How Drop Shipping and Sales Tax Work
With a traditional brick-and-mortar setup, a customer pays sales tax on transactions made in store. Simple. But sales tax get more complicated in the ecommerce space, especially when an online retailer partners with a drop shipper. That’s a whole new set of rules, and we’re here to clear them up.
Keep in mind that we’re not accountants or legal experts, so this shouldn’t be used as professional advice. Use it instead as a starting off point to learn some basic information. Our recommendation is always to consult a professional for information specific to your circumstances.
Let’s start with the basics and go over some useful terms you’ll need to know.
Nexus is the term used when a retailer has a presence in a particular state. A company’s presence can be difficult to determine in online commerce, but here are a few common ways that a retailer could have nexus.
- If you have a physical location (even if it’s your kitchen bench)
- States you have employees or salespeople in
- States you store inventory in
- E.g. If you are using Printful Warehousing and Fulfillment Services
- States where you make enough sales, in dollars or transactions.
If your company’s headquarters are located in California, you have employees working remotely in Oregon, and your warehouse is in Texas, you have nexus in all three of those states.
You can find a more expansive definition of nexus, including different types like affiliate or click-through nexus, on TaxJar’s guide to sales tax.
Remember that you must register for a sales tax permit in each state where you have nexus in order to collect sales tax.
Sales Tax is collected when a customer makes a purchase in a state where the retailer has nexus. If an online retailer has nexus in California and a customer from California makes a purchase, that customer gets charged sales tax.
Keep in mind that sales tax is passed on to the state government. It’s used to pay for state initiatives like schools, roads, etc. Each state sets its own rate, and the exact tax varies by locality.
Let’s use Albert, Oklahoma as an example. In total, buyers in Albert, OK pay 6% sales tax in total. However, this is made up of both the OK state tax of 4.5% and the district tax of 1.5%.
A Resale Certificate is needed in order for the retailer to be exempt from paying sales tax on orders they purchase from a drop shipper to resell to customers. Some states don’t accept out-of-state resale certificates. In this case, the drop shipper has to collect sales taxes from the retailer.
So there you have the basics. You, the online retailer, charge sales tax to customers that make purchases in states where you have nexus. Now we’re going to complicate things and throw in rules that apply to drop shipping.
Before we go any further, we’d like to point out that sales tax laws are different in every state, and they change frequently. So make sure you check the laws of any state where you think you may have nexus, and consult a tax professional if you have any questions or doubts. You don’t want to be surprised with a sales tax audit.
As mentioned above, laws involving sales tax get a little more complicated when a drop shipper is involved, because there really are two sales between two businesses and one customer:
1. The customer purchases an item from the retailer
2. The retailer purchases said item from the drop shipper, who then ships it directly to the customer.
The tricky part is understanding who is liable to pay the sales tax and when. Let’s assume that you are the online retailer and Printful is your drop shipper. Here are the four different situations that may occur and how to what happens in each.
|Printful has nexus||Printful doesn't have nexus|
|You have nexus||Printful charges you tax unless you submit a resale certificate|
You charge your customer tax
|Printful doesn't charge you tax
You charge your customer tax
|You don't have nexus||Printful charges you tax unless you submit a resale certificate and charge your customer tax||Printful doesn't charge you tax
You don't charge your customer tax
Printful has nexus in most states, which means we have to collect sales tax in those states. You will need to get a resale certificate if you want to become tax-exempt. You can find out how to do that on this TaxJar blog post.
Again, we emphasize that you talk to a tax professional if you have any questions, but we hope this blog post serves as a helpful introduction to drop shipping and sales tax rules!