The Three Tier System: What It Is And What It Is Not

Part 1 of a 10-part series examining the Three Tier System of alcohol distribution

This is the first of a 10-part series examining the Three-Tier System of alcohol distribution in the United States. It is my intent to examine the details, history, impact, politics and alternatives to this uniquely American set of alcohol laws.

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The “Three-Tier System” (TTS) identifies a very specific set of regulations that generally exist within and among a state’s larger alcohol regulatory system. For those working in the industry understanding the specific provisions of a TTS is important as they will generally govern how a concern structures its business and carries out business activities.

There are two very specific provisions that define a “Three-Tier System”:

1. The separate licensing and separate privileges of producers/importers, wholesalers, and retailers. In general, though not always, a single entity may not operate in more than one of these three tiers.

2. Producers may only sell their products to a wholesaler, while the wholesaler is the only legal source for retailers to obtain their inventory.

These provisions of a TTS specifically describe the path a wine must take in order to show up on the shelves or wine list of a state’s licensed retailers and restaurants. These provisions, however, are separate from a state’s laws concerning age limitations on alcohol purchases, tied house provisions, operating hours of retailers and restaurants, educational requirements for a licensee’s employees, the direct shipment of wine from out-of-state or in-state retailers and wineries, or most other elements of a state’s alcohol laws. A state’s TTS very specifically describes how a product must make its way to a retail setting in a state.

It’s important to note that these are not restrictions imposed by the federal government. The TTS is a creation of state governments. As a result, while each state’s alcohol laws are different, when we talk about the TTS, it is those two commonly adopted provisions listed above that are present when we say a state operates under a TTS.

It’s also important to clearly spell out the implications of a state operating under these TTS provisions. In Texas, for example, a licensed wine retailer is prohibited from purchasing a few cases of a highly regarded Pinot Noir directly from an Oregon winery. Moreover, if that Oregon winery does not sell its wines to a wholesaler licensed in Texas, then the Texas retailer looking to bring this coveted wine to its retail shelves may not do so since Texas’ TTS provisions make it illegal for the retailer to buy directly from a winery.

This can also be looked at from the producer or importer’s perspective. A small Washington State winery may have a close relationship with a couple of California restaurants and their owners. Although the Washington winery sells most of its products directly to the consumer primarily via its tasting room, it also allocates a small portion of its production for sales through restaurants. The Washington winery does not work with a distributor in California because it has no intention of selling more than a few cases to restaurants in California. However, because California requires out-of-state wineries to sell to a California wholesaler before its wines can be sold to restaurants in the state, our Washington winery may not do business with its restaurant’s contacts in California.

The primary purpose of a TTS is to create a legal and regulatory buffer between producers and retailers/restaurants. Because the penalties for a licensee violating a state alcohol law can be severe, the purpose of a state’s TTS provision is very effective in creating and maintaining a separation between producers and retailers.

While the purpose of TTS provisions is straightforward, the impact of a state enforcing
a strict set of TTS provisions is wide-ranging:

1. Because retailers may only purchase their inventory from in-state wholesalers, the retailer’s access to a diversity of products is limited by the products offered by wholesalers.

2. Producers and importers seeking to sell their products at retail in a state with a strict TTS are at the mercy of that state’s wholesalers agreeing to represent them. While most states require the use of an in-state wholesaler by producers, no state requires in-state wholesalers to represent producers and importers that desire distribution.

3. Consumers are generally limited in their selection of products from in-state retailers since the retailers themselves are restricted from offering any products not distributed by wholesalers.

4. Because all in-state retailers are required to purchase their inventory from the same in-state wholesalers, it is extraordinarily difficult for a retailer to distinguish its services and product selection from other retailers based on a unique set of product offerings.

Most states incorporate TTS provisions into their alcohol beverage laws and regulations. However, a small number of states do not a strict TTS. Yet, even when a state does allow producers/importers to sell directly to retailers and bypass the in-state wholesaler, they also impose significant restrictions on this practice.

STATES THAT DO NOT ENFORCE A STRICT THREE-TIER SYSTEM OF ALCOHOL DISTRIBUTION AND THEIR LIMITATIONS ON WINERY SALES TO RETAILERS:

California: Only in-state producers may sell directly to retailers and restaurants, while out-of-state retailers must use in-state wholesalers.

Connecticut: Only wineries producing fewer than 40,000 cases of wine annually may sell directly to retailers and restaurants

District of Columbia: All wineries and importers may sell directly to retailers and restaurants so long as no wholesaler in the District is distributing the brand

Illinois: Only wineries producing up to 10,000 cases annually may sell up to a total of 2,000 cases of wine annually to a retailer or restaurant

Maine: Wineries producing 21,000 cases or less annually may sell directly to retailers and restaurants.

Maryland: Wineries producing 11,500 cases or less annually may sell directly to retailers and restaurants.

Montana: All out-of-state wineries may sell directly to Montana retailers and restaurants but must use their own vehicles to deliver the product.

New Jersey: Out-of-state wineries producing less than 105,000 cases of wine annually may self-distribute to retailers, however, they may not use common carriers to do so.

New York: Out-of-state wineries may sell wine directly to New York retailers, but must first establish a business location within the state.

North Dakota: Wineries producing 20,000 cases or less annually may sell directly to retailers and may use either their own vehicles or common carriers to deliver the product. However, the wineries may not deliver more than 4,500 cases of wine to retailers annually.

Ohio: Wineries producing no more than 105,000 cases annually may sell directly to retailers.

Oklahoma: Wineries producing no more than 6,300 cases annually may sell directly to Oklahoma retailers, but they must use their own vehicles to deliver the product.

Oregon: In-state and out-of-state wineries may sell directly to Oregon retailers.

Tennessee: In-state and out-of-state wineries may sell up to 5 cases per day to any Tennessee retailer so long as proof of taxes paid accompanies the product during and upon delivery.

Vermont: Wineries may sell up to 2,100 cases annually to Vermont retailers, but may not sell more than 420 cases annually to any individual Vermont retailer.

Washington: In-state and out-of-state wineries may sell wine directly to Washington Retailers.

Wyoming: Wineries may sell directly to retailers, but may not do so if the Wyoming Beverage Control Division already carries the product.

Auction Houses: Some states allow licensed wine auction houses to obtain their inventory from private individuals.

The TTS of alcohol distribution is unique to the United States. It is also unique to the American commercial marketplace. No other consumer product in the United States is required by government mandate to go through a wholesaler middleman prior to arriving on a retail shelf or in a restaurant.

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This series examining the Three Tier System of alcohol distribution consists of the following parts:

1. The Three-Tier System: What It Is and what It’s Not

2. Background to the Creation of the Three-tier System

3. The Evolution of the Three-Tier System

4. The Three-Tier System, Product Diversity, and Consumer Access to Products

5. Gatekeeping and Rent-Seeking in the Three Tier System

6. The Politics of the Three-Tier System

7. The Constitution and the Three-Tier System

8. Alcohol Control and Regulation Today Around the Three Tier System

9. Alternatives to the Three-Tier System

10. Concluding Thoughts