Sales tax: A state-by-state wrangle

If your business drop ships, be prepared to investigate state statutes for every location in which your suppliers do business.

Chris Crocker, Smyrna, Ga.
Our business drop ships from its various suppliers. We are having more and more vendors tell use we need sales-tax numbers to be exempt from being charged sales tax when shipping to various states outside our state of residence. But it was my understanding that the federal government struck down this requirement from the states: In the Supreme Court case Quill v. North Dakota, the court upheld Quill's position that they did not have to collect sales tax for orders shipped out of their state. My suppliers are saying that ruling did not cover drop ship deliveries. But they're not selling the product to our customers, we are. So how would they be responsible for paying sales tax outside their state? They didn't sell it, we did. We have no "presence" in any state but our own. Could you please help me with this issue?

By Lenora Chu, Fortune Small Business contributor
The sales tax experts say that your suppliers are right. The Supreme Court case of Quill v. North Dakota does not apply to drop shipments.

As you know, there are three parties involved in a drop-shipment transaction: The wholesaler, the retailer and the consumer. After the consumer submits the order to the retailer, the retailer submits the order to the wholesaler, who then ships directly to the consumer.

The location of each party will determine whether there's a sales tax obligation, says tax attorney Brent Herrin of the Atlanta-based law firm Cohen Pollock Merlin and Small.

In most wholesale transactions, you, as the retailer, are exempt from paying sales tax thanks to a resale exemption, Herrin says. In general, you must produce a copy of a resale certificate issued by the state department of revenue to qualify for the exemption.

However, in wholesale transactions that cross state lines, some states do not recognize other states' resale certificates as valid. In such cases, sales tax would be imposed. Furthermore, in some states, the sales-tax statutes deem the wholesaler to be the retailer - thus imposing tax obligations on the wholesaler.

Either way, your suppliers would be right to ask for your sales-tax number, says Joseph Micallef, founder of the Sacramento-based tax consulting firm Associated Sales Tax Consultants.

That information is required because most states impose the sales-tax obligation until proof of exemption is established. Your suppliers would need the sales tax-number to provide the necessary documentation, Micallef says.

As you pointed out, the Supreme Court case Quill v. North Dakota denied the state's attempt to impose tax liabilities on products shipped into the state, since Quill had no "nexus" or presence within North Dakota. That case dealt with a transaction between an out-of-state retailer and an in-state consumer.

The issue in Quill is different from those faced in a drop shipment transaction, according to both Herrin and Micallef.

The question of sales tax obligations in a drop shipment has to do with whether the state in question recognizes your resale certificate, or whether the wholesaler is defined as the retailer by that state's statute, Herrin says.

In short, it varies from state to state. Examine the sales-tax requirements for the states in which each of your suppliers is located to determine your obligations.

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