At a Glance
Third-party logistics (3PL) services provide a range of functions to companies, including warehousing, inventory management, transportation, and other supply chain management services. Given the nature of these services, there can be significant tax implications, particularly at the state level, due to the establishment of nexus.
Although the world’s most well-known 3PL service provider is Amazon FBA (Fulfillment by Amazon), numerous others exist, such as DHL, DB Schenker, FedEx, and XPO Logistics.
Whether you are an eCommerce retailer, a wholesaler, run a manufacturing facility, a healthcare provider, or a food and beverage business, you have likely relied upon 3PL services to fulfill orders, allowing your staff to focus on core functions.
Learn how using a 3PL service provider can impact your business’s income taxes and how Windes can help keep your company compliant with state and local tax (SALT) laws.
Selling To vs. Selling Through a 3PL: Understanding the Difference
Understanding your company’s relationship with a 3PL provider is critical to assess its tax obligations. A company working with a 3PL provider may either sell its product to them or through them:
- Selling To: Companies that sell to a 3PL provider transfer ownership of their product to the provider for a lump sum, similar to a wholesale transaction.
- Selling Through: Companies selling through a 3PL provider remain the owners of their products by legal definition. The 3PL provider’s role is to provide logistics and warehousing services, ensuring it reaches the end customers.
The state tax implications discussed in this article assume you are retaining ownership of your products and partnering with a 3PL provider to sell through them, using their logistics services for order fulfillment.
How is Nexus affected by 3PL?
When partnering with a 3PL provider to sell your products to end customers “through” them, you receive that provider’s warehousing and logistics services, such as storing your inventory inside their warehouses.
Most 3PL providers operate warehouse networks across the country to facilitate order fulfillment. These providers may move your products from warehouse to warehouse in different states to ensure it reaches the customer quickly. While this is a normal part of a 3PL provider’s services, this type of warehousing can create nexus and subsequent filing obligations for your company, depending on the local laws.
The presence of your inventory in a given state, county, or city, even if stored in a warehouse owned by another party, can be considered a type of physical presence in that state and is generally not a type of activity protected by Public Law 86-272. In other words, even if you have no other business presence or connection with a particular state, you may still owe sales and income taxes for storing your inventory in their jurisdiction.
Loss of Federal Protection against State Income Taxes
Public Law 86-272 (15 U.S. Code § 381) is a federal law that prevents states from imposing state income taxes on out-of-state entities selling personal property goods if they meet specific criteria. Businesses are exempt from state income if:
- They are located out-of-state
- Their only source of revenue in the state comes from the sales of tangible personal property (other revenue streams, such as rents, services, etc., do not qualify)
- They have no business activity in the state besides solicitation of orders
The rules to qualify for P.L. 86-272 protection are intentionally strict, and the presence of inventory within a jurisdiction is generally considered an unprotected activity. Consequently, you may be subject to state income taxes in the jurisdictions where your 3PL inventory is stored.
Example: Corporation Domiciled in Pennsylvania selling in California
Acme Corporation is a C corporation based in Pennsylvania. All their assets and employees are located in Pennsylvania, and the company earned $1,250,000 in taxable revenues in 2021 and 2022.
In 2021, Acme realized 50% of its sales ($625,000) in California despite having no physical presence or inventory in that state. Acme filed a return with California to claim the P.L. 86-272 protection and only has to pay state income taxes to Pennsylvania. Pennsylvania’s corporate tax rate in 2021 was 9.99%, resulting in a tax liability of $123,750.
In 2022, Acme partnered with a 3PL provider that stored some of its inventory in a California warehouse. The presence of Acme’s inventory within the state removes the P.L. 86-272 protection in California, so Acme is now subject to California income tax. California’s corporate tax rate is 8.84%, so the company owes $55,250 to California and $61,875 to Pennsylvania, calculated as follows.
California follows a single sales apportionment ratio.
50% of sales x $1,250,000 x 8.84% = $55,250
Pennsylvania also follows a single sales apportionment ratio.
50% of sales x $1,250,000 x 9.99% = $61,875.
Minimize Your State Tax Implications with Windes
Partnering with 3PL providers can expose your company to taxation by new jurisdictions, adding complexity to your tax filings. Contact the Windes SALT team to help you make the best business decision for your business. We can help you analyze your situation, determine what taxes your company may face, and help you minimize your tax liability through compliance. Connect with a Windes team member today.