If you’re a foreign based company that uses the services of a U.S. toll manufacturer, this blog post is for you! You see, a foreign company may be subject to the U.S. sales tax laws if it engages a U.S. based toll manufacturer.
What Is Toll Manufacturing?
But before I continue, I realize some of my readers may not know what toll manufacturing is - so here’s a simple explanation. Toll manufacturing, which is also referred to as toll processing, tolling, toll conversion or custom manufacturing, describes an arrangement where a manufacturer – generally one with specialized equipment and process expertise - fully or partially processes raw materials or semi-finished goods for a customer for a fee. In a typical toll manufacturing scenario, the company that engages the toll manufacturer retains ownership of the raw material inventory or semi-finished goods that the manufacturer works on.
A good example of a toll manufacturing scenario that some of my U.S. readers might be familiar with is the Mexican Maquiladora plant. If you’re familiar with the Maquiladora concept, you probably know that in this arrangement, U.S. companies ship raw materials and components to third-party or corporate owned Mexican-based Maquiladora plants, which in turn process the raw materials and components into semi-finished goods and export them back to the United States.
And while many U.S. readers may be more familiar with the idea of U.S. based companies using toll-manufacturers in other countries, such as Mexico or China, the opposite also occurs. Many foreign companies also ship raw materials and components to U.S. based toll manufacturers. As a matter of fact, if you Google “toll manufacturing in the United States” you'll find there are indeed many U.S. based toll manufacturing companies, many that offer their services to foreign companies.
U. S. Toll Manufacturers May Create Sales Tax Nexus for Foreign Companies
But this is a post about foreign companies that utilize the services of a U. S. toll manufacturer and whether a foreign company may be subject to a state’s sales tax rules as a result.
So, the first thing to keep in mind is that the various States within the U.S. are not a “party to” bi-lateral tax treaties. So even if a foreign company is not subject to U.S. Federal income tax, the foreign company could very well be subject to the various U.S. sales tax laws. (If you’d like to read more about this, see my prior blog post, “Tax Treaties and U.S. Sales Tax Nexus: What Foreign Sellers Need to Know”)
Here’s another thing to keep in mind, having inventory in a state or using the services of a third-party that is performing services for, or acting as an agent of, another company could subject that company to a State’s sales tax laws. Notice, I say could. This is because the rules of the various States within the U.S. are not always the same. Still, in a typical toll manufacturing arrangement, the raw materials and components being processed are still legally owned by the company that engages the toll manufacturer. That is, the toll manufacturer normally does not take ownership of the raw materials or components. And owning inventory in a state is an activity that many states will say subjects an out-of-state (or foreign) company to its laws.
Foreign companies that utilize the services of a U.S. toll manufacturer should know that a foreign company may be subject to the sales tax laws of the state where the manufacturer is located. (And could be subject to other types of state taxes too, such as a state's corporate income or franchise tax.) Foreign companies should also be aware that the more extensive the activities that the toll manufacturer performs the more likely a state will say a foreign company is subject to that State's sales tax laws. (For instance, if the toll manufacturer distributes the processed goods to the foreign company's U.S. customers or educates or trains the U.S. customers, the more likely a state will say that the foreign company has sales tax nexus to its state.) This is indeed a complex topic, so if you have questions or comments, please feel free to post them below.
Other recent “U.S. Sales Tax for Foreign Sellers” posts by Sylvia F. Dion, CPA:
- Wayfair & Economic Nexus for Foreign Sellers: Key Sales Tax Questions
- U.S. Sales Taxes: Filing Frequency for International Sellers
- 7 Key Points Foreign Sellers Should Know about U.S. State Taxes
- Do International Sellers Registering for Sales Tax Need a U.S. EIN?
- International Sellers and U.S. Sales Tax Registration: 3 Key Issues