E-commerce accounting: How to manage your books for dropshipping
Laura Tien
January 14, 2024
There are now a range of apps you can use to automate your dropshipping business, including the accounting side of things. If you’re doing the accounting for a dropshipping business, you can automate the majority of your data entry and bank reconciliation through software, meaning managing your books becomes much easier.
However, there are a few unique considerations you need to make when running or starting a dropshipping business. For instance, you’ll tend to generate more invoices compared to a typical e-commerce business. Additionally, you’ll need to figure out how to manage taxes across multiple regions. In this article, we’ll take you through all the basics.
Do you need a bookkeeper or accountant for dropshipping?
If you’re running a dropshipping company, you might be wondering whether or not you need a bookkeeper or accountant. First of all, what exactly is the difference? Bookkeeping, a subset of accounting, involves recording and organising financial transactions regularly. Generally, an accountant will analyse the records provided by the bookkeeper in order to give financial advice.
For those who have just started dropshipping, doing your own bookkeeping is fine in most cases, especially if you follow the tips in this article. As your business grows, it becomes more worthwhile to connect with an accountant. Depending on what type of services you need, an accountant can help with complicated taxes, digital ecosystems and business growth.
Build your cloud-based accounting ecosystem
In order to save time and minimise human error, you’ll want to be using a cloud-based accounting solution as well as an accounting integration. You can access your data from anywhere, give access to others, and store all your information and documentation securely on the cloud. Important tip: Keep track of every expense! Upload every receipt, bill, invoice, etc.
Once you’ve set up your accounting solution, you can then link your e-commerce platform to it through an accounting integration. For example, you can link WooCommerce and Xero or Shopify and QuickBooks Online. You can set up an automated sync of your sales and payments data into one invoice every day. Transactions are mapped into the correct account too.
You can connect your bank account to your accounting solution through bank feeds. This allows the accounting integration to automatically match up transactions. You no longer need to spend hours on bank reconciliations. Reconciling becomes lightning-fast. All you need to do is click ‘OK’ to confirm the matching has been done accurately.
How do I set up my chart of accounts for dropshipping?
One thing that tends to confuse people at the beginning is setting up the chart of accounts for e-commerce. This essentially involves putting together a list of categories and subcategories that each transaction can fit into. For example, a category could be expenses and a subcategory could be social media advertising.
As mentioned above, if you use an accounting integration, it automatically maps transactions to the right category. This can be based on the default chart of accounts it can create, or based on your own unique chart of accounts. For most dropshipping businesses, the default accounts will work fine. However, speaking to an accounting professional can help you to make sure.
A difference you may find with a dropshipping store compared to other e-commerce stores is shipping costs and warehousing costs. As the wholesale suppliers will be delivering the product to the end customer, you won’t need to have an account for shipping costs. Since you don’t need to pay for warehousing or keep inventory on hand, you won’t need these accounts either.
Managing dropshipping’s high volumes of invoices
One unique part of doing the accounting for a dropshipping business that isn’t often mentioned is the higher volume of invoices you’ll generally need to manage. Rather than having one purchase order for a large amount of stock, you’ll be invoiced by your supplier for every sales order that’s made. Hence, it becomes a bit more difficult to keep your books organised.
One way to overcome this challenge is to coordinate the information that needs to be on the invoice. For example, an invoice number, amount to be paid, handling cost, address and any other relevant details. You can give each data point it’s own identifier, such as invoice_id, to make it easier to organise invoices.
You can automate the invoice automation process by connecting DocuSign to Xero. The integration will automatically fetch documents from Xero, push them into DocuSign for execution by the relevant contact, and finally update the status in Xero once executed. The executed document will be attached as a PDF within the respective Xero files.
Managing overselling when doing your accounting
The next unique issue when it comes to dropshipping is managing overselling. You’re not managing your own inventory in this scenario, meaning you need to stay on top of how much inventory your dropshipping suppliers have. There are a few steps you can take to minimise the risks involved.
First and foremost, you need to take the time to ensure your dropshipping supplier is reliable and can always provide up-to-date information on inventory levels. Ask suppliers what happens if item availability is wrong and who is liable for overselling. If you want to sell a lot, having multiple suppliers can be beneficial, however, it will take more work to keep track of them all.
Do I have to pay income tax for my dropshipping business?
We’ll start with the more straightforward one of the two types of taxes you’ll need to pay when dropshipping; income taxes. The same way you have to report income and pay tax when working a regular job, you need to report income and pay tax when making an income from the dropshipping business model.
In most cases, you’ll be paying income tax to your local government. For instance, if you’re living in Australia, you’ll need to check the business income and taxes guidelines from the Australian Taxation Office. In some cases, you might have to pay income tax at two levels, such as in the US where you have to pay taxes at the local state level and to the federal government.
What sales taxes do I need to pay when dropshipping?
Last but definitely not least, sales taxes to customers. These are applied to goods and services, either as a flat rate or a percentage. The end customer has to pay the tax. However, there are different rules on who collects sales tax. As always, the answer is; it depends. If you’re selling products across the globe, you’ll need to understand the different tax regulations in each region.
Fortunately for most dropshippers, e-commerce platforms such as Shopify automatically collect the right amount of sales tax. Even so, it’s helpful to understand how different exemptions and rules apply to you. This way, you can avoid making mistakes, overpaying in tax or upsetting customers.
Dropshipping taxes in Australia
Managing taxes in Australia for dropshipping is slightly less confusing compared to other regions. If your revenue is under AUD $75,000 in 12 months, you don’t have to register to collect GST (goods and services tax). After that point, you need to register to collect GST, regardless of whether you’re an Australian resident or not. GST is at a 10% rate.
Dropshipping taxes in the European Union
If your business is located in the EU, charging sales tax is more simple. You charge VAT (value-added tax) on every sale made in the EU. The tax rate will depend on how much you sell every year as well as distance selling thresholds that determine if the tax rate is based on your own country or the customer’s country.
For dropshippers located outside of the EU, you must register for EU VAT once your turnover surpasses the VAT threshold, generally £85,000. However, if you’re below the threshold and don’t register for VAT, your customer might have to pay unexpected taxes. Hence, if the EU is one of your main markets, it might be beneficial to voluntarily register for VAT.
Dropshipping taxes in the United States
In terms of charging sales taxes from your customers in the United States, it’s generally easier if you don’t live in the country. You don’t have to apply for tax unless you meet the tax registration threshold, generally 200 transactions or US $100,000 within a year. Once you reach the threshold, you have what’s called economic nexus and you’ll need to meet tax requirements.
For those who do live in the United States, tax rules vary wildly depending on where you are, where your customer is, and where your supplier is. If you have sales tax nexus in a state, typically meaning you have a physical presence there, you’ll have to register for tax, collect it and remit it. If you don’t, you’re exempt from charging sales tax. However, if you have a supplier in a certain state, some states will require you to charge sales tax for the customers residing there.
Key takeaways on bookkeeping and accounting for dropshipping
Dropshipping has had a major boom in the past few years with more and more people turning to the e-commerce model as a source of revenue. One of the major advantages has been the low barrier to entry. Though managing the accounting might sound complex, there are now a range of tools that help you to avoid the common e-commerce accounting mistakes.
Once you’ve set up your accounting software and have connected it to your e-commerce platform through an integration, much of the work is already done. However, you do need to pay close attention to areas such as managing the higher volume of invoices, overselling, and international taxes. Start doing your accounting like an e-commerce professional!