Traditionally, sales taxes have been limited in application to retail sales of tangible personal property. However, given the fiscal straits that most states have encountered in recent years, it probably shouldn't come as any surprise that many states have started looking to the services industries for additional sources of sales tax revenues. In fact, only half the states generally do not impose significant amounts of taxes on services.

In taxing services, the states have pretty much followed a piecemeal approach. Currently, only Hawaii, New Mexico, South Dakota, and West Virginia generally impose their sales taxes on all services, subject to specified exceptions. The other states specify which services are taxable, with the services that are not so specified remaining exempt.

Commingling services and property. Even if a service is generally exempt from sales tax, it may end up being taxable if it is provided in conjunction with a taxable sale of tangible personal property. For example, otherwise nontaxable delivery or assembly charges generally will be taxable if they are included in the sales price of the property. To avoid this problem, the nontaxable service charges must be separately stated from the taxable sales price. What's more, in general, to avoid taxation the services must be provided after the sale is completed (for example, installation of carpeting in your office). Charges for services provided prior to the purchaser's taking title to the property usually must be included in the amount subject to tax, even if those charges are separately stated (for example, the labor involved in manufacturing the carpeting).

In contrast, the fact that tangible personal property is transferred in connection with an otherwise nontaxable service transaction does not necessarily make the entire transaction taxable. In fact, in most states, if the property element of the sale is "incidental" (for example, it represents less than 10 percent of the total sale), then that element is ignored and the sale is treated entirely as a nontaxable service. If the property element is not incidental, then the sale should be treated as two distinct sales transactions, one involving the property and the other involving the services. To maintain that distinction and to avoid having the entire transaction taxed, the charges for each of the transactions must be separately stated

Materials used in rendering services. As a general rule, service providers are considered to be the final consumers of the materials and supplies they use in performing their services. Accordingly, sales of such materials and supplies to the service providers generally are taxable. For example, the cotton swabs that a doctor may use during a physical exam are considered to be consumed by the doctor, not the patient.