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The legal requirements of dropshipping

Dropshipping is the latest advancement in e-commerce today. A real jolly joker that simplifies online trading to the extreme in many ways. You don’t have to deal with stocking, delivery, they take care of everything for us. As a dropshipping web store, you can focus on the most important thing to keep your business running and run into long-awaited sales. You can even manage your web store from the other end of the world with a laptop.

This sounds very good so far and is undoubtedly a tempting offer. Staying on the ground of realities, however, in such cases, it may be suspicious that after so many positives, there will surely be something bumping that could deter the person interested. This is indeed the case: dropshipping is indeed an absolute # 1 business model these days, but it still has a less attractive side. And that is the legal and tax background.

If you want to immerse yourself in the legal and tax background of dropshipping, you may want to read this article carefully.

Benefits of a dropshipping company

If you cut into running a dropshipping web store and choose a company that specializes in it as a dropshipping partner, your life will be much easier than joining a very intricately taxed global network. What are the benefits of such a company?

  • You do not have to become a tax and legal expert because you only have to comply with the business and commercial rules in force in the country of operation.
  • We can easily add products from a product catalog to our webshop and as soon as we have managed to sell something, the company will take care of everything else. He prepares the package, invoices, arranges the delivery.
  • Cash on delivery can also be arranged.
  • By joining a global dropshipping network, only your imagination can really limit what product you can sell. The range of products offered by the world’s dropshipping partners is infinitely wide.
  • We can come across niche segments that very few sell here in Hungary.

What are the conditions to be expected?

  • Finding dropshipping partners takes a lot of time and energy. Plus, more time and work goes into negotiating with them. It takes a lot of time and energy to get there to contract someone.
  • We need to be aware of the legal and tax situation that foreign dropshipping partners create. This area is much more complicated than we might first think.

Dropshipping legal and tax background

The topics of dropshipping law and dropshipping taxation are not accidental weaknesses in the business model. To get an accurate idea of ​​what it is all about, it is worth recalling the dropshipping model in terms of participants and actors.

Dropshipping is basically a three-character story involving a customer, a dropshipping web store, and a dropshipping partner.

  1. A dropshipping web store sells a product online that the buyer buys. 
  2. The order runs into the dropshipping web store, which manually or automatically forwards it to the dropshipping partner, who may be the manufacturer of the product or a wholesaler. 
  3. The dropshipping partner prepares and invoices the received order and he also ensures that the order reaches the customer. 

In the dropshipping model, the customer thus obtains the ordered products in such a way that the dropshipping webshop had no physical connection.

With regard to the legal issues of dropshipping and the taxation of dropshipping, it doesn’t really matter who the actors are in the customer process, where the goods come from, and so on.

Although there are dropshipping partners in EU Member States, practice shows that the presence of Chinese dropshipping suppliers is dominant worldwide, so it is not possible to be aware of the legal regulation and tax background of dropshipping even in such a line-up. A Chinese dropshipping product is already a non-EU product. And that’s just the tip of the iceberg, there are plenty of versions to come. In the following, we will follow up on these and answer any legal and tax questions that may arise.

Questions about the legal and tax regulations of dropshipping

The fixed points of the dropshipping model are the actors as well as the direction of movement of the goods (from the dropshipping partner to the buyer), but in addition, numerous combinations can occur if the value of the goods, the geographical location of each actor, etc. we take it as a basis. That’s why there can be plenty of questions from a legal and tax perspective as to what exactly applies to online stores that operate in the dropshipping model. The foreword is that there is no single answer, but practically the composition of the current variation varies from line to line. Let’s see the basic questions that are sure to arise:

Does the product come from outside Europe? Who is the importer?

If the product comes from a non-European country, such as dropshipping, a major Chinese country, and you are in a foreign dropshipping partner or contract, you will need to determine who the importer will be during the sales process.

This is only necessary if you have a contract with a foreign dropshipping partner. You don’t have to deal with all this if you choose Dropshippy. 

The importer must make a customs declaration and at the same time he bears all responsibility for the product. What kind of responsibility is this? As a member of the European Union, you must comply with the rules in force:

  • the marketability of the products,
  • with the product designation,
  • and even because of the legal consequences of brand protection.

In the case of a product coming from outside Europe during dropshipping sales, the importer can be the web store, but also the buyer. This is a matter of prior agreement, which, among many others, needs to be enshrined in the GTC.

The identity of the importer is important for customs clearance, as someone arriving from outside the European Union has to take care of the customs clearance of someone. If the dropshipping partner is not outside the European Union, no import customs procedure is required, as in this case the packages are considered to be domestic shipments.

Here are some examples of how many people have a role to play in customs clearance:

  • A trader outside the European Union, who may be the manufacturer of the product or even a wholesaler, may entrust the carrier to carry out customs clearance on his behalf.
  • If a trader outside the European Union has a European presence, this local representation will become the importer. He will handle the customs clearance. If the local office keeps its own stock of incoming products and does not immediately deliver them to the consignee, an order from within the EU can even be served from this warehouse. In this case, of course, it is a product that has already been cleared through customs, ie a product that has previously undergone a customs procedure is delivered to the customer.
  • In the case of products arriving in Hungary, the forwarder notifies either the webshop or the consignee of the arrival of the product and at the same time indicates that customs clearance is required. The identity of the importer will therefore be that whom the shipper visits and notifies. From here, there are two options, either the forwarder receives the order to carry out the customs clearance or the webshop / consignee has to entrust someone else to carry out the customs procedure.

Shippers usually undertake the customs clearance procedure on request for a separate fee.

Who is the buyer?

Now that we have seen how the identity of the importer can develop in many different ways, let’s see what happens to the identity of the buyer. In connection with a dropshipping purchase, how does the person of the buyer shape the tax and customs clearance process. Two cases are worth distinguishing:

  • The customer of the dropshipping webshop is in Hungary.
  • The customer of the dropshipping webshop does not live / works in Hungary, but in another member state of the European Union. In this case, whether it is an economic organization or an individual, the rules of distance selling also apply in connection with the VAT regulation and the customs procedure.

Duty free and VAT free under € 22

In the customs process, € 22 is a magic number. Simplifications must be applied during the customs procedure to imports of products with a value of less than EUR 22. European Union rules currently allow these imported products up to a value of € 22 to be duty-free and VAT-free. What does this mean in practice? 

If the value of the incoming import product does not exceed EUR 22, the forwarder may carry out the customs procedure in a simplified form without notifying the webshop or the consignee. Conversely, if the value of the incoming import product exceeds the limit of EUR 22, it is no longer possible to apply this type of simplification. In this case, more is needed in the process. In order to carry out the customs procedure, you need to visit either the online store or the consignee, as they need an importer’s declaration. In addition, the following must be submitted:

  • an invoice for the purchase with the name of the goods,
  • certificate, extract from the bank transfer, 

with which the value of the product, the actual payment, the fact of purchase can be verified.

Thus, even at first reading, the difference between the two processes is obvious, so it is no coincidence that this value limit of EUR 22 can certainly serve as an excellent loophole for abuse. Practice shows that many people abuse this simplification option and even declare and write down a value of € 22 on the package when the value of the products in the package is in fact much more than that. It is no coincidence, then, that the European Union is expected to tighten up the current regulations.

Rate of duty

In the case of consignments placed under a customs procedure, the customs authorities shall determine the amount of duty payable in accordance with the legislation in force. In determining the customs duty, a distinction must be made as to whether the consignment arrived from the individual or from an economic operator to the consignee. Dropshipping sales are, by definition, the latter, since we are talking about an ordered product. The rate of duty is as follows:

  • If the value of the ordered goods is between 0 and 22 euros: duty free, the consignment will not be placed under the customs procedure.
  • If the value of the ordered goods is between 22.1 and 150 euros: the consignment is duty free, but 27% VAT must be paid on the consignment.
  • If the value of the ordered goods is between 150.1 and 1000 euros: the consignment is subject to a commercial tariff and 27% VAT.
  • If the value of the ordered goods exceeds 1000 euros: a commercial tariff and 27% VAT will be charged to the shipment.

The level of the commercial tariff depends on which category the product belongs to. The legislation organized the goods and groups of goods into categories. The rate of duty varies from category to category, ranging from 0-12%. On this page you can check the rate of the tariff per chapter: TARIC query

VAT payment

The issue of VAT, ie the payment of VAT, also arises during a dropshipping sale. What needs to be decided in this area is whether the particular purchase is a domestic VAT sale or a non-VAT chain transaction. Several versions are possible depending on where the dropshipping partner operates and who the importer is. so let’s look at what counts:

  • If the dropshipping partner, ie whose product is listed by the webshop outside the European Union, ie a third country, and the webshop is the importer, then it is a domestic VAT sale.
  • If the dropshipping partner is the buyer outside the European Union (for example, China) in the role of importer, the sale between the dropshipping webshop and the buyer is an out-of-VAT sale prior to the import procedure.
  • If the dropshipping partner is located in a Member State of the European Union, there is already a case of a Community chain transaction and the relevant rules apply. 

What is a community chain transaction?

A chain transaction is when the same product becomes the subject of several sales, but the product is delivered from the very first seller directly to the last customer. That is, there are no intermediate deliveries.

If there is a case of such a chain transaction, it is first necessary to clarify the place of performance in relation to the payment of VAT, as it depends on which country’s sales tax rules apply to that transaction. Under the VAT Act, the place of performance is the place where the product was dispatched, from which the actual delivery of the product begins.

To know what VAT law applies to each sales transaction, we need to examine all the transactions. It is therefore necessary first to find in the chain transaction the transaction which relates to the supply, that is to say, the actual dispatch. Because this transaction will be tax-free. This is followed by other non-delivery transactions in the chain transaction. They also need to know what the place of performance is, to know what rules apply to it. There may be transactions that precede the transaction involving the carriage and there may be those that follow. Based on these, these two types of non-transport sales transactions are as follows in terms of place of performance:

  • If the transaction precedes a sale involving carriage, the place of performance will be the country of commencement of carriage.
  • If the transaction follows a sale involving carriage, the place of performance will be the country of destination.

And then in connection with this, the tax rate is determined in such a way that where the place of performance of the transaction is abroad, the foreign VAT law is authoritative. Where the place of performance is domestic, the Hungarian VAT law shall prevail.

Thus, within a chain transaction, only the sales transaction involving transport is always an intra-Community transaction, which is exempt from tax under the VAT Act.