If you’re considering starting a drop shipping-based business, or perhaps already have one, it is important to know whether or not you need to pay sales tax. Drop shipping has boomed in popularity over recent years due to the ease and convenience it offers for sellers. With drop shipping, a seller receives an order and then has to go and order the product(s) from the supplier who will ship it directly to the customer. As drop shipping involves numerous different parties which are often spread over two or three states, it can be tricky to work out sales tax compliance and who can benefit from an exemption. This guide will cover how sales tax and drop shipping work, and how to apply for a sales tax exemption certificate.
How To Know If You Have Nexus With A State
In order to know whether you need to pay sales tax, you must first determine whether you have a sales tax nexus in a state. There are several ways to establish this with the two most common being through physical presence and economic activity. Physical nexus is established when you have a real property such as an office, inventory, or employees in the state.
Whereas economic nexus is created when a business without a physical presence meets or exceeds a state’s economic nexus threshold. See the difference between California and Wyoming below to gauge an idea of the different states’ economic thresholds:
- California: Requires a total combined sales of tangible personal property delivered into the state by the retailer in the current or previous year to reach $5,000.
- Wyoming: Requires $100,000 or 200 transactions of annual gross sales of tangible personal property, services, and admissions in the current or previous year.
Just as every state has its own nexus rules every state has its own rules and nuances when it comes to sales tax exemption certificates. What works in one state might not fly in another. Be sure to familiarize yourself with any specific requirements or procedures for the state in which you’re applying. This will help you avoid any surprises and ensure your application is processed smoothly.
Sales Tax Exemption Certificate Explained
To obtain a sales tax exemption certificate, also known as a resale certificate, the process will vary from state to state. Currently, 38 states accept a multistate certificate which is a general sales tax exemption certificate. Other states may only accept an in-state-issued certificate.
Key Benefits of a Sales Tax Exemption Certificate
Securing a sales tax exemption certificate comes with a suite of benefits that can make a big difference for your business:
- Cost savings: The most immediate advantage is the financial relief. When you’re exempt from paying sales tax on items you purchase for resale, you keep more of your revenue. This can add up to substantial savings, especially if you’re dealing with high volumes or expensive products.
- Streamlined accounting: With a sales tax exemption certificate in hand, your accounting becomes a bit less complex. You won’t need to track and remit sales tax for those exempt transactions, which simplifies your bookkeeping and reduces the risk of errors. It’s one less thing to worry about when managing your finances.
- Competitive edge: Reduced costs from tax exemptions can give you a pricing advantage. By lowering your expenses, you have the flexibility to offer more competitive prices or invest those savings back into your business in other ways, such as marketing or product development. This can help you stand out in a crowded market and attract more customers.
Overall, a sales tax exemption certificate isn’t just a piece of paper—it’s a tool that can enhance your financial efficiency and strengthen your position in the marketplace.
Apply For A Sales Tax Exemption Certificate
To get a sales tax exemption certificate, you can usually submit your application online via the government website. You can alternatively complete a paper version of your application which continues to be accepted. The application should not take you long, and once you have received a sales tax exemption certificate, you’ll be able to show your supplier who will then not be able to charge you sales tax on your drop shipping business.
Accuracy is key when filling out your application. Double-check all details to ensure they’re correct. Even a small error can lead to delays or outright rejection of your application. Take the time to review every section and make sure everything is spot on. An application with missing information or documentation is a surefire way to slow down the process. Make a checklist of all required documents and make sure your application is fully completed before submission. Missing even a single piece of paperwork can cause unnecessary headaches.
Handling Sales Tax Exemption Certificates for Different Types of Businesses
Sales tax exemption can vary depending on your business type. Here’s a quick rundown of what to keep in mind:
- Retail vs. wholesale: Retail and wholesale businesses often have different requirements and processes for obtaining and using sales tax exemption certificates. Retailers might need to handle exemptions differently compared to wholesalers, so make sure you understand the specific rules that apply to your business model.
- Online vs. physical stores: The nature of your business—whether it’s online or a physical storefront—can influence how you manage your sales tax exemption. Online businesses might face different challenges compared to brick-and-mortar stores, such as dealing with multi-state regulations. Be aware of these differences to ensure compliance across all your business operations.
Sales Tax & Drop Shipping
With an ecommerce drop shipping business, the seller is usually required to collect sales tax if you have a nexus with the customer’s state. Provided you do have a nexus, you will need to either charge your customer sales tax or collect a valid resale or exemption certificate from them.
When it comes to the supplier’s sale to you, the seller, there is usually an exempt wholesale transaction as reselling is involved. This is the case even when the supplier has nexus and an obligation for sales tax in the seller’s state. The supplier must therefore collect a valid resale or exemption certificate if this is the case.
Drop shipping rules forbid suppliers from accepting a resale certificate from an unlicensed seller. Without a valid sales tax exemption certificate, the drop shipper must charge sales tax to the seller. Though state tax policies often change. Tennessee, for example, recently started to accept exemption certificates from other states, having not accepted them previously. It is therefore worth researching the current policy of your state to make sure your processes are up-to-date and legitimate.
Here at Yonda Tax, we focus on helping businesses navigate the complexities of ecommerce, digital products and drop shipping sales tax compliance in the US. Contact us now to see how we can help you!