Does a multi-level marketing or direct sales company have to collect and remit Texas sales and use tax on sales made by its independent distributors?

Subject

Direct Sales Organization/Multi — Level Marketing Company — Collection And Remittance Of Tax (A — M)

Plain-English summary

The Comptroller's office wrote to a multi-level marketing/direct sales company to explain its Texas sales tax collection duties. Under 34 Tex. Admin. Code § 3.286(a)(3), the company itself is treated as the retailer -- not each individual independent distributor. The Comptroller relies on authority granted in 1961 under Tex. Tax Code § 151.024 to treat a supplier, rather than its independent distributors, as the party responsible for the tax. Because the distributors solicit sales of taxable items as the company's agents, their activity in Texas gives the company nexus here.

The practical result: the company, which already held a Texas sales and use tax permit, had to collect and remit state and local sales and use tax on the suggested retail price of the products sold through its distributors. Distributors are not to be issued their own sales tax permits, and the company was told not to instruct distributors to apply for one.

The letter lays out the current tax rates at the time (6.25% state rate, plus city rates of 1%-2%, a common 0.5% county rate, transit-authority rates in eight named areas, and possible special-purpose-district rates) and describes two acceptable bookkeeping methods for figuring local tax due:

• If the distributor takes the customer's order before purchasing from the company, the order form should show the tax due and which local jurisdiction(s) it belongs to, and the company accrues the appropriate taxes from copies of those orders.
• If the distributor buys the goods before the customer's order is taken, the company collects and reports tax based on the suggested retail price, and distributors periodically report their sales by local jurisdiction (including sales in areas with no local tax and sales to exempt entities) so the company's return reflects the compilation.

Separately, all items a distributor buys for personal or business use -- including the company's own products, sales aids, and prizes awarded to customers -- are taxed based on the company's sales price to the distributor, at the rate applicable to the distributor's location. Any tax the company collects from a distributor that was not actually due must be returned to the distributor, per 34 Tex. Admin. Code § 3.325(b). Local tax is allocated, collected, and remitted the same way as city sales tax, per Rules 3.374 and 3.375.

What this means for you

Multi-level marketing and direct sales companies

If you run a direct sales or MLM business with independent distributors in Texas, expect to be treated as the retailer responsible for collecting and remitting sales and use tax -- your distributors' solicitation of sales creates nexus for you, and they are not supposed to obtain their own sales tax permits. You need a system (either order-based or purchase-based, as described above) for tracking which local jurisdiction each sale belongs to.

Independent distributors

You should not apply for your own Texas sales tax permit for this activity, and your parent company should not instruct you to. The company is expected to build any tax due into your orders or purchases and account for it on its own return.

Accountants and tax professionals

Note the two acceptable accounting methods described in the letter (order-based vs. purchase-based), the requirement to return over-collected tax to distributors under Rule 3.325(b), and that items distributors buy for their own use (including sales aids and prizes) are taxed on the company's sales price to the distributor, not the retail price.

Common questions

Q: Who is responsible for collecting Texas sales tax on a direct sales/MLM company's products -- the company or the distributor?
A: The company. Rule 3.286(a)(3) treats the company as the retailer, and it must collect and remit tax on the suggested retail price of the products its distributors sell.

Q: Should independent distributors get their own sales tax permits?
A: No. The letter states distributors will not be issued sales tax permits, and the company should not tell them to apply for one.

Q: What rate of tax applies?
A: The state rate described in the letter was 6.25%, plus applicable local taxes -- city rates (roughly 1%-2%), a common county rate of about 0.5%, transit-authority rates in eight named areas (Austin, Houston, and Dallas at 1%; San Antonio, Fort Worth, Corpus Christi, and El Paso at 0.5%; Laredo at 0.25%), and any special-purpose-district rate.

Q: Is tax due on items a distributor buys for their own personal use, like sales aids or prizes?
A: Yes. These are taxed based on the company's sales price to the distributor, at the rate for the distributor's location.

Q: What happens if the company collects tax from a distributor that wasn't actually due?
A: It must be returned to the distributor, as outlined in Rule 3.325(b).

Citations and references

Statutes and rules:

• Tex. Tax Code § 151.024 (comptroller's authority to treat suppliers as agents)
• 34 Tex. Admin. Code § 3.286(a)(3) (direct sales organizations treated as retailers)
• 34 Tex. Admin. Code § 3.325(b) (return of tax collected in error)
• 34 Tex. Admin. Code §§ 3.374, 3.375 (local sales tax allocation)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9608L1426A05

Original ruling text

August 14, 1996

Dear ****:

It has come to our attention that your company is a multi-level marketing
company/direct sales company. Rule 3.286 (a)(3) provides that your company
be treated as a retailer.

The comptroller was given the authority in 1961 to
consider the supplier rather than the independent distributors as agents [Texas
Tax Code 151.024]. This section allows the comptroller to determine what is
necessary for the efficient administration of the tax code. The independent
distributors are considered agents for your company and their solicitation for
sales of taxable items gives your company nexus in Texas.

As a result, your company is required to collect and
remit Texas sales and use taxes for its independent distributors on the
suggested retail price of the products. The independent distributor will not
be issued sales tax permits. Your company should not tell the independent
distributors to apply for a sales tax permit. Procedures to collect and remit
tax are set out in this letter. Your company has a Texas sales and use tax
permit.

The current state sales and use tax rate is 6 1/4% and
there are several types of local sales and use taxes that may be due on a
transaction. The city rate may range from 1% to 2% for those Texas cities
imposing the city sales and use tax. Many counties impose a 1/2% county sales
and use tax. There are eight transit areas that have varying sales and use tax
rates: Austin, Houston, and Dallas at 1%; San Antonio, Fort Worth, Corpus
Christi, and El Paso at 1/2%; and Laredo at 1/4%. Special purpose districts
are allowed and may also impose local sales and use taxes; these rates are
determined by the voters of the local jurisdiction. These taxes are allocated,
collected, and remitted in the same manner as city sales taxes (Rules 3.374 and
3.375).

We suggest the following methods for accounting for local taxes which are due:

If the distributor takes orders before purchasing from
your company, the order blank should indicate the amount of tax due and to
which local taxing jurisdiction(s) it should be allocated. For shipments in
the Dallas MTA, you would collect tax of 8.25% [state sales tax of 6.25%,
Dallas city tax of 1%, and Dallas MTA sales tax of 1% ]. When you ship outside
the Dallas MTA, you would collect state sales tax of 6.25%, Dallas city tax of
1%, and appropiate local sales tax based on your distributor's location. Your
company in turn should accrue the appropriate taxes from the copies of the
orders. I presume that your company ships the inventory from inside Texas.

If the distributor purchases the goods before the
customer's order is taken, your company should collect and report the amount of
tax based on the suggested retail price price. For shipments in the Dallas
MTA, you would collect tax of 8.25% [state sales tax of 6.25%, Dallas city tax
of 1%, and Dallas MTA sales tax of 1% ]. When you ship outside the Dallas MTA,
you would collect state sales tax of 6.25%, Dallas city tax of 1%, and
appropiate county, SPD and MTA tax based on your distributor's location.
Periodically, the distributors should submit reports indicating the amount of
sales in each local taxing jurisdiction, the amount of sales in areas having no
local taxes and any sales to exempt entities. Your company's return should
reflect the compilation of these reports and the regular sales for that
reporting period. Any amount of tax your company collects from distributors
which is not due should be returned to them as outlined in Rule 3.325(b).

All sales of items to a distributor for personal or
business use should have tax computed on your company's sales price to the
distributor and at the rate of tax for your location in Dallas. For shipments
in the Dallas MTA, you would collect tax of 8.25% [state sales tax of 6.25%,
Dallas city tax of 1%, and Dallas MTA sales tax of 1% ] When you ship outside
the Dallas MTA, you would collect state sales tax of 6.25%, Dallas city tax of
1%, and appropiate tax based on your distributor's location. Examples of these
items include your company's products, sales aids, and prizes awarded to
customers.

Texas sales or use tax is due on all items of tangible
personal property, unless the item is specifically exempted because of the item
itself, because of its use, or because it is purchased by an exempt entity for
use that promotes the entity's exempt function.

If you have any questions or need more information, you may call our toll free
number 1-800-531-5441, extension 50892. My direct number is 512/475-0892. You
may write Tax Policy Division, Comptroller of Public Accounts.

Sincerely,

John J. Fitzgibbons, CPA
Tax Policy Division

NOTE: Previous Accession Number 9608487L