Cross-Border US-Asia · Memo

US Tax Exposure for Asia-Based Founders Selling Into US Markets

Asia-based founders selling into US markets face a US tax question that depends on the structure and the treaty. I will walk through the analysis for the most common structures and flag where the IRS has been signaling tightening.

An Asia-based founder selling into the US market has three main structural choices: (a) sell directly from the Asian entity without a US presence, (b) form a US subsidiary that distributes to US customers, or (c) form a US LLC owned by the founder personally that does the US business. Each structure has different US tax consequences. The applicable income tax treaty between the founder's country and the US can modify the consequences materially. Counsel advising a non-US founder should not give US tax advice without engaging US tax counsel, and this memo is a structural overview, not a substitute for that advice.

The threshold question: US trade or business and effectively connected income

Internal Revenue Code section 864 defines what activities constitute a US trade or business. A foreign corporation or non-resident individual is subject to US federal income tax on income that is effectively connected with the conduct of a US trade or business (ECI). Income that is not ECI may still be subject to a thirty-percent withholding tax under sections 871(a) and 881(a) (fixed, determinable, annual, or periodical, or FDAP, income).

The case-by-case analysis of what constitutes a US trade or business is fact-intensive. Selling products from outside the US to US customers without US presence is generally not a US trade or business. Selling through US-based agents who conclude contracts is. Maintaining a US office is. Having US employees is. The line is not always bright.

For SaaS providers, the analysis is unsettled. Selling SaaS from a Singapore entity to US customers, with all servers and personnel in Singapore, is not typically a US trade or business. Selling SaaS with US-based servers or US-based customer support staff complicates the analysis. The IRS has not issued definitive guidance on the SaaS case, and counsel should approach the analysis carefully.

The treaty overlay

If the founder's country has an income tax treaty with the US, the treaty's permanent establishment article modifies the US-trade-or-business analysis. Under most modern treaties (the US Model Income Tax Convention 2016 is the framework, and individual treaties vary), a foreign enterprise is subject to US tax on business profits only if those profits are attributable to a permanent establishment (PE) in the US.

A PE generally requires a fixed place of business in the US (a branch, office, factory, etc.) or a dependent agent who habitually exercises authority to conclude contracts on behalf of the enterprise. The threshold is meaningfully higher than the section 864 trade-or-business standard. Many activities that would constitute a US trade or business under section 864 do not constitute a PE under the treaty.

The US has treaties with Japan, Korea, Singapore (limited scope), China, India, and many other Asian jurisdictions. Each treaty has specific PE provisions. Counsel should consult the specific treaty rather than rely on the model convention.

The withholding obligation

For payments to non-US persons that are not ECI, US payers are obligated to withhold at thirty percent under sections 1441 (individuals) and 1442 (corporations). The withholding rate is reduced by treaty in many cases. For dividends, the treaty rate is typically five, ten, or fifteen percent. For royalties, the rates vary. For interest, the rate is typically zero or reduced.

For SaaS payments, the characterization as services (generally not subject to withholding for non-ECI) or royalties (subject to withholding) depends on the treaty's definition and the nature of the service. The US Treasury's position on cross-border software and SaaS has evolved. The Section 1.861-18 regulations provide guidance for software classification but do not fully resolve SaaS. The customary practice is to treat SaaS as services rather than royalties, but the analysis depends on facts including the level of customer customization, the technology delivery method, and the contract characterization.

The Section 1446 partnership withholding

If the Asia-based founder participates in a US LLC that has US-trade-or-business income, section 1446 imposes withholding obligations on the LLC for the founder's share of the income. The withholding rate is the highest applicable rate for the founder's status (typically thirty-seven percent for individual founders, twenty-one percent for corporate). The withholding is collected and remitted by the LLC and credited against the founder's eventual US tax liability.

The implication for a non-resident founder holding a US LLC interest: even if the founder does not receive distributions, the LLC is required to withhold and remit tax on the founder's allocable share of US-effectively-connected income. The founder is required to file Form 1040-NR (for individuals) or Form 1120-F (for corporations) to report the income and claim credit for the withholding.

Structural options

For an Asia-based founder considering US market entry, the structural analysis I run:

• Direct sales from the Asian entity, no US presence. Generally no US tax on business income (if not a US trade or business). Withholding may apply to certain payments. The structure works for businesses with minimal US operational footprint.
• US LLC owned by the founder personally. The LLC is a flow-through entity. The founder reports US-source income on a US tax return. Section 1446 withholding may apply. The structure is administratively simpler than a corporate structure but exposes the founder personally to US tax filing obligations.
• US C-corporation subsidiary of the Asian entity. The C-corp pays US tax on its income at the twenty-one percent corporate rate. Dividends to the Asian parent are subject to withholding (treaty-reduced). The structure is more administratively complex but isolates the founder from personal US tax obligations.
• US C-corporation as the founder's holding company. The founder owns the C-corp directly (or through an Asian holding entity). The C-corp owns the operating activities. The structure is common for venture-backed companies and is the structure US investors typically want to see.

The choice depends on the business model, the projected US revenue, the funding posture, and the founder's tolerance for administrative complexity.

The state tax overlay

Federal tax is one part of the analysis. State tax obligations apply in any state where the business has nexus. California's economic-nexus standard under Cal. Rev. and Tax. Code section 23101 reaches businesses with $500,000 or more in California sales (or one hundred fifty thousand dollars or more in property or payroll). Similar thresholds apply in other states. A non-US founder selling into California crosses California's nexus threshold relatively quickly. The California franchise tax minimum is $800 per year regardless of activity level.

For multi-state operations, the state apportionment rules under each state's tax code determine which portion of income is taxable in each state. The complexity scales with the number of states.

The Treasury beneficial-ownership reporting overlay

As discussed in my Delaware-vs-Wyoming memo, the Corporate Transparency Act imposes BOI reporting obligations on most US-formed entities. The reporting requirement applies regardless of the founder's residence. The reporting is to FinCEN, not to the IRS, but the data set may be referenced in tax enforcement matters.

What I would not assume

Cross-border tax analysis is fact-dependent and treaty-specific. The structural advice I have outlined here is generic. The applicable treaty's provisions, the specific business model, the founder's overall tax position, and the state-tax overlay all affect the recommendation. Counsel advising a non-US founder should engage US tax counsel for the specific analysis. Outcomes in actual tax planning depend on the founder's facts and the planning depth. The high-level structures above are starting points, not endpoints.

One reality check. Many Asia-based founders selling into US markets discover the US tax obligation late, after the business has scaled and the structuring choices that would have been advantageous earlier are no longer available. Counsel evaluating a structure should err on the side of consulting tax counsel earlier rather than later, particularly when the business has projected US revenue above one or two million dollars annually. The cost of the consultation is small relative to the cost of the structure that is wrong for the business.

Sergei Tokmakov, Esq., CA Bar #279869. This memo is attorney commentary on legal questions and is not legal advice. Reading it does not create an attorney-client relationship. Past matter outcomes depend on facts and the responding party; nothing here is a prediction of result.