Compliant Going Forward

Tools like Kintsugi don't just help with filing—they can also identify where you owe, calculate liability, and ensure you collect tax correctly in the future. Once you've cleared back taxes, staying automated ensures you never fall behind again. Also, Kintsugi can automatically file and remit your returns for you to avoid missing deadlines, penalties and charges.

Back taxes don't just cost you money—they cost you momentum, credibility, and peace of mind. Whether it's untracked nexus, missed filings, or platform confusion, the risk is real—but so is the solution.

With Kintsugi, you can automate sales tax compliance, stay ahead of state requirements, and focus on scaling your business without looking over your shoulder. Don't wait for an audit to find out what you owe—get compliant, stay confident, and grow smarter with Kintsugi.