How the IRS Taxes Foreign-Owned U.S. Entities Selling Online

Published: December 5, 2024 • Online Sales, Tax Law

Introduction

Foreign entrepreneurs and investors increasingly look to the United States as a robust market for selling physical products, especially through e-commerce platforms such as Amazon, Shopify, eBay, Etsy, and Walmart Marketplace. Leveraging the U.S. consumer base can yield significant profits, but it also brings an array of federal income tax considerations and compliance obligations—particularly for non-U.S. individuals who structure their U.S. business operations through entities like single-member LLCs or C-corporations.

The fundamental question hinges on whether profits from these sales are subject to U.S. federal income tax. In U.S. tax law terms, the issue centers on whether these foreign-owned U.S. entities are “engaged in a trade or business within the United States,” such that any income is considered “effectively connected income” (“ECI”) and is therefore taxable. In practice, deciding whether there is a taxable U.S. presence can become complicated when a foreign owner uses Amazon’s Fulfillment By Amazon (FBA) or other similar fulfillment services, stores goods in U.S. fulfillment centers, or otherwise has certain physical or economic ties to the U.S.

This article provides an in-depth analysis of the legal rules that govern how foreign-owned U.S. entities are taxed on sales derived via Amazon and other platforms. The goal is to offer a detailed resource for tax advisors, entrepreneurs, and legal practitioners, covering the key concepts of “U.S. trade or business,” “effectively connected income,” treaty-based permanent establishment, reporting obligations, and common practical scenarios.

By thoroughly examining the legal authorities, we can untangle how the U.S. Internal Revenue Code (IRC), Treasury Regulations, and relevant case law typically apply to foreign owners who sell tangible goods to U.S. customers, either with direct physical presence or minimal involvement (e.g., passive reliance on an independent fulfillment platform).

Legal Framework Overview: Key Definitions and Concepts

Before delving into the specific scenarios (e.g., storing goods abroad vs. storing goods at Amazon’s U.S. warehouses), it is helpful to outline the key concepts that underlie U.S. taxation of foreign persons:

  • Foreign Person / Nonresident Alien / Foreign Corporation: For tax purposes, a “foreign person” often includes both nonresident aliens (individuals who are neither U.S. citizens nor resident aliens under the substantial presence or green card tests) and foreign corporations (entities not organized under the laws of the United States). Many of the same rules apply to both categories in terms of “engaging in a trade or business” and “effectively connected income,” though the applicable sections in the Code differ slightly (IRC § 871(b) for individuals, § 882 for corporations).
  • U.S. Trade or Business (USTB): Whether a foreign individual or foreign corporation is “engaged in a trade or business in the United States” (often abbreviated “USTB”) is the threshold question that triggers U.S. tax on effectively connected income. The standard is highly fact-specific. Under U.S. law, a trade or business generally requires “considerable, continuous, and regular” conduct within U.S. borders. Occasional or sporadic activity typically does not constitute a USTB. However, if the foreign person retains an agent or facility in the United States that goes beyond mere ministerial tasks, the activities might rise to a USTB.
  • Effectively Connected Income (ECI): If there is a USTB, then “effectively connected income” (ECI) derived from that business is subject to U.S. federal income tax. ECI typically includes profits from inventory sales in the U.S. if there is a sufficient nexus to the U.S. operations that create those sales. Income not effectively connected (e.g., certain passive income) is generally subject to a 30% withholding rate (or lower treaty rate), but it is not taxed on a net-income basis.
  • Independent vs. Dependent Agent: Under both U.S. domestic law and U.S. tax treaties, the presence of an agent in the U.S. can create a taxable presence if that agent is “dependent” on the foreign principal and has authority to conclude contracts or otherwise acts on behalf of the foreign entity in more than a limited capacity. By contrast, purely “independent agents” acting in the ordinary course of their own business (e.g., a typical shipping or warehousing provider) usually do not create a USTB for the foreign principal.
  • Permanent Establishment (PE) Under Treaties: If the foreign owner’s country of residence has an income tax treaty with the U.S., that treaty may override or modify certain domestic rules—most significantly, by requiring a “permanent establishment” in the U.S. before the U.S. can tax the business profits of a foreign enterprise. Generally, a permanent establishment means a fixed place of business in the U.S. or a dependent agent habitually exercising authority to conclude contracts. Merely storing goods in a third-party warehouse often does not, by itself, constitute a PE under OECD-type treaties.

When analyzing foreign-owned U.S. entities (e.g., single-member LLCs or C corporations) selling through Amazon or similar platforms, the key question is typically the extent of the “on-the-ground” U.S. activity: is there a local office, staff, or ongoing, regular operational presence that the foreign owner or its agents manage? Or is the entity relying exclusively on the platform’s independent fulfillment services?

The Significance of “Effectively Connected Income” for Foreign-Owned Entities

Once a business is deemed engaged in a U.S. trade or business, the next step is to determine whether a particular category of income is “effectively connected” with that trade or business, because only ECI is subject to regular federal income tax on a net basis. In the context of selling physical products:

  • If the business is not engaged in a trade or business at all, then none of its sales income is ECI.
  • If the business is engaged in a USTB, then the income from those U.S. operations is presumably ECI.
  • Even if the entity is found to be engaged in some sort of USTB, it is important to apply the source-of-income rules. Under IRC §§ 861–865, income from the sale of personal property is generally sourced to where the seller passes title. However, if the inventory is produced in the U.S., or if significant business activities that generate the profit take place in the U.S., the IRS might consider it effectively connected.

In practice, many foreign-owned U.S. companies will try to structure their operations so that any U.S. activities are minimal and all significant tasks (development, management, etc.) occur outside the U.S. Because of the complexity, each case depends heavily on its particular facts.

Distinguishing “U.S. Trade or Business”: Primary Criteria

To further elaborate on when a foreign owner “engages in a U.S. trade or business,” one should consider the broad outlines provided by Treasury Regulations (especially Treas. Reg. § 1.864-2 and § 1.864-4) and by key cases such as Taisei Fire & Marine Ins. Co. v. Commissioner. The following factors are significant:

  1. Physical Presence
    • Does the foreign owner (or its employees) regularly spend time in the U.S. managing or conducting business?
    • Is there an office, warehouse, store, or other place of business in the U.S. that is under the direct control of the foreign owner’s entity?
  2. Use of Agents
    • Even absent a physical presence by the foreign owner, if there is a dependent agent in the U.S. performing substantial services or concluding contracts on behalf of the foreign entity, that can create a USTB.
    • An independent agent, operating in the ordinary course of its own business (for example, Amazon in a typical FBA arrangement), is usually not sufficient by itself to establish a USTB.
  3. Continuity and Regularity
    • A handful of isolated transactions might not constitute a USTB. By contrast, ongoing, high-volume U.S.-based activity likely does. However, e-commerce can involve high volume with minimal physical presence—therein lies the nuance.
  4. Control and Direction
    • The more control the foreign owner exerts over U.S.-based operations, including product warehousing, day-to-day logistics, or marketing, the greater the likelihood that a USTB is formed.
    • Passive reliance on an independent fulfillment center (where the foreign owner does not direct or supervise the warehouse’s staff) is less likely to create a USTB.

These principles, combined with the specific factual scenarios, guide the ultimate determination of whether a foreign-owned entity is engaged in a USTB.

Key Concepts for Non-U.S. Owners Choosing Entity Type

A non-U.S. entrepreneur considering how best to conduct sales in the U.S. typically chooses between:

  • Single-Member LLC (SMLLC)
    A U.S. LLC with one foreign owner is by default disregarded for U.S. tax purposes (unless it has made an election to be taxed as a corporation). In a “disregarded” scenario, the non-U.S. individual is deemed the taxpayer. If the SMLLC has no U.S. trade or business, then the foreign individual generally does not have ECI. If the SMLLC does have ECI, the foreign owner might have to file a nonresident individual tax return (Form 1040-NR) and pay taxes accordingly.
    • Form 5472: A special reporting requirement applies to foreign-owned disregarded LLCs. They must file Form 5472 with the IRS to disclose certain transactions with their foreign owner, even if no U.S. tax is due.
    • Potential Downsides: If, in fact, the activities do create ECI, the foreign owner is directly subject to U.S. federal income taxation on a net basis. There is also no “corporate shield” for corporate-level taxation—though limited liability from a legal standpoint still applies, the income flows to the foreign owner for tax.
  • U.S. C Corporation
    Alternatively, the foreign entrepreneur can form a standard C corporation, which is a separate U.S. tax reporting entity. The corporation itself files a Form 1120, pays U.S. corporate income tax on any ECI at the flat corporate rate (currently 21%), and the foreign owner might incur additional tax if profits are repatriated (e.g., via dividend withholding, typically 30% or reduced by treaty).
    • Advantages: The C corporation approach can sometimes simplify the foreign owner’s personal filings if the corporation is carefully structured to avoid ECI (or if ECI is minimal). In principle, even if the corporation is deemed engaged in a USTB, the liability for the corporate income tax does not automatically flow through to the foreign individual.
    • Form 5472: If a foreign person owns 25% or more of a U.S. corporation, that corporation must also file Form 5472 to report certain transactions with the foreign shareholder.

In either case, the dispositive question remains: does the business as structured have a USTB, thus making the associated revenue ECI? A properly structured foreign-owned U.S. entity can potentially minimize or eliminate ECI if it avoids having the requisite physical or agent-driven presence in the U.S.

Scenario A: Items Stored Outside the U.S. and Shipped to U.S. Customers

A common scenario is that the foreign owner’s U.S. entity sources or manufactures products entirely outside the United States, then ships those goods to American customers only after an order is placed. This typically means:

  • No U.S. Warehouse: The inventory is not stored in the U.S. but remains in the foreign country (or multiple foreign locations) until shipment.
  • No U.S. Office or Employees: The foreign owner conducts business from abroad, without any employees or offices in the United States.
  • Platform Arrangements: The U.S. entity might maintain a seller account on Amazon (or a similar platform) that lists products, processes payments, and arranges shipping through independent carriers or the platform’s global logistics.

Under these facts, the physical presence within the United States is practically nonexistent. The question becomes whether mere solicitation of sales via an online platform, with subsequent shipment of goods from overseas, is enough to create a USTB.

  • Physical Presence Criterion: Because the inventory stays abroad until sold, the foreign-owned U.S. entity generally lacks an in-country operational presence. The foreign owner does not maintain a local warehouse or staff.
  • Independent Agent Analysis: Amazon or other platforms here generally act as an independent agent. They are not concluding contracts in the name of the foreign owner, nor do they exclusively devote themselves to that owner’s business. They typically serve thousands of unrelated sellers, which meets the “independent” standard.
  • Title Passage and Sourcing: In many agreements, title to the goods transfers abroad or during transit, and the profit-generating activities (e.g., product creation, marketing, packaging) primarily occur abroad.

All of these factors strongly suggest that the U.S. business activity is minimal. Numerous IRS rulings and court decisions have affirmed that simply selling to U.S. customers from abroad, without having a fixed base or dependent agent in the U.S., generally does not rise to the level of a USTB.

  • Bottom Line for Scenario A: Most foreign owners operating purely with inventory stored outside the U.S. and using an independent platform or carriers face a low risk of being deemed engaged in a trade or business in the U.S. As a result, the income is not effectively connected with a U.S. trade or business, and no U.S. federal income tax is typically due.

Scenario B: Items Stored in the U.S. (Fulfillment by Amazon or Similar)

A slightly more complex scenario arises when the foreign-owned U.S. entity ships its inventory to Amazon’s fulfillment centers (commonly known as FBA), or a similar third-party logistics provider (3PL) in the U.S. From those centers, products are distributed to customers in the United States.

  1. Factual Background
    • The foreign owner still lives abroad and does not have a traditional office or employees in the U.S.
    • The foreign-owned U.S. entity sets up an FBA account, sending goods in bulk from the foreign country to Amazon’s U.S. warehouses.
    • Amazon handles all warehousing, packaging, shipping, and returns.
  2. U.S. Trade or Business Analysis
    • A crucial question is whether the mere presence of inventory in a U.S. warehouse (managed by an independent third party like Amazon) constitutes a USTB.
    • According to many interpretive authorities, if the warehouse operator is truly independent—i.e., the seller does not control the facility, does not direct Amazon’s employees, and Amazon is free to provide the same services to numerous other sellers—then Amazon is typically treated as an independent contractor.
  3. Dependent vs. Independent Agent
    • If Amazon (or the 3PL) cannot bind the foreign-owned entity to contract terms beyond the standard marketplace seller agreement, and if Amazon is not dedicated exclusively to that foreign-owned entity, it almost always falls in the “independent” category.
    • As an independent agent acting in the ordinary course of its business, Amazon’s U.S. operations generally do not pass on a USTB to the foreign entity.
  4. Consideration of Physical Presence
    • Some might argue that storing goods in the U.S. is a form of physical presence. However, under the relevant guidance (including case law like Taisei Fire & Marine), the presence of inventory in a third-party warehouse—without more—usually does not establish a trade or business.
    • The determining factor is whether the foreign owner’s involvement in the U.S. goes beyond passive storage and order fulfillment. If the foreign owner sends employees or contractors to manage inventory, negotiate with customers on the ground in the U.S., or direct the operations at the warehouse, that might cross the threshold into a USTB.
  5. Conclusion for Standard FBA Cases
    • In most standard FBA arrangements where the foreign owner is hands-off, simply shipping goods to the Amazon warehouse and letting Amazon handle fulfillment, it is generally concluded that the foreign owner is not engaged in a USTB. Accordingly, income from sales would not be effectively connected and thus would not be subject to U.S. federal income tax (apart from any withholding on any interest, dividends, or royalties that might occur from other sources).

Exceptions and Complications: When Does FBA Trigger USTB?

While standard FBA usage alone is often insufficient for USTB status, certain fact patterns may alter that conclusion:

  • Hiring Local Staff: If the foreign owner employs individuals in the United States to handle marketing, manage operations, or oversee warehousing and distribution, that on-the-ground presence can create a USTB.
  • Exerting Control Over the Fulfillment Center: If the contract with Amazon or the 3PL is so exclusive and integrated that the foreign owner effectively controls the facility’s operations, or if the employees at the center are truly acting as the foreign owner’s agents rather than for multiple clients, it might be recharacterized as a dependent agent relationship.
  • Permanent Showrooms or Offices: Some sellers might operate a small office or showroom in the U.S. to facilitate product promotion. This presence can easily surpass the “merely storing goods in a warehouse” threshold.

These exceptions highlight how subtle changes in control, direction, or local activity can change the tax outcome. A facts-and-circumstances inquiry is always needed to confirm whether the line into USTB has been crossed.

Potential Tax Treaties and the “Permanent Establishment” Standard

Beyond the U.S. domestic rules, a non-U.S. resident’s exposure to U.S. taxation can also be governed by an applicable tax treaty between the foreign individual’s home country and the U.S. Most modern U.S. treaties follow the OECD Model Treaty approach, requiring the foreign enterprise to have a “permanent establishment” in the U.S. before the U.S. can tax business profits.

  • Permanent Establishment (PE) Defined: Typically, a PE is a “fixed place of business through which the business of the enterprise is wholly or partly carried on.” Examples include an office, a branch, a factory, or a dependent agent authorized to conclude contracts.
  • Warehouse Exception: Under Article 5(4) of many OECD-style treaties, maintaining a warehouse or facility purely for the purpose of storage, display, or delivery of goods does not give rise to a PE.
  • Dependent Agent PE: A dependent agent who habitually concludes contracts on behalf of the enterprise can trigger a PE even without a fixed physical location. In an FBA arrangement, Amazon typically does not have authority to negotiate custom contracts or deviate from standard marketplace terms, so it is generally not a dependent agent.
  • Treaty Override of U.S. Domestic Law: If a treaty applies, and the activities do not constitute a PE, then the U.S. cannot tax the business profits even if U.S. domestic rules might suggest a USTB. Treaties usually favor the taxpayer by imposing a higher threshold (i.e., PE) for taxing business profits.

Consequently, for sellers from treaty countries, the availability of that treaty can provide extra protection against the risk of U.S. income taxation. For sellers from non-treaty countries, U.S. domestic tax rules apply without the added limitation of a PE requirement.

Common Scenarios for Various Client Types

  1. European Resident with a Disregarded U.S. LLC
    • Sells small specialty items on Amazon, shipping from Europe upon each order.
    • Because the goods are stored abroad, no U.S. trade or business likely arises. If the LLC is wholly owned by the foreign individual, that individual must still keep track of the LLC’s existence for U.S. reporting. If that person is in a treaty country, the result is even clearer.
    • Key compliance: The LLC must still file Form 5472 annually to report the foreign ownership, though no income tax return may be due if there is no ECI.
  2. China-Based Manufacturer with a U.S. C Corporation
    • Imports a large volume of products into Amazon warehouses. The owner does not visit the U.S., does not employ local staff, and relies entirely on FBA for distribution.
    • Under standard FBA, it is unlikely that the U.S. entity is engaged in a USTB beyond the “warehouse exception.” The corporation might therefore have minimal or no ECI, resulting in zero or negligible corporate income tax. Nonetheless, the corporation must file a Form 1120, potentially reporting zero ECI if the arrangement is properly maintained.
    • Important to ensure the arrangement with Amazon does not morph into a dependent-agent relationship.
  3. Canadian E-Commerce Entrepreneur with a U.S. Single-Member LLC
    • Has items manufactured in China and dropships them directly to U.S. customers; occasionally uses an Amazon warehouse in the U.S. but visits the U.S. regularly to inspect goods and meet with potential marketing partners.
    • The repeated visits to the U.S. for business meetings could raise an argument that the foreign owner is engaging in business activities on U.S. soil. Although short visits might not be determinative, frequent or extended stays could indicate a “continuous and regular” presence. However, this must be balanced against the owner’s role: Are they simply meeting with marketing agencies that operate independently, or are they directing the entire chain of operations from the U.S.?
    • Because Canada has a tax treaty with the U.S., analyzing whether there is a “permanent establishment” is essential. Occasional visits alone are generally insufficient, but if the owner rents office space or hires employees, that might cross the threshold.
  4. UK Entrepreneur with a U.S. LLC, Employing a U.S. Marketing Staff
    • Even if the items are stored outside the U.S., employing U.S.-based personnel (especially in marketing, contract negotiations, customer service, or fulfillment management) can strongly suggest a USTB. If the employees help run key elements of the business from within the U.S., that is more likely to yield effectively connected income.

Additional Considerations: Sales Tax, State Income Taxes, and Other U.S. Compliance

While this article primarily focuses on U.S. federal income tax obligations, it is important to note there may be other tax and regulatory considerations:

  • State Income Tax Nexus: Even if the federal government deems the foreign owner not engaged in a U.S. trade or business, certain states (e.g., California, Texas) might apply different nexus standards for state income tax. Each state has its own rules, and storing goods in a state’s warehouse (like an Amazon facility) can sometimes trigger nexus for that state’s taxes.
  • Sales Tax / Use Tax Obligations: In the wake of the Supreme Court decision in South Dakota v. Wayfair (2018), states are increasingly requiring remote sellers (including foreign entities) to collect and remit sales tax if their sales exceed certain thresholds. Amazon’s FBA might handle sales tax on behalf of the seller, depending on marketplace facilitator laws, but the ultimate responsibility can still rest with the seller, so it is essential to confirm compliance.
  • Customs Duties and Tariffs: Importing goods into the U.S. for sale triggers potential customs duties. The foreign owner’s U.S. entity may need to be an Importer of Record, comply with Customs and Border Protection (CBP) regulations, and pay any relevant tariffs.

Compliance and Reporting Requirements

Even if the foreign-owned U.S. entity has little or no taxable income, certain filings can still be required:

  • Form 1120 (U.S. Corporation Income Tax Return): Any domestic C corporation must file this annually, whether or not it has net income. If no ECI exists, the return might simply show zero tax owed, but the obligation to file typically remains.
  • Form 5472 (Information Return of a 25% Foreign-Owned U.S. Corporation or Foreign-Owned Disregarded Entity):
    • A foreign individual who directly or indirectly owns 25% or more of a U.S. corporation triggers the Form 5472 filing requirement.
    • A single-member LLC with a foreign owner also must file Form 5472, even if it is a disregarded entity and has no ECI. The penalty for failure to file is $25,000 per year.
  • Form 1040-NR (U.S. Nonresident Alien Income Tax Return): In the event that a foreign individual is allocated effectively connected income from a disregarded LLC, that individual typically files Form 1040-NR.
  • Form 8832 or 2553 (Entity Classification Elections): If the foreign owner wants the LLC to be treated as a corporation for U.S. tax purposes, an election can be filed with the IRS. This is often used by foreign owners seeking the corporate form for liability or tax planning reasons.
  • State-Level Registration and Tax Returns: Depending on the states where the entity may have nexus, it might need to register as a foreign entity, obtain sales tax permits, and file state income tax returns or franchise tax reports.
  • Annual Registered Agent and Other Corporate Formalities: The U.S. entity must generally maintain a registered agent in the state of formation, file annual reports, and comply with corporate or LLC governance requirements.

Structuring Choices and Tax Planning Implications

Foreign sellers often consider the pros and cons of forming a U.S. LLC (disregarded or otherwise) versus a U.S. C corporation:

  • Single-Member LLC (Disregarded)
    • Advantages: Simplicity and flow-through tax treatment (if that is desired), limited liability protection, relatively straightforward entity to form.
    • Disadvantages: If ECI arises, the individual foreign owner must file a nonresident tax return. Also, additional reporting (Form 5472) can still be required. In many jurisdictions, the LLC’s disregard status means the foreign owner is the one “doing business” for tax.
  • U.S. C Corporation
    • Advantages: The foreign owner is insulated from direct exposure to U.S. tax filing on personal returns if properly structured; the corporation itself is the taxpayer.
    • Disadvantages: Potential “double taxation” if the corporation eventually distributes dividends, which can be subject to up to a 30% withholding tax (or reduced by treaty). The corporation must comply with corporate formalities and file Form 1120 regardless of profitability.

Moreover, if a treaty is in play and the foreign owner can avoid having a “permanent establishment” in the U.S., structuring might be simpler. Those from non-treaty jurisdictions should take extra care to avoid inadvertently creating a USTB.

Examples of How Facts Can Shift Tax Outcomes

  1. Minimal Touch, Amazon-Only Sales
    • Foreign-based manager, no U.S. employees, all sales made through an FBA arrangement or direct drop-shipping from abroad.
    • Typically does not create ECI.
  2. Partial U.S. Operations
    • Foreign-based manager with occasional travel to the U.S. to hold meetings, minimal local staff performing only ancillary services.
    • A borderline situation—some might argue the presence of local staff indicates a USTB if they do anything beyond clerical or incidental tasks. The detail of their activities matters greatly.
  3. Full-Fledged U.S. Operations
    • A warehouse leased directly by the foreign-owned entity, marketing staff in the U.S., possible involvement in trade shows, local contract negotiations.
    • Highly likely to be engaged in a USTB. Income is effectively connected, subject to U.S. tax at either the corporate or individual rate, depending on the entity classification.

How the IRS Approaches E-Commerce Fulfillment

The IRS has not published a comprehensive ruling that specifically addresses Amazon FBA for non-U.S. owners, but it has provided numerous rulings and guidance over the years regarding dependent versus independent agents, warehousing, and what constitutes a USTB. In general:

  • If the platform or logistics provider is independent, the foreign principal typically does not face U.S. tax on business profits.
  • If the platform or provider is dependent, or if the foreign owner’s involvement is extensive, that likely creates a USTB.

The storage of inventory alone—even on U.S. soil—does not automatically trigger a USTB if the arrangement is akin to a mere consignment or third-party logistic service. However, if the foreign entity exerts real control over U.S. operations, or if the platform is effectively an extension of the foreign enterprise, the outcome differs.

Transfer Pricing and Related-Party Transactions

For foreign owners who also own non-U.S. entities that sell goods to the U.S. entity, transfer pricing becomes relevant. The IRS requires that cross-border transactions between related parties be conducted at arm’s length, meaning the pricing should mirror what would be agreed upon by unrelated parties under similar conditions.

  • IRC § 482: Authorizes the IRS to reallocate income between related entities if the transactions do not reflect economic reality.
  • Documentation: Maintaining contemporaneous documentation of intercompany pricing can be critical if the foreign entity sells goods to the U.S. entity or vice versa.
  • Effect on ECI Analysis: Transfer pricing does not itself determine whether there is a USTB, but if the foreign owner tries to artificially shift profits out of the U.S., the IRS may scrutinize both the pricing and the broader operational structure.

Practical Tips for Structuring to Avoid Inadvertent U.S. Tax

For non-U.S. entrepreneurs who want to access the U.S. market but minimize risk of a USTB, these steps can be helpful:

  1. Rely on Independent Agents: Use Amazon, UPS, or other established, independent logistics providers for storage and fulfillment, making sure they serve many clients and do not exclusively act for your business.
  2. Avoid a U.S. Office or Full-Time Staff: Running the business from abroad (with local support only through independent contractors for incidental tasks) helps reduce the risk of USTB.
  3. Check for Applicable Treaties: If your home country has a tax treaty with the U.S., review the “permanent establishment” article and see how the warehouse exception might apply.
  4. Maintain Proper Corporate Formalities and Documentation: If you have a U.S. entity, file the requisite forms (Form 5472, Form 1120, etc.) on time and keep good records of how and where the business is managed.
  5. Limit U.S. Activities to Non-Contractual, Non-Core Functions: Marketing or product design done outside the U.S. helps ensure the heart of the business is foreign-based.

When a U.S. Trade or Business Might Be Beneficial

Not everyone necessarily wants to avoid a USTB. Sometimes, if your operations are large and you anticipate building a significant U.S. presence, it can be advantageous to establish a robust U.S. entity, pay the 21% corporate rate, and reinvest in growth. Having local staff and an official presence can also improve customer perception and logistic efficiency. In that case, the entity’s net profits are taxed in the U.S., but you gain operational advantages.

If you do go this route and accept that you have a USTB, carefully manage the corporate structure to optimize your global effective tax rate, perhaps by utilizing treaty benefits to minimize withholding on cross-border dividends or interest.

Best Practices and Common Pitfalls

  • Failing to File Information Returns: A common (and costly) mistake is overlooking Form 5472 for foreign-owned U.S. entities, especially disregarded single-member LLCs. The penalty starts at $25,000 for each failure.
  • Misclassifying the Warehouse Relationship: Even if you store inventory in the U.S., ensure that the arrangement truly is an independent contractor relationship. Overly restrictive or controlling arrangements can inadvertently create a dependent agent situation.
  • Overlooked State Nexus: A foreign-owned U.S. entity might owe state-level taxes. For instance, having inventory in an Amazon warehouse located in California can trigger the state’s tax nexus rules. This is separate from federal USTB analysis.
  • Assuming All Income Is Tax-Free Without Analysis: While many e-commerce entrepreneurs do indeed avoid ECI, it is dangerous to assume so without thoroughly examining the specifics of your supply chain, sales process, and any local presence.
  • Ignoring the Need for a Permanent Establishment Analysis: If the foreign owner’s home country has a treaty, do not forget that the PE analysis can shield you from U.S. taxation if you fall below the PE threshold. But you must confirm that your activities do not exceed that threshold.

Conclusion

Foreign-owned U.S. entities selling products to American customers face an intricate set of federal tax rules focusing primarily on whether the foreign owner is “engaged in a trade or business in the United States” (USTB) and, if so, whether the income is effectively connected (ECI). The analysis hinges on the nature and extent of U.S. activities:

  • Storing Goods Outside the U.S.: Usually little risk of a USTB if the foreign owner merely ships goods into the U.S. once an order is placed and relies on an independent carrier or platform.
  • Using Fulfillment Services in the U.S. (like Amazon FBA): Often still no USTB if Amazon is truly independent and the foreign entity does not otherwise exercise significant control over U.S. operations.
  • U.S. Physical Presence or Dependent Agents: Engaging local employees, controlling the fulfillment center, or maintaining a dedicated U.S. office can transform the business into a USTB scenario.

For many small to mid-sized e-commerce entrepreneurs based abroad, the typical fact pattern—no U.S. employees, no direct operational control in the U.S., reliance on Amazon as an independent distributor—means there is often no effectively connected income for federal income tax purposes. Nonetheless, the devil is in the details. Even minimal changes in business structure, staffing, or the nature of the relationship with the fulfillment provider can alter the outcome.

Where a foreign owner does want a stronger U.S. presence, forming a U.S. C corporation and paying corporate taxes on net profits might be acceptable or even beneficial, particularly if it improves business operations, brand reputation, or shipping logistics. In such cases, filing the necessary U.S. tax returns and maintaining compliance (Form 1120, Form 5472, state-level obligations, etc.) is essential.

Ultimately, the key is to recognize that “effectively connected income” and “U.S. trade or business” are flexible, fact-driven standards. Merely listing products for sale to American consumers does not automatically trigger U.S. taxation if all operational elements remain offshore or under the control of an independent third party. However, establishing or exerting control over any meaningful U.S. infrastructure—offices, staff, or dependent agents—often crosses the line, pulling the resulting profits into the U.S. tax net. By carefully structuring business activities and documenting relationships with independent platforms like Amazon, foreign entrepreneurs can confidently access the vast U.S. market while remaining compliant with federal tax law.