Tax time is a dreaded season for many, especially for ecommerce businesses that work with drop shippers.
Staying compliant is no walk in the park, and with almost 11,000 sales tax jurisdictions across the US, it can be difficult to keep up. It’s not a secret that even the most seasoned sellers struggle to stay compliant.
If you’re an ecommerce business owner using drop shipping and are feeling unsure how to manage your taxes this season, don’t fret. We’re here to help.
But before we jump right in, let’s quickly review what constitutes drop shipping.
The tax rules and regulations featured in this post are the most current and up-to-date at the time of publishing.
What is drop shipping? What is print-on-demand drop shipping?
Drop shipping is when the product you’re selling isn’t housed in your inventory. Instead, when you sell your product, you purchase that item from a third-party source and have them ship it directly to your customer. Essentially, you don’t handle your product through the buying and shipping process.
Like traditional drop shipping, print-on-demand drop shipping allows sellers to only purchase items when an order has been placed. Once an order has been placed, a third-party printer will automatically fulfill and ship the product to your end customers.
How it works
Let’s look at a quick example. Eddie owns an online store that sells custom t-shirts and hats. He’s looking into his options at Printful, and finds that he has two options:
- Create custom products on Printful and let the company fulfill and ship them once Eddie’s customer places an order
- Store his products at Printful’s warehouse and fulfillment center, and let Printful ship these products once an order comes in
If Eddie uses Printful’s products, he is using a print-on-demand drop shipping service. If he uses products from a different supplier but stores his inventory with Printful, he is using their Warehousing & Fulfillment service. Make sense? Now, let’s get onto the fun stuff: taxes.
Tax obligations for drop shippers
Let’s be real, trying to understand how drop shipping sales tax work can be quite a task.
While you’re the one who sold the product to the customer, a third-party service fulfilled and shipped it. This means you have to consider three parties (you, the customer, and the drop shipping company) when tax time comes around. Why? Because you all could be in different states and have different nexus rules.
If you’re working with print-on-demand drop shipper, you most likely face less nexus rules than you would with a traditional drop shipper. This is because you don’t have inventory or a warehouse. Still, there are other nexus rules that might apply to you (which we’ll get to in the next section).
Sales tax nexus
Nexus is when you have a presence or significant connection to a state. Your sales tax obligations as an online store owner vary from state to state. Most of the time, however, a physical presence or economic connection to a state creates nexus.
Today, a presence or significant connection to a state includes:
- Warehouses and distributors
- Affiliates (click-through nexus)
- Making a certain amount of money or transactions in a state (economic nexus)
- Doing physical business in a state for some time (i.e. trade show)
As an online store owner, you should pay close attention to economic nexus, click-through nexus, and warehouse location. Those three areas are quite applicable to your business and will likely determine your nexus requirements.
Nexus and drop shipping
According to Avalara, if you have nexus in the state where the sale occurs, then you must collect sales tax from the customer, even if you’re working with a third-party drop shipper. That said, you need to know where you have sales tax nexus and what the rules are in that particular state or states.
How it works
Say Eddie launched his online store and wants to start selling products to folks in Texas. Unless he has nexus in Texas (a significant presence or connection to the state), he isn’t required to collect sales tax from his customers.
Cases where Eddie would be required to charge sales tax:
- If he were to work with an affiliate, like a retailer in Texas who sells the same line of products and is under the same business name
- If he were to use facilities or employees in Texas to advertise and promote sales for the company, or collect exchanges and returns from customers in the state
- If he had a distribution center or warehouse in the state that delivers products to the consumer in the state
In order to be diligent, Eddie would have to further explore the nexus implications of every state where he wants to sell. This is a good opportunity for Eddie to meet with a tax advisor to talk it over and make sure he’s staying compliant.
Printful collects sales tax from customers in 36 states unless they have a resale certificate (we’ll get to resale certificates in a minute). This is because Printful has nexus in these states, so they’re required to do so by law. The profits from sales tax charges go directly to the state government, not Printful.
Important tax dates
Knowing what days you need to file your taxes is just as crucial as knowing where you have nexus. For a more stress-free tax experience, we recommend using a calendar to track your most important tax deadlines. Stay informed and don’t let your important tax deadlines sneak up on you!
Depending on your entity type, here are a few important 2019 tax deadlines that you should be aware of:
- March 15 – S Corp (Form 1120-S) and Partnership (Form 1065) returns due
- April 15 – C Corp (Form 1120) and Individual (Form 1040) returns due
- May 15 – Exempt Organizations (Form 990) returns due
- September 16 – Extended S Corp (Form 1120-S) and Partnership (Form 1065) returns due
- October 15 – Extended C Corp (Form 1120) and Individual (Form 1040) returns due
Since sales tax varies by state, your sales tax returns due dates will vary as well.
If you’re using drop shipping services, there are opportunities to reduce your sales tax costs through a resale certificate.
What is a resale certificate
A resale certificate is a document that allows sellers to buy items for resale without paying sales tax. You can only purchase items with a resale certificate if you intend to resell the items or the purchased items are used to create something you intend to sell (i.e. fabric to make curtains to sell).
How to obtain a resale certificate
The short answer: it depends. While some states accept a sales tax permit as a resale certificate, others require you to get a resale certificate in addition to having a sales tax permit. Some states allow you to get a resale certificate directly online, while others require you to fill out a form.
We recommend you ask your state or look up what is required to get a resale certificate or permit in your state.
Where can I use a resale certificate
Not all drop shipping companies will accept your resale certificate, and they have the right to do so. Since sales tax varies from state to state, each state has its own policy on resale certificates and where you can use them. For example, there are 9 states that don’t accept out of state resale certificates unless you register for a sales tax permit in that state.
If you’re a retailer using drop shipping and you have a resale certificate or the equivalent, you won’t have to pay sales tax. If for some reason your retailer or wholesaler doesn’t accept your resale certificate, don’t fret. There may be more opportunities to get back the sales tax you had to pay.
Printful accepts resale certificates, so make sure to submit yours if you don’t want to pay sales tax yourself.
How it works
Eddie lives in Utah and decides he wants to sell custom t-shirts through Printful. Since Printful has nexus in this state, they have to collect sales tax from Eddie. But if he doesn’t want to be charged sales tax and save some money, all he needs to do is prove he has a registered sales tax permit and present it to Printful with the Utah Form TC-721 Exemption Certificate.
How to handle your drop shipping taxes
It’s pretty clear that when it comes to tax time, working with drop shippers has its complexities. As an ecommerce entrepreneur with a growing business, you need to be serious about staying up to date on the latest rules and knowing what’s required with nexus.
The best thing you can do for yourself and your business is to consult a tax advisor. Experts can help guide you through and take care of the tedious items for you.