Sensitivity Labels: Labeling Documents in OneDrive severly restricts sharing with external users

Try workarounds below:

1.     Use Unlabeled Documents for External Sharing
If the document truly doesn’t need classification, consider removing the label entirely before sharing externally. This avoids triggering tenant resolution.
2.     Create a Label Policy That Excludes External Sharing Scenarios
You can configure label policies to not apply labels by default to OneDrive content or to exclude external users from label enforcement. This requires careful scoping in Purview.
3.     Use DLP Policies Instead of Labels for External Sharing Control
If your goal is to prevent sensitive data leaks, Microsoft recommends using Data Loss Prevention (DLP) policies for SharePoint and OneDrive instead of relying solely on sensitivity labels.
4.     Guest Access as a Standard Practice
While it’s more work, onboarding external users as guests (via Azure AD B2B) is the most reliable way to ensure label resolution and document access. You can streamline this with automated guest invitation flows.