I just updated to 3.11, and added the TagAPI.

When I was testing to see if TagAPI worked, I noticed my admin lost his skin and went to the default skin for the time while he was vanished.

lets see:
Bukkit 1.2.5 r4.0
Vanish 3.11
Tagapi 1.02
OS: Ubuntu 10.04

You seem to have ignored the TagAPI description page. This is an untouchable clientside feature

Copying from the page here then...

"What it doesn't do

Currently, the name over your head is tied to your skin. This is a minecraft client issue. Rumor has it that 1.3 will make it so color codes don't affect it anymore, so that's cool. We'll see how things go.
Change entity ID. This means that someone with a modified client can still tell that it's you no matter what name you have.
Allow strings over 16 chars (including color codes!). Another minecraft limitation I can't break. "

Only thing I see is 'tied to skin', which is a bit generic sounding, aka can't make out what you mean without asking questions like this, as I don't see a exact mention of 'skin will disappear', hence me asking this question.

Anyways thanks for explaining the skin part a bit more.

Name is tied to skin. If you submit a name, it looks for the skin. If you submit a name with color characters in front of it, it looks for a skin for a name with the color char in it.