Introduction

Taxes when dropshipping are more complicated than most new sellers expect. Many entrepreneurs assume the supplier, marketplace, or international shipping handles tax obligations, but you can face sales tax nexus in multiple US states, value-added tax (VAT) in the European Union, and income tax on net profits in your home country.

This guide covers what taxes apply to dropshipping, why they matter to your margins and compliance, and exactly how to set up your business to minimize surprise liabilities. Expect concrete examples with numbers, a 90-day timeline for setup, pricing for common tools, and checklists you can follow step-by-step. Whether you use Shopify with Oberlo, sell via Amazon, or source from AliExpress, the rules below translate into choices that affect pricing, supplier contracts, and bookkeeping.

Read this guide if you plan to scale beyond ad-hoc sales. Noncompliance can lead to back taxes, fines, and suspended payment accounts. Follow the practical steps and checklists to reduce risk, set correct prices, and automate collection and filing wherever possible.

Taxes When Dropshipping - Core Concepts

Overview: dropshipping is a retail model where you forward customer orders to a supplier who ships directly to the customer. Legally, you are the seller of record in most jurisdictions. That means the primary tax concepts to understand are sales tax (or VAT/GST), income tax, and indirect taxes or duties.

Sales tax basics: in the United States, sales tax is state-administered and applied to retail sales of tangible personal property in most states. After the South Dakota v. Wayfair ruling, states can require out-of-state sellers to collect sales tax based on “economic nexus” thresholds. Common thresholds are $100,000 in sales or 200 transactions, though thresholds vary by state.

Example: If you sell $120,000 in annual US sales and 350 transactions across multiple states, you likely trigger economic nexus in several states and must register and collect sales tax where required.

VAT and GST: For cross-border sales, many countries apply value-added tax (VAT) or goods and services tax (GST) on imports or consumer sales. The EU, UK, Canada, and Australia have special rules for low-value consignments and marketplace facilitators. If you sell to EU consumers, you may register for VAT MOSS (or its replacement One-Stop Shop) or register in each relevant EU country, depending on thresholds.

Income tax: Profits from dropshipping are taxed as business income. Net profit equals revenue minus cost of goods sold (COGS), shipping, advertising, and other deductible business expenses. Example math: $10,000 monthly sales, COGS $6,000, advertising $1,500, shipping $500 -> net profit $2,000.

That profit is subject to income tax and self-employment taxes where applicable.

Nexus and supplier location: Nexus can be created by your business presence (employees, inventory), by having a US-based supplier that stores inventory in a state, or by using 3PL (third-party logistics) services. If a US supplier warehouses goods in multiple states and ships from those warehouses, you may have physical nexus in those states, requiring registration and sales tax collection.

Marketplace facilitator rules: Major marketplaces like Amazon and Etsy often collect and remit sales tax on behalf of sellers in many US states. If you sell on Amazon, check whether Amazon collects sales tax in specific states for your orders. If you sell via Shopify and use Shopify Payments or plugins like PayPal and Stripe, you usually handle tax collection yourself unless integrated apps automate it.

Principles:

Who pays what and why

Principle 1 - The seller is usually responsible for sales tax collection. Even if the supplier ships the product, you are often the seller of record and must collect tax for taxable transactions. Verify whether marketplaces act as facilitators and remit tax on your behalf.

Example: Selling t-shirts on Shopify for $25 each to California customers. California sales tax rate averages around 8.25% depending on local add-ons. If you sell 100 shirts, you owe 100 x $25 x 0.0825 = $206.25 in sales tax collected at time of sale (you must remit this to the state, not treat it as revenue).

Principle 2 - Economic nexus ties to revenue or transaction counts. Many states use thresholds like $100,000 or 200 transactions per year. Track which states you sell into and run monthly nexus checks.

Actionable: Build a nexus tracker spreadsheet with columns for state, sales this year, transaction count, registration status, and filing frequency. Recalculate after every 30 days.

Principle 3 - Income tax is based on profit, not gross sales. Deductible expenses include COGS, ad spend (Facebook, Google), platform fees (Shopify, Amazon), payment processing fees (Stripe, PayPal), shipping costs, and business software.

Example: Annual revenue $120,000, COGS $72,000, ad spend $18,000, platform fees $6,000 -> taxable profit $24,000. If your marginal income tax rate is 22%, income tax liability ≈ $5,280, plus self-employment tax where applicable.

Principle 4 - International VAT/GST and customs. When shipping internationally, duties and import VAT may be charged at the border. For EU B2C sales, many countries require VAT collection by sellers or marketplaces; thresholds can be low.

Use tools to calculate landed cost and decide whether the customer or seller pays import duties.

Example: A €30 item shipping from China to Germany may incur 19% VAT on import plus duty depending on product classification. That adds to landed cost and affects your margin and pricing.

Principle 5 - Documentation and exemptions. Resale certificates allow you to buy products for resale tax-free from US suppliers if you will collect sales tax from the final consumer. Keep resale certificates on file and verify supplier policies.

If you buy from AliExpress using a supplier that will not collect US sales tax, you still need to collect sales tax from customers in states where you have nexus.

Actionable principle: Maintain an organized digital folder with resale certificates, supplier invoices, and monthly sales reports. These documents protect you during audits.

Step-By-Step Tax Setup for Your Dropshipping Store

This is a practical timeline with concrete steps and estimated times for the first 90 days. Target: get tax registration and basic bookkeeping setup before you scale ad spend.

Days 0-7 - Legal structure and bank accounts

Choose business entity: sole proprietorship, limited liability company (LLC), S corporation (S corp), or other. Consult a CPA or use legal services like LegalZoom ($79+ plus state fees) or Stripe Atlas (one-time fee) if you want faster LLC setup.
Apply for an Employer Identification Number (EIN) from the IRS (free online) if in the US. Use separate business checking account and a credit card.

Time estimate: 1-3 days for EIN; 1-10 days for LLC formation depending on state.

Days 8-21 - Accounting and bookkeeping

Choose accounting software: QuickBooks Online Simple Start ($25/mo as of 2024), Xero Early ($13/mo), or Wave (free, paid payroll). Connect Shopify, Stripe, PayPal, or Amazon to sync sales.
Set up chart of accounts: revenue, COGS, shipping income/expense, sales tax liability, advertising, merchant fees, and cost of goods sold.

Actionable checklist:

Connect payment processors.
Map product SKUs to COGS.
Create a monthly bookkeeping cadence.

Time estimate: 1-2 weeks to configure and import historical data.

Days 22-45 - Sales tax research and registration

Run nexus analysis using your sales data. For the US, check state thresholds; for EU/UK, check VAT registration thresholds and rules.
Register for sales tax permits in states where you exceed thresholds. Use each state’s Department of Revenue online portal. Typical processing time: immediate to 2 weeks.
If you sell on Amazon, confirm marketplace facilitator rules; if on Shopify, configure tax rates and automated collection.

Example: If by month 3 you have $40,000 in US sales and $25,000 shipped to New York, check whether New York’s threshold is exceeded. If so, register and begin collecting from next sale or as required by state rules.

Days 46-90 - Automation and policies

Implement tax automation: TaxJar (starting $19/mo), Avalara AvaTax (contact for pricing), or Shopify’s built-in tax engine for basic rates.
Update your store policies: clearly display prices with tax included or show tax at checkout, state which party pays duties for international shipments, and add invoices that separate sales tax.
Set up periodic filings: monthly, quarterly, or annual depending on state. Add calendar reminders for returns and payments.

Example pricing: TaxJar Essentials $19/mo for 2 filings per month, Avalara may be several hundred dollars per year for small sellers.

Recordkeeping and audit readiness

Keep supplier invoices, transaction logs, and shipping records for at least 3-7 years depending on jurisdiction.
Implement a monthly reconciliation process: compare payment processor reports with accounting software and sales tax liability accounts.

Best Practices:

ongoing compliance, accounting, and audits

Automate tax collection early

Set up automated tax calculation before running large ad campaigns. If you run Facebook ads that produce $15,000 in sales in 30 days and later discover you had nexus in multiple states, you will owe back taxes plus interest and possibly penalties.

Tools: use Shopify tax settings, TaxJar, or Avalara to calculate and collect sales tax at checkout. Confirm that your payment processor remits collected tax into a separate sales tax liability account in your accounting software instead of treating it as revenue.

Price with taxes and fees in mind

Build your pricing model to include expected taxes and fees.

Supplier COGS: $15
Shipping: $5
Advertising (Facebook): $7
Platform and payment fees: $3
Sales tax reserve (estimate 8%): $3.20

That leaves gross margin before income tax: $6.80. If you fail to reserve sales tax, your cash flow can be squeezed.

Track nexus dynamically by state and country

Maintain a dashboard updated monthly showing sales and transaction counts per jurisdiction. This can be a simple Google Sheet or automated via TaxJar Nexus API. If you approach a threshold, delay large promotions to states where nexus would be triggered until you have registration in place, or be prepared to collect and remit.

Keep clean supplier contracts and proof of dropship

Obtain invoices from suppliers that list your business as the buyer and the customer as the ship-to address where possible. For resale exemption in the US, keep resale certificates on file. If audited, provide invoices, resale certificates, shipping labels, and order confirmations to show tax collected and remitted or exempt status.

Plan for international VAT and duties

When selling to EU consumers, register for VAT or use a marketplace that handles VAT. For example, Amazon EU often handles VAT for FBA sellers depending on circumstances. For direct cross-border shipping, use Quaderno or Shopify Tax for VAT calculation and labeling.

Example: Selling a €50 handbag to France with 20% VAT means collecting €10 VAT at checkout; if you fail to collect, import VAT may be collected from the customer at delivery, creating a poor customer experience.

Audit readiness and timelines

Prepare for audits proactively.

Sales reports by date and jurisdiction
Supplier invoices and proof of shipment
Resale certificates and exemption documents

Retain records at least 3-7 years. Many states have statutes of limitations of 3-4 years, but severe issues can extend that.

Hire professional help when needed

Use a Certified Public Accountant (CPA) with e-commerce experience once annual revenue exceeds $100,000 or when multi-state nexus becomes complex. CPA billing examples: hourly $150-$350 or monthly retainers $300-$1,000 depending on complexity.

Tools and Resources

These tools help automate tax calculations, bookkeeping, and compliance. Listed prices are indicative as of 2024; verify before purchase.

Shopify (store platform)
Pricing: Basic $39/mo, Shopify $105/mo, Advanced $399/mo (as of 2024)
Notes: Built-in tax settings; integrates with TaxJar, Avalara, Quaderno.
TaxJar (sales tax automation)
Pricing: Starter $19/mo, Professional tiers scale by sales volume
Notes: Handles nexus tracking, returns automation, integrates with Shopify, Amazon, Stripe.
Avalara AvaTax
Pricing: Contact sales; can be several hundred dollars/year for small sellers
Notes: Enterprise-grade tax engine with jurisdiction-level accuracy.
Quaderno (VAT and global taxes)
Pricing: Starter $49/mo and up
Notes: Good for VAT invoicing and EU One-Stop Shop (OSS) reporting; integrates with Stripe, PayPal.
QuickBooks Online (accounting)
Pricing: Simple Start $25/mo, Essentials, Plus tiers
Notes: Popular US accounting solution; many e-commerce CPAs use it.
Xero (accounting)
Pricing: Early $13/mo, Growing, Established tiers
Notes: Good for international sellers; integrates with Stripe and Shopify.
Bench (bookkeeping service)
Pricing: Starts around $299/mo for bookkeeping (as of 2024)
Notes: Outsources bookkeeping to human bookkeepers; add-on tax filing services available.
Stripe and PayPal (payment processors)
Pricing: Stripe standard 2.9% + $0.30 per transaction; PayPal similar; merchant rates can vary.
Notes: Some platforms remit tax reporting forms (1099-K) depending on thresholds.
LegalZoom and Incfile (entity formation)
Pricing: $79+ state fees, or free basic formation with paid upgrades
Notes: Useful for DIY entity setup; consider local attorney for complex cases.
Customs and tariff lookup tools
US International Trade Commission DataWeb and Harmonized System (HS) code lookup tools help estimate duties.
Sales tax lookup and state portals
Use each state’s Department of Revenue website for registration and filing portals.

Integrations: When possible, connect Shopify -> TaxJar -> QuickBooks to automate tax calculation, remittance schedule, and bookkeeping entries. For marketplaces like Amazon, check whether the marketplace is the facilitator; if so, your reporting obligations differ.

Common Mistakes

Not tracking nexus early

Many sellers wait until they reach a large scale to check nexus. Avoid this by running a weekly or monthly nexus report. Action: add a calendar reminder to run nexus checks on the first day of each month.

Treating collected sales tax as revenue

Some sellers forget to separate sales tax into a liability account. Avoid this by setting your accounting software to record collected sales tax as a liability. Action: reconciling the sales tax liability account monthly reduces audit risk.

Ignoring marketplace facilitator rules

Assuming you are responsible when the marketplace already remits tax leads to double remittance. Action: verify on Amazon Seller Central or Etsy settings whether the platform collects and remits in each state.

Failing to collect VAT/GST properly for international sales

Skipping VAT registration can cause duties to be charged on delivery and delays. Action: for EU sales, use Quaderno or register under the EU One-Stop Shop (OSS) rules.

Poor recordkeeping of supplier invoices and resale certificates

Without supplier invoices showing chain of sale, you can’t substantiate resale exemptions or tax-exempt purchases. Action: require suppliers to provide invoices with your business name and keep them in a dedicated cloud folder.

FAQ

Do I Need to Collect Sales Tax When Dropshipping?

You must collect sales tax if you have nexus in the buyer’s state and the product sold is taxable there. Nexus can be economic (sales thresholds) or physical (inventory, employees, 3PL warehousing).

Will My Supplier Collect Sales Tax for Me?

Usually not. Suppliers typically charge tax only when they are the seller of record or if they ship from their own locations where they collect tax. You remain responsible as the seller of record unless a marketplace facilitator remits tax on your behalf.

How Do I Handle Sales Tax for International Customers?

For business-to-consumer (B2C) international sales, check import VAT and duty rules for the destination country. Use VAT registration, OSS (EU), or marketplace services to collect and remit VAT where required.

What Records Should I Keep for Tax Compliance?

Keep sales invoices, supplier invoices, shipping records, resale certificates, and monthly sales reports. Retain records for at least 3-7 years depending on local rules to support filings and audits.

How Does Income Tax Work for Dropshipping Profits?

Income tax applies to your net profit, after deducting COGS, advertising, shipping, platform fees, and other business expenses. Calculate quarterly estimated taxes if required to avoid penalties.

Can Automated Tools File Tax Returns for Me?

Some services, like TaxJar AutoFile and Avalara Returns, can file state returns automatically for a fee. You still need to register for tax permits and ensure the filing frequency and reports are accurate.

Next Steps

Set up your accounting and nexus tracking this week

Choose QuickBooks Online or Xero and connect to Shopify, Stripe, and PayPal.
Create a monthly nexus tracker in Google Sheets with state names, sales totals, transaction counts, and registration status.

Apply for an EIN if in the US.
Register for sales tax permits in any state where you have exceeded nexus thresholds or expect to exceed them in the next 12 months.

Implement tax automation before scaling ads

Install TaxJar or Avalara for sales tax and Quaderno for VAT if selling internationally.
Configure your store to separate sales tax into a liability account.

Organize records and consult a CPA

Create a digital folder for supplier invoices and resale certificates.
Schedule a consultation with an e-commerce experienced CPA when annual revenue approaches $50,000 or when expanding into new jurisdictions.

Checklist (quick)

Register business entity and get EIN.
Connect accounting software and payment gateways.
Run nexus check and register for sales tax where needed.
Configure tax automation and separate tax liabilities.

This guide equips you with the steps to understand and manage taxes when dropshipping, reduce surprise liabilities, and scale your business with predictable margins.

Taxes When Dropshipping Complete Guide