As more foreign companies expand to the U.S., it is essential for them to have a firm understanding of sales and use taxes: two of the country’s most important taxes. In general, many foreign companies only focus on value added tax “VAT” because of the parent company’s culture and taxation system. However, the U.S. uses a sales and use tax system instead of a VAT system.
The Difference Between VAT and Sales & Use Tax
While VAT is generally applied at each step of the supply chain, sales and use tax is assessed to the end user. This means there are various exemptions throughout the process of getting a good or service to the ultimate consumer. Additionally, each state has its own rules to determine:
- Who they consider to be the ultimate consumer
- Who is subject to collecting the tax
- What the tax rate will be
- What transactions are subject to tax
- What forms need to be filed with the state taxing authority
This makes it confusing for many businesses to comply with various rules.
For example, a California manufacturer that purchases manufacturing equipment for use in their business is subject to a reduced sales tax rate on the purchase of the equipment in California. However, if the manufacturing operation was located in Michigan, the purchase of the same equipment would be exempt from Michigan sales tax because the State of Michigan has a sales tax exemption for property used in industrial processing.
Economic Nexus Standard
The rules related to which businesses are responsible for collecting sales tax have changed dramatically in the last few years. Through court cases, states have been successful in adopting an economic nexus standard for determining seller’s responsibility for collecting sales tax from their customers that does not require any physical presence in the state. This means that a foreign parent company shipping products to their U.S. subsidiary is likely to meet the nexus standard in most states.
If a remote seller has sales to Michigan customers that exceed $100,000 or more than 200 transactions with Michigan purchasers, the seller is responsible for collecting 6% Michigan sales tax. If the U.S. subsidiary is using the products in the manufacturing process, reselling the products, or using the products in some other exempt manner under Michigan law, the subsidiary can claim a Michigan sales tax exemption. To claim a sales tax exemption, the purchaser must provide the appropriate exemption form to its parent company. The parent company is required to maintain the exemption form in the event of a sales tax audit to prove they were not required to collect sales tax.
Michigan Sales & Use Tax Reporting
In the U.S., filing a tax return is not only for paying taxes, but also for information reporting. Again, using Michigan as an example, Form 5081 Part 1 is used to report the sales tax, and Part 2 is used to report use tax when applicable. Some manufacturing or wholesale companies may not be required to remit taxes based on the Form 5081 calculation, but they are still required to file the Michigan Form 5081 to report to the state of Michigan that their sales are not subject to the sales tax, and that sales taxes are not being collected. Companies doing business in Michigan should also be aware that the statute of limitations for filing of Form 5081 is four years from either the date set for the filing of the required tax return or the date the return was filed; whichever is later.
If a company doing business in Michigan has a customer (buyer) who is exempt from the Michigan sales tax, the company should collect Michigan Form 3372, the sales tax exemption certificate, from the buyer. Every Michigan Form 3372 should be completed, signed, and dated by the buyer. On the sales tax exemption certificate, the buyer will indicate their basis for the exemption, and the company (seller) should review the sales tax exemption certificate to determine whether they are required to collect sales tax. The seller should then save the certificate for a minimum of four years. The buyer may also provide a uniform sales tax exemption certificate approved by the multistate tax commission. This certificate has the same content as Michigan Form 3372, but it is in a different format to simplify the multistate issues.
The sales and use tax is an easy-to-miss area for companies with foreign backgrounds because of different cultures and taxation systems. Though these taxes are easy to miss, it is still very important for companies to file the required returns and pay the applicable taxes in a timely manner.
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For more information about sales and use taxes and how they impact foreign companies expanding to the U.S., please reach out today. We look forward to speaking with you soon.
