What Your Manufacturing Clients Must Know About Sales and Use Tax

There’s a saying about not fixing something if it’s not broken, and while that adage may work for your late model Chevy, it’s not quite the case with sales and use tax compliance processes for manufacturers. Your manufacturing clients may have a sales and use tax approach in place and it may be working right now, but it’s important to evaluate its effectiveness in maintaining accurate and efficient compliance as their businesses grow and evolve.

Sovos recently conducted a survey with the Manufacturers Alliance Foundation in an attempt to better understand sales and use tax priorities for manufacturers and how industry leaders are best adapting to evolving requirements and changing business practices. Improving efficiency in sales and use tax compliance was cited by 64% of respondents as their top priority. Likewise, nearly two-thirds of those surveyed said reducing manual effort in their process would be a business-critical objective for next year.

Sales and use tax requirements are only going to continue to expand for manufacturers, especially with many opening business-to-consumer (B2C) eCommerce channels and coming face to face with sales tax compliance requirements under economic nexus standards. To better help your clients, it’s important to know some of the sales tax challenges that manufacturers face and what can be done to stay compliant.

The nitty, gritty details

For manufacturers, sales tax compliance presents challenges on both the AP and AR side of things. On the buy side, manufacturers need to be critically concerned that their vendors are charging them the right tax based on where and how the item being purchased will be utilized. Across the country, there is an incredibly complex patchwork of manufacturing-specific sales tax rules that apply exemptions or reduced rates to certain types of items when used in certain parts of the manufacturing process. Unfortunately, no two states have exactly the same rules. Some critical factors manufacturers must consider are:

• Is the item used exclusively, predominantly or partially in the manufacturing process?
• Is the item used in a new, expanding or existing manufacturing facility?
• What is the item’s useful life?
• Is the item a piece of machinery, equipment, repair/replacement part, ingredient or component, or a tool/supply?
• Where in the manufacturing process is the item being used: assembly, quality assurance, pollution control, research and development, or conveyance?

Manufacturers should be certain they are providing appropriate exemption certificates and that their vendors are applying those certificates properly at the time of sale. When dealing with large and expensive machinery, a single mistake can lead to a massive overpayment or underpayment of tax and you simply cannot trust your suppliers to be accurate all the time.

On the sale side, offering new products, expanding into new geographies, and opening new channels can all create expanded sales tax compliance complexity. As manufacturers grow and evolve, they need to be prepared to account for additional rates, rules, exemption certificate collection obligations and filing requirements.

This is where the old Chevy analogy comes back into play. Manufacturers currently employing a decentralized compliance process that is highly dependent on manual procedures are likely not well-positioned to efficiently meet their compliance obligations today. They will also definitely not be able to meet the compliance demands of tomorrow, with “tomorrow” being pretty close at hand if not already here.

Compliance is not getting any easier

In terms of measuring success, our survey respondents identified the “number of audits without adjustment” as a key performance indicator of compliance success. At the same time, 44% of manufacturers reported an increase in the number of audits during the last 12 months and they also anticipated even larger increases in the next 12-36 months. Furthermore, 59% reported that audit administration was costing them more and more to support.

Once again, this brings home the critical importance of scalability and efficiency. Even if manufacturers are successful today when measured against the key performance indicator of audits without assessment, expected increased audit volume in the very near term supports the notion of working on the following key initiatives:

• Centralizing sales tax compliance in a single “center of excellence”
• Replacing manual processes with automated procedures whenever possible
• Documenting compliance protocols so they are not lost as staff come and go
• Creating scalability through tax automation

Most importantly, advise your manufacturing clients not to stay complacent. A scheduled periodic review of your sales tax processes will go a long way in ensuring future success.

Finally, working with the right automation partner can ease the sales tax burden. To hear more about navigating sales and use tax as a manufacturer, watch our recent webinar.