Jan-Erik Asplund
Background
Michelle Valentine is the CEO and co-founder of Anrok, which builds sales tax software for SaaS businesses. We talked to Michelle about the rise of sales tax as a necessary consideration for SaaS companies, how the typical SaaS company's back-office and payments stacks have evolved over time, why there will always be room for B2B-focused fintechs outside the Stripe ecosystem.
Sacra Highlights
- The typical SaaS startup is selling in over a dozen states in the U.S., and they could be audited by several states in a given year. That's a big time and possibly monetary cost to manage retrospectively. And when you're not collecting and remitting sales tax, you're accruing interest and penalties on top of the sales tax that you would otherwise collect from the customer. It's much cheaper and easier to comply when you start selling in a state from the get-go, rather than to try to catch up later.
- Of the 45 states that impose sales taxes in the U.S., all have now enacted remote seller laws. These remote seller laws impact online businesses in particular, and about half of these jurisdictions tax software. This means that, if you're a finance leader at a SaaS company, you now have to monitor sales across all the different states in the U.S., comparing the revenue or the number of transactions you’re making in that state against the state-specific revenue thresholds.
- Let's start with a brief overview of how SaaS companies and subscription revenue companies handled sales tax and compliance before Anrok, or if they're not using Anrok.
- Zooming in on Anrok and the product, what's the value proposition, and where did you find initial product market fit?
- One of the big companies that people know in this space is Avalara. How do you think about positioning versus Avalara as the incumbent?
- You mentioned fitting into a modular stack. As you have a privileged perspective into this space, I'd love to hear what you see from the typical SaaS company as far as that stack: finance, HR, payroll, etc.
- What makes companies have multiple payment processors?
- How do you think about Anrok versus Paddle and similar companies that are more of an all-in-one platform solution?
- Do you see more fragmentation and uniqueness in terms of the company stack as companies get bigger and their needs change and differentiate from other companies?
- How do you think about Stripe acquiring TaxJar and Stripe Tax, and about positioning Anrok with the continued growth of that ecosystem?
- You compared Stripe to Apple, the extension maybe being that the rest of the ecosystem is like Android where you can build the best solution possible for you. You also mentioned e-commerce companies for whom just using Stripe might be fine if they can do everything there. What types of companies do you think might the all in one approach work for, and what types -- including SaaS -- are better served with a more modular approach?
- One of the big macro trends driving all of this is remote. All kinds of tax, but especially sales tax, get more complicated when you're remote. How have you seen this affect hiring over the past couple years: where teams hire, how they classify people, what the hiring stack looks like, etc.
- Governments are coming up with ways to generate more tax revenue and also avoid losing it. What have you observed as far as local trends in tax policy and enforcement, and what sort of tools are local governments using?
- Do you think we'll be at a point where every state is collecting sales tax? Also, some states distinguish between B2B and B2C. How do you see that evolving in the future?
- Compliance can be very services-heavy, and some of these concepts can be fuzzy and not totally clear cut. I'd love to hear about the services side and what you've found you're able to automate and what is resistant to that.
- How do you think about expanding into other kinds of tax or compliance related services, given the kind of access you have inside companies?
- One aspect of remote is being able to hire people anywhere. Have you thought about international expansion opportunities with other types of tax abroad?
- You mentioned earlier e-commerce being different from SaaS. Are you thinking about expanding to do e-commerce? Does it involve less complexity, given what you've described as far as the payment stack?
Questions
Interview
Let's start with a brief overview of how SaaS companies and subscription revenue companies handled sales tax and compliance before Anrok, or if they're not using Anrok.
Sales tax is a pretty new problem for many SaaS companies. It's not something that most California-based software companies have had to worry about before. The reason why it is top of mind now is twofold. One is the rise in remote work. Many founders don’t realize having a remote employee in a state creates an immediate sales tax obligation. Number two is legislative changes that have happened in the past few years, specifically following the Supreme Court case South Dakota v. Wayfair.
What might not be obvious to founders and finance leaders is that, if sales tax is not collected from the customer, it comes out of the company's pocket and impacts revenue. So to your question, there were three common paths to handle sales tax and compliance before Anrok.
Number one was to hire an outside firm to periodically monitor where you have an obligation to collect and pay sales tax and to calculate the sales tax that is actually due. Outside firms are valuable for providing tax advice, but the problem is that they can’t add tax into the invoicing flow in real-time. You need software unless you’re ok with playing catch up and paying the sales tax out of your own pocket after the invoice has been sent and paid.
The second way was to try to make legacy solutions work. There are a few generalist sales tax tools that were built for the brick-and-mortar world. These are solutions that are 20 to 30 years old, and are hard to integrate. They need user configuration to make sure they capture the edge cases for software. Moreover, they often require dedicated engineering resources.
Then the third option was to ignore it. This is expensive from both a time and cost perspective down the road. The typical SaaS startup is selling in over a dozen states in the U.S., and they could be audited by several states in a given year. That's a big time and possibly monetary cost to manage retrospectively. And when you're not collecting and remitting sales tax, you're accruing interest and penalties on top of the sales tax that you would otherwise collect from the customer. It's much cheaper and easier to comply when you start selling in a state from the get-go, rather than to try to catch up later.
Sacra highlight
Sales tax can make a pretty big impact to a company's bottom line. For the average SaaS company, it can be around 4.3%, and it can be as high as 11%, depending on which states a company is mainly selling to. If a company is doing a lot of business in high tax states that do tax software, like New York or Texas, non-compliance can really add up.
Zooming in on Anrok and the product, what's the value proposition, and where did you find initial product market fit?
Anrok is the enterprise-grade sales tax solution specifically built for SaaS companies. It's straight-forward for finance leaders who haven't managed tax before to roll out for the first time. Anrok helps them make an immediate lift to the bottom line and maximize revenue going forward.
Another important factor to being successful in this space is building a solution that works with a modular finance stack. Most SaaS companies use tools provided by multiple vendors. Anrok connects with all these disparate tools to give a SaaS company a comprehensive picture of what their sales tax liability is across all of the channels that they're selling through and where they have sales tax obligations.
From there, we help businesses register for sales tax in the respective states, automatically calculate the sales tax amount and add it to the invoice, and ultimately help file and remit those returns and payments. So it's really an end-to-end solution. We've found product market fit amongst fast-growing SaaS companies that want to take the pain out of optimizing compliance and maximize future growth and revenue.
One of the big companies that people know in this space is Avalara. How do you think about positioning versus Avalara as the incumbent?
Anrok specializes in SaaS, and this focus brings the benefit of optimizing compliance out of the box. We pay close attention to the edge cases and intricacies that impact software businesses.
Home rule cities are a good concrete example of how this focus delivers superior automation and more accurate compliance for SaaS. Let’s take the home rule city of Chicago, which taxes software, but the state does not. Since Anrok specializes in SaaS, we're able to build our data model to treat these cities as a first-class entity. Out of the box, we're able to calculate and collect sales tax correctly in these jurisdictions and help protect the business's bottom line.
Incumbents, on the other hand, provide generalist solutions. Much user configuration is required to get started on legacy platforms. Moreover, they lack basic automations, such as anticipating filing frequency changes, that the modern software user expects.
You mentioned fitting into a modular stack. As you have a privileged perspective into this space, I'd love to hear what you see from the typical SaaS company as far as that stack: finance, HR, payroll, etc.
Most SaaS companies want to pick the best tools for the problem at hand. Take subscription management. Who wants to be the person to stop sales from closing a multi-year deal that might be six or seven figures large, just because their finance stack can't support multi-year subscription complexity? A modular stack gives finance leaders the flexibility to choose the right tools for their business.
What we typically see in a SaaS company's finance stack is a billing system that evolves as they grow. They might begin with QuickBooks and graduate into NetSuite. They often have two or more payment systems. We always see ACH and often see Stripe, Braintree and sometimes even a subscription management service on top of that -- like a Chargebee, Chargify, SaaSOptics -- to manage more complex subscriptions. Then at the very beginning of the funnel, folks sometimes ask us to plug into Salesforce too.
All of this relates to my modular thesis: Finance leaders don’t want lock in.
What makes companies have multiple payment processors?
One is that ACH always exists because, if you have large customers, you might not want them to pay by credit card because it’s expensive. The second is that, as you grow, you want to diversify your payments risk. If you look at any large company, they use several payment gateways.
How do you think about Anrok versus Paddle and similar companies that are more of an all-in-one platform solution?
We don't really see Paddle much in the SaaS space. You tend to see them mainly with mom-and-pop or really small e-commerce businesses that are going from zero to one. I think the main reason is because Paddle is a reseller, and they end up owning the customer relationship, which is a no-go for many SaaS companies. Also, the pain points that they solve tend to be less important as a company scales and grows. So cost-benefit analysis wise, it's not worth using something like Paddle. It's not something that's very relevant to our customer base.
Do you see more fragmentation and uniqueness in terms of the company stack as companies get bigger and their needs change and differentiate from other companies?
Not necessarily. I think it really depends on the complexity of the SaaS business itself. I think a lot of what SaaS businesses are doing today is making sure that they're being creative with their pricing and with how they bundle their offerings. The uniqueness of their finance stack is a derivative of that. I wouldn't necessarily say it's always correlated with size.
How do you think about Stripe acquiring TaxJar and Stripe Tax, and about positioning Anrok with the continued growth of that ecosystem?
We partner with billing and payment companies, so we're actually agnostic to them. If you're an e-commerce company and are only on Stripe, then ancillary add-ons might work well for you. One important point to note is that Stripe Tax only works with Stripe transactions.
This is where modularity comes in. If you're a complex fast-growing SaaS business, you're probably using several different tools. You not only need a dedicated solution that works with your evolving stack, but something that can handle all the different facets of sales tax, like registration, tracking exposure across many different tools, filing, and robust reporting for audit trails. Anrok really works best for these kinds of software companies that are planning for hyper growth and recognize that their billing and payment tools may change.
Zooming out, something that I notice people consistently underestimate is how big the internet economy is and how big fintech markets are. I respect and am bullish on a lot of companies in this space.
You compared Stripe to Apple, the extension maybe being that the rest of the ecosystem is like Android where you can build the best solution possible for you. You also mentioned e-commerce companies for whom just using Stripe might be fine if they can do everything there. What types of companies do you think might the all in one approach work for, and what types -- including SaaS -- are better served with a more modular approach?
If you're building a lifestyle business, where you’re planning to stay small, maybe it's fine to have one stack. But if you have venture-sized ambitions and are building for hyper growth, you're going to need to pick the best tools for the different stages of your trajectory and iterations of your contracts, so you're going to want a modular approach.
One of the big macro trends driving all of this is remote. All kinds of tax, but especially sales tax, get more complicated when you're remote. How have you seen this affect hiring over the past couple years: where teams hire, how they classify people, what the hiring stack looks like, etc.
With the pandemic, every software company has become a remote company. I think this trend is here to stay. Gartner reports that 82% of corporate leaders plan to allow remote work at their companies at least part time after the pandemic subsides. This is relevant to sales tax tools because having a single remote employee in a state means that you may be liable to collect sales tax from customers in that state and remit it if your product is taxable in that state. Where you have remote employees is a major factor in sales tax compliance.
Governments are coming up with ways to generate more tax revenue and also avoid losing it. What have you observed as far as local trends in tax policy and enforcement, and what sort of tools are local governments using?
On the tax legislation side, policy makers have worked hard to keep up with the rise of software and other digital goods. Of the 45 states that impose sales taxes in the U.S., all have now enacted remote seller laws. These remote seller laws impact online businesses in particular, and about half of these jurisdictions tax software. This means that, if you're a finance leader at a SaaS company, you now have to monitor sales across all the different states in the U.S., comparing the revenue or the number of transactions you’re making in that state against the state-specific revenue thresholds. So this has become a big monitoring burden for financial leaders.
Sacra highlight
On the behavioral trend side, something that I see is sales tax becoming mainstream this year with cases like the Peloton federal class action lawsuit regarding their digital subscriptions and Spotify rolling out sales tax to some customers in specific states. Sales tax will be something like payroll and other taxes that you pay as a business, where it starts from day one.
Do you think we'll be at a point where every state is collecting sales tax? Also, some states distinguish between B2B and B2C. How do you see that evolving in the future?
I believe we’ll see software becoming taxable in more states. However, I don’t think states without a sales tax regime are likely to change anytime soon. To your point on B2B and B2C, some states like Connecticut and Iowa do make that distinction, but it’s not common in the US. We’ll have to wait and see how that evolves.
In terms of collection trends, economic nexus is now a fairly mature concept. It's been about three years since it was first introduced. At present, many states are looking for growth opportunities coming out of the pandemic. Brick-and-mortar businesses have been closed, while online businesses have been operating as normal, if not growing at a faster pace than they did pre-pandemic. So we can expect states to be increasingly aggressive about auditing online sellers going forward.
Another trend we anticipate is sales tax compliance coming into play for a certificate of good standing in a state. This is something that landlords may ask for when opening an office in a state, or when a company is establishing a new legal entity or doing KYC for banking purposes. This is very much tied to sales tax compliance.
Compliance can be very services-heavy, and some of these concepts can be fuzzy and not totally clear cut. I'd love to hear about the services side and what you've found you're able to automate and what is resistant to that.
Three things come to mind for the user: registration, calculation, and filing of sales tax.
Let’s start with registration. When a seller has crossed the nexus threshold in a jurisdiction, Anrok can automatically alert the seller. We track those thresholds, and that allows the user to initiate a registration in that jurisdiction to ensure compliance. This is somewhere where I think it's important to have a human in loop to say, "Yes, this is a strategic decision I'm making to register and comply." So that is something initiated by the user and in their control. It's important to register soon after you've crossed nexus, to minimize the time you’re waiting for your registration to be processed, but still have an obligation to remit tax on sales.
The other thing on registration -- we've done the analysis of what is common amongst the different state registrations and what might be specific to a particular state. This has allowed us to simplify the process when a user decides to register as we already hold all the common information that is required. We only ask them for the additional information that that specific jurisdiction needs. In this sense, we've reduced the data collection piece -- not totally automated it away, but reduced this piece -- as we have the tax ID number, director information of the company and all of that standard stuff, and just need a few more pieces of information to help them register in that jurisdiction.
The calculation piece is fully automated. That said, if a seller's sales team wants to look up a tax rate to answer a customer query or provide a quote, we have a sales tax calculator in the application that allows them to plug in the customer address, select one of their existing products and factor in tax obligations to instantly return the appropriate tax to quote their customer.
On filing, this is fully automated for the customer. That said, if the user wants to review and amend the return before it is filed, they can do so.
Those are the few things that come to mind on the balance between what should be automated and what users still want to have some control over.
How do you think about expanding into other kinds of tax or compliance related services, given the kind of access you have inside companies?
I'm most excited about giving finance teams a unified view of their finances. As we mentioned, enterprise SaaS finance stacks trend towards the modular: sales tax calculation is needed in every place where invoices or payment is created.
Anrok is in the perfect position to automatically aggregate transactions across quoting, billing, subscription management, and payments. There are many interesting reconciliation and balance features we can help build that just don't exist today. A lot of this is currently done in Excel manually by the user. And if you think about it, many of these reconciliation tasks should happen in the cloud where your data is.
One aspect of remote is being able to hire people anywhere. Have you thought about international expansion opportunities with other types of tax abroad?
Just to give some context, in the U.S. the concept of physical presence -- the nexus piece -- is important. For international, it's less important. The obligation to remit tax often happens on the first sale, regardless of whether you have a physical presence or other form of nexus there or not.
More and more international countries are taxing software. The good news is that it tends to be less complex than the U.S., as most countries have a single countrywide sales tax rate, instead of many local jurisdictions with different rates and sometimes even different taxability when it comes to products.
The bad news is that, for the typical SaaS company, over 80% of their sales tend to be in the U.S. So getting compliant in the U.S. first is the priority, because that's where the money and the financial impact is.
Where international does become complicated is that different countries have different invoicing and data collection and privacy requirements. This can include items that need to be displayed on an invoice, how to collect customer tax IDs, and other formatting and data handling requirements. This is a big lift for finance leaders and something that they tend to have to do in their invoicing systems before they can start to address international tax.
You mentioned earlier e-commerce being different from SaaS. Are you thinking about expanding to do e-commerce? Does it involve less complexity, given what you've described as far as the payment stack?
We specialize in SaaS because this is where we see the gap in the market. SaaS tends to be more complex because of the subscription model. If you think about a SaaS invoice, it can constantly change based on customer consumption, and this needs to be reflected instantly in sales tax calculation and reporting. Even if you're a company with seat-based pricing, there are refunds, true ups and probations that finance leaders need to deal with. It can look a lot like volumetric billing.
E-commerce doesn't have this complexity. You buy a pair of shoes, maybe you return the pair of shoes, but that's about it. The integration needs and reporting solutions tend to be relatively simple.
I think SaaS is a big opportunity on its own. We've built Anrok to be the enterprise-grade solution for SaaS where we can work with these constant changes to their modular finance system.
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