We generally receive between 5 & 10 requests per week from new sellers eager to start drop shipping. These sellers want us to get them a resale certificate right away, so they can quickly start drop shipping. It seems like a reasonable enough request, unfortunately, nothing about sales tax is generally that simple. What these sellers actually need will vary from vendor to vendor and there is not a single certificate that will work with all vendors in all situations.
While each state has a resale exemption, what each state will accept to document that exemption is different. If a transaction is not properly documented, it will not be recognized as a sale for resale. To correctly assess what these sellers require, we need to know which states each of their vendors want a certificate for. In the rest of this post, I will attempt to explain why this is important.
In a typical drop shipping scenario, we have three parties and two transactions. In this post, we will use the terms consumer, seller, and vendor to represent the parties. The first transaction is between the seller and the consumer. In this instance, the consumer is the customer. The second transaction is between the seller and the vendor. In this instance, the seller is the customer. We are going to mostly disregard the first transaction and concentrate on the second as this will determine the resale certificates needed.
There are 45 states plus the District of Columbia that have a state-level sales tax. (For the rest of this post we will refer to DC as a state for simplicity’s sake.) Vendors may be registered in one, some or all these states. To determine which state’s rate is charged we need to determine where the sale is sourced. When we are talking about tangible personal property (TPP) we generally look at the state where the product is delivered to the consumer. We call this state the “ship to” state.
TPP is something that can be seen, touched, smelled or otherwise perceived by the senses. It is generally something that can be stored on a shelf and is what many sellers using a dropshipping model sell. We will address digital goods and other types of property in future posts.
Once a vendor is registered to collect sales/use tax in a state they must collect the tax on every transaction delivered into that state, unless they accept a properly completed exemption/resale certificate in lieu of collecting the tax. Please note that the certificate collected must be acceptable to the state where the tax is being charged.
This is where the problem begins. The seller is probably not registered in most of the states they are asking the vendor to ship purchases. So, if the certificate must be acceptable to the ship to state and the seller is not registered in the ship to state, how can the seller provide the correct documentation. Remember that if a sale for resale cannot be properly documented, then the state will not recognize it as a sale for retail. Therefore the vendor is required to charge sales tax if the seller cannot provide a certificate acceptable to the ship to state. In any transaction, drop shipping or otherwise, the nexus of the customer never plays a role in whether a tax should be charged.
The good news is that 36 states will accept some sort of documentation without a seller having to get registered, if the seller does not have nexus. Some states will accept multiple types of documentation and other states are limited. We will share in future posts what each state will accept, but if you need help now, feel free to reach out. (See "Comment or Questions" options below...)
The bad news is that in 10 states (CA, CT, DC, FL, HI, LA, MA, MD, MS & TN) it is most likely that the seller will need to register to collect sales tax to issue a valid resale certificate. Sometimes it may make good business sense for a seller to voluntarily register to collect sales tax in one of these states. Once the seller registers, they will have to collect sales tax but the compliance costs usually pale in comparison to having to pay the vendor sales tax out of their profits.
The first step in developing a resale certificate strategy is understanding that vendors will generally request resale certificates in multiple states and that there is no one certificate that will work in all states. This does not mean you have to take action in every state, because most vendors are not registered in every state. The best practice is to ask potential vendors where they will require certificates. Once you have this information confirmed, you can start putting together a strategy to satisfy your vendors. If a seller wants to start off registering in just one state, we suggest CA rather than WY. We suggest this because the CA certificate will work in WY but the WY certificate will not work in CA. We also suggest CA because many vendors will need a CA certificate, and it is generally a large volume state for sellers.
In closing, we want to emphasize that each seller's and each vendor's requirements can vary. So it’s very important to consider all options carefully before committing to a strategy – and ideally receive input from a tax professional with multi-state experience. If you have any questions please let us know.