U.S. Tax Responsibilities for Non-Resident E-Commerce Sellers
When you sell on a U.S. marketplace as a foreign entity or as a U.S. entity, it is essential to understand your U.S. responsibilities.
U.S. Tax Levels
- There are two levels of tax: federal and state taxes. To better understand any applicable U.S. income tax laws, you must first understand the different U.S. tax system levels.
- You will want to understand how your U.S. earned income should be taxed. To do that, you will have to determine the degree of your company's involvement in the U.S.
Foreign Entity Selling into the U.S. or a U.S. LLC Owned by a Foreign Entity
Your U.S. tax responsibilities will come into play, whether you are a foreign company doing business in the U.S. or a single-member LLC in the U.S. owned by your foreign company. Keep in mind; Amazon will not allow you to change your legal business to a U.S. company unless you create a U.S. taxpayer.
There are three levels to consider. This is a complex subject that requires consulting with a tax professional(s): Your company has no connections to any U.S. suppliers, and orders are fulfilled by you outside the U.S., with no dependent agents, assets, or offices in the U.S.
Your company uses U.S. suppliers or logistics (Fulfilled by Amazon- FBA) but has no U.S. dependent agents. You may be deemed "engaged in a U.S. trade or business" and therefore have generated "effectively connected income." Most non-residents do not have U.S. dependent agents, but they also mistakenly believe they are off the hook for U.S. taxes because they have no dependent agents. The important point is if you do NOT have dependent agents, that does NOT mean it is not possible to create a US trade or business and generate effectively connected income (ECI). There is no such rule. This means it is possible to have NO dependent agents in the U.S. and STILL create a U.S. trade or business. But there is more involved in the overall analysis.
Your company has an office or dependent agents (employees) in the U.S. or assets, and you regularly conduct business. This falls under to be deemed "effectively connected income" and creates a permanent establishment in the U.S.
Engaged in a U.S. Trade or Business
If you are in the first situation, where your company is selling on Amazon.com but shipping products outside the U.S. into the U.S. with no employees, which is NOT engaged in a U.S. trade or business, a U.S. return may still be required.
If you form a U.S. single-member LLC in this situation, you are required to submit form 5472, along with pro-forma form 1120. No U.S. taxes are paid at the federal level. State sales and income tax rules would come into play as needed.
Keep in mind, on Amazon, a single-member LLC will not change the legal entity on your seller account. Amazon sellers would be creating an LLC taxed as a partnership or corporation, which does file a full U.S. tax return.
If you are engaged in a U.S. trade or business, more returns come into play. The ownership of your U.S. entity will dedicate what other U.S. returns are required. For example, if a foreign entity is an owner in most cases, a 1120F protective return along with the treaty position 8833 is required.
The IRS has separately cracked down on foreign entities doing business in the U.S. who are engaged in a U.S. trade or business and don’t file forms 1120F and 8833 for the treaty position. Learn more here about the harsh IRS penalties.
Even with a tax treaty and if you are not sure if you have “effectively connected income,” filing a “protective U.S. tax return,” one that files an information return in the U.S. and all the taxes are paid in your home country, is recommended.
A filed U.S. protective return will protect you in the future if the IRS challenges your position in the U.S.
Selling on Amazon.com FBA or Walmart
In the end, most foreign sellers selling on Amazon.com should consider filing a U.S. federal protective return due to the tax treaties and lack of a permanent establishment may be paying federal income taxes on all profits back in their home country. Walmart sellers will need to file a W-9 as a U.S. taxpayer, which means filing a U.S. LLC taxed as a corporation or partnership or a U.S. corporation. In this situation with a U.S. taxpayer, there will be U.S. taxes paid on U.S. profits, and depending on your treaty, benefits will determine the amount of tax paid in your country on the U.S. profits. Walmart has several other requirements, including extensive e-commerce experience is required.
Filing a Protective Return
In the end, most foreign sellers filing a U.S. federal protective return due to the tax treaties and lack of a permanent establishment may be paying federal income taxes on all profits back in their home country.
If you open a U.S. company, depending upon how taxed, the factors above will determine if any U.S. tax is due or not and which U.S. tax return is to be filed.
No U.S. Tax Treaty? Your U.S. Income May be Taxable
If you are selling on Amazon.com via FBA from a country that does NOT have a U.S. tax treaty and, due to the FBA stock, are considered to be “engaged in a U.S. trade or business,” your foreign entity would file a U.S. tax return and pay U.S. taxes on profits in the equivalent entity.
This foreign U.S. taxpayer would receive full credit in their home country for the taxes paid in the U.S.
Go to this link to see the IRS list of countries with a tax treaty with the U.S.
Creating a U.S. Permanent Establishment
Most foreign Amazon FBA sellers will not fall into this category. But Walmart sellers will because they need to create a U.S. taxpayer by forming a U.S. corporation or partnership. If your company did fall into this category, you would pay U.S. taxes and look to receive a credit on the taxes paid in your home country.
In this situation, form 8833 is typically unnecessary since the tax treaty will no longer protect your income with your country (assuming there is one).*
To be deemed to have a permanent establishment in the U.S., you will generally need to be physically present in the country. For example,
- Fixed place of business (office, employees, factory)
- Presence of dependent agents who have the authority to execute contracts (e.g., a sales agent who travels to the U.S. frequently to conclude contracts).
- Ownership of U.S. located assets, equipment, or real estate
When a foreign seller establishes a U.S. entity required to pay taxes, that also creates a permanent establishment.
The U.S. entity that is most common is either a U.S. corporation or an LLC taxed as a corporation. An LLC taxed as a corporation requires form 8832 to be filed separately with the IRS.
In both situations, the U.S. entity would file form 1120 and pay taxes on profits at a flat 21%.** In this situation, it is typical for a U.S. company to be owned by a foreign company.
Often, the foreign seller’s goal is to lower the U.S. profits and pay less tax while moving the profits to the foreign entity.
The challenge with these transactions is you must be aware of the price transfer rules, which measure these types of transactions. Click here to learn more. These transactions must be arm’s length, and many times they are not.
Besides, your company will be subject to the state filing requirements in the state where you are deemed to have a Permanent Establishment (P.E.).
In order to create a “U.S. Taxpayer.” for Amazon (optional) and required for Walmart, an LLC taxed as a partnership is a flow-through and popular option. The withholding tax liability of the partnership for its tax year is reported on Form 8804. A Form 8805 for each foreign partner must be attached to Form 8804, whether or not any withholding tax was paid.
File Form 8804 by the 15th day of the 4th month after the close of the partnership’s tax year. However, a partnership made up of all nonresident alien partners has until the 15th day of the 6th month after the close of the partnership’s tax year to file. File Forms 8804 and 8805 separately from Form 1065. If a due date falls on a Saturday, Sunday, or legal holiday, file by the next business day.
If you need more time to file Form 8804, you may file Form 7004 to request an extension.
Payment of the tax is done using another form. The partnership must use Form 8813, Partnership Withholding Tax Payment Voucher (Section 1446), to pay quarterly installments of withholding tax to the IRS. A Form 8813 must accompany each payment of tax made during the partnership’s tax year.
It is important to note that the partnership must pay the withholding tax regardless of the amount of the foreign partners’ ultimate U.S. tax liability (which is often dependent on other taxable income) and regardless of whether or not the partnership makes any cash distributions during its tax year to the partners.
Often, the foreign seller’s goal is to lower the U.S. profits and pay less tax while moving the profits to the foreign entity.
The challenge with these transactions is you must be aware of the price transfer rules, which measure these types of transactions. Click here to learn more. These transactions must be arm’s length, and many times they are not.
Besides, your company will be subject to the state filing requirements in the state where you are deemed to have a Permanent Establishment (P.E.).
When a foreign seller establishes a U.S. entity required to pay taxes, that also creates a permanent establishment.
The U.S. entity that is most common is either a U.S. corporation or an LLC taxed as a corporation. An LLC taxed as a corporation requires form 8832 to be filed separately with the IRS.
In both situations, the U.S. entity would file form 1120 and pay taxes on profits at a flat 21%.** In this situation, it is typical for a U.S. company to be owned by a foreign company.
Often, the foreign seller’s goal is to lower the U.S. profits and pay less tax while moving the profits to the foreign entity.
The challenge with these transactions is you must be aware of the price transfer rules, which measure these types of transactions. Click here to learn more. These transactions must be arm’s length, and many times they are not.
Besides, your company will be subject to the state filing requirements in the state where you are deemed to have a Permanent Establishment (P.E.).
Hybrid Entities
It is prevalent for a foreign e-commerce seller to form a U.S. single-member LLC, disregarded, owned by a foreign corporation. When a U.S. tax treaty is involved, and there’s no permanent establishment in the U.S., this can be a simple situation where profits flow to the foreign entity and taxes are paid at that country’s tax rate.
Sometimes, the foreign country will treat the money received in different terms, which creates a hybrid entity.
A “hybrid entity,” from the U.S. perspective, is an entity that is fiscally transparent for U.S. tax purposes but not transparent for foreign tax purposes, such as a U.S. LLC that is treated as a corporation in other countries. In this situation, treaty benefits do not apply. The solution in this situation would be to form a U.S. LLC taxed as a partnership, for tax purposes, a partnership will be either ignored or treated as a flow-through. A reverse hybrid entity would be just the opposite—treated as a flow-through entity in a foreign country and a corporation in the U.S.
In the end, your accountant from your home country must be onboard regarding how the money received from a U.S. entity will be taxed in your home country.
Branch Profits
The branch profits tax falls under Sec. 884(a), enacted as part of the Tax Reform Act of 1986, P.L. 99-514. This tax law will impose a branch profits tax on the effectively connected income (ECI) of a U.S. branch of a foreign corporation when those earnings are repatriated or deemed repatriated to the branch’s home office.
What does this mean? Branch profits tax will come into play when a foreign corporation has a permanent establishment as defined by the tax treaty. A permanent establishment in the U.S. means there is a fixed place of business. This would come into play when a foreign corporation rents an office or hires a dependent agent, which could be a salesperson or virtual assistant in the U.S. The foreign corporation would have control over that person’s schedule, which makes the agent dependent. Most foreign e-commerce sellers selling on Amazon or Walmart will NOT have a permanent establishment in the U.S. A foreign corporation owned by a U.S. corporation is not a branch profits situation but a dividends withholdings tax that will come into play when and if profits are distributed from the U.S. corporation to the foreign corporation.
What is the branch profits tax rate?
Also, unless reduced or exempted by an applicable tax treaty, a 30% branch profits tax is imposed on after-tax effectively connected earnings and profits of a foreign corporation’s U.S. trade or business that is deemed to be distributed by the branch out of the United States.
Reduction with a U.S. Tax Treaty
The good news is that the U.S. branch profits tax of 30% can be reduced to 5% with a tax treaty to your country.
Here is a resource that will help better understand how to calculate potential branch profits tax.
Hiring a U.S. Tax Attorney to Support Your Position
In a situation where you are from a country with no tax treaty with the U.S., such as Hong Kong, if you are deemed to be engaged in a U.S. trade or business, your company will pay U.S. taxes and look to receive credit as if you were a permanent establishment.
Of course, this outcome, even with a credit in your home country, is not ideal. What if you held the position that you are not engaged in a U.S. trade or business, based upon the grounds your Amazon FBA business activity is not considerable, continuous, and regular activity in the U.S.?
This is possible if you are willing to hire the right tax attorney and pay the fees to defend your position correctly.
And if challenged by the IRS, the tax attorney with vast experience with the IRS would defend you. This is an investment in the thousands and may be worthwhile if your profits are high enough and there is no tax treaty with your country.
State Income Taxes
State income taxes are more involved, similar to sales tax because U.S. tax treaties do not cover state taxes.
Several factors come into play, and only a few states may require an additional filing beyond sales tax. For example, in Washington, a Business and Occupation tax (B & O tax) return is required to be filed, which has a tax rate of 0.471% (.00471) of your gross receipts. This is not collected and paid by the marketplace, i.e., Amazon.
Illinois has a retailer’s occupancy tax (ROT) for intrastate sales and is not paid by the marketplace. This does not require an additional tax return but does require the marketplace seller to pay some taxes out of their pocket. The ROT tax ranges from 2-4% on all intrastate sales into the state.
Both California and Texas have a franchise tax fee that is required, even if operating at a loss. Florida is a state where it is recommended for C corporations to foreign qualify to file a state corporate income tax return if they are collecting and remitting sales tax in the state.
If you have sales tax nexus in most states, that does not automatically mean you also have income tax nexus. A three-factor test is applied; sales income, assets owned, and payroll.
Sales Tax Compliance
Today, most sellers have heard that Amazon is collecting sales tax in “most all the states,” so there is no need to worry about U.S. sales tax or registrations. That is not true.
Since the 2018 U.S. Supreme Court Decision Wayfair vs. South Dakota, 45 states have approved an economic nexus standard today.
Soon after, states started passing legislation to enact marketplace nexus, which means the marketplace seller (i.e., Amazon, Walmart, eBay) is responsible for collecting and remitting sales tax for all sellers.
This is excellent news because sales tax registration is not required in most of those states.
One state still requires you to register because you may have FBA stock there, and Amazon is not collecting in Missouri (which will change in January 2023). Some states require you to register, even though Amazon collects and remits.
Below is a current map of the U.S. showing which states require sales tax registration for selling on any marketplace facilitator, including Amazon.
If you start selling on a non-marketplace, such as Shopify, or your website, that is where you may trigger economic nexus, and registration would be required.
If you are behind on sales tax because you have been selling for 2-3 years, a sales tax nexus study is recommended to determine when you first had liability and your total exposure.
In the end, the good news is that for new sellers looking to expand to U.S. markets, sales tax is a lot easier for marketplace sellers than it was two years ago.
Other income is subject to U.S. tax, EVEN if NOT connected to a trade or business
Fixed, determinable, annual, or periodic (“FDAP”) income is subject to U.S. federal income tax (even if not connected to a U.S. trade or business). This refers to an interest, dividends, rents, royalties, and certain commissions.
In general, FDAP income is subject to 30 percent U.S. withholding at source on a gross basis.
Nonresident Aliens (NRA) are subject to U.S. taxes only on their U.S. SOURCE passive income (dividends, rents) that is effectively connected with a trade or business conduct. Effectively connected income includes compensation for services (employment or self-employment) performed in the United States and pension distributions related to U.S. services.
Nonresident aliens with effectively connected income, such as wages, must submit a Form 1040NR.
Suppose the taxpayer’s only income is wages that do not exceed the personal exemption amount. In that case, no tax return is required unless a tax-treaty exemption from withholding was claimed on the income.
Also, nonresident aliens whose only income is passive U.S.-source income on which the correct amount was withheld (including at a reduced tax treaty rate) have no U.S. tax return filing obligation, provided the income and withholding taxes are reported on a Form 1042-S by the payer.
Form 1040NR and 1040NR-EZ (collectively Form 1040NR(-E.Z.)) are due June 15 unless the taxpayer has wages subject to federal income tax withholding, in which case the return is due April 15.
1040NR is NOT required if you file form 1042-S.
Tax Professionals Required
When you work with NCP, not only do we provide training before you form your U.S. entity, as part of our new client process, we will provide an introduction to the right tax professionals you will need. Their fees are separate, and the good news is we know they will be able to help.
* Be sure to check with your tax preparer on how they plan to file your U.S. tax returns. If you need a recommendation and are a client, let us know.
** The current U.S. corporate income tax rate is 21%.
Legal Disclaimer: NCP and Sales Tax System does not provide tax, legal, or accounting advice. This website has been prepared for informational purposes and is not intended to provide, and should not be relied on for, tax, legal, or accounting advice. You should consult your tax, legal, and accounting advisors before engaging in any transaction.