Sales and Use Tax for Manufacturers: What Owners Should Know

Sales tax is collected by a seller on taxable retail sales, usually at the point of sale. Use tax is the counterpart: it applies when a business buys taxable property without paying sales tax, typically from an out-of-state vendor, and then uses or stores the property in a state that taxes it. Together the two taxes are designed so that taxable consumption is taxed once, whether or not the seller collected it.

A manufacturer sits on both sides. It pays sales or use tax on taxable purchases, and it collects sales tax on taxable sales of its finished products. Which purchases and sales are taxable depends on state law, and the answers differ by state.

The most common exemptions cover production machinery and equipment used directly in manufacturing, raw materials that become part of the finished product, and often parts, tools, repair services and consumables such as chemicals, lubricants and gases used in the production process. Some states also exempt energy used to power production equipment, frequently subject to a predominant-use study, and pollution-control equipment required by law.

Roughly 38 states offer some form of manufacturing exemption, with a handful of others applying reduced rates. The scope differs meaningfully: one state may exempt the machine but tax the repair parts, while another exempts both. Because the details vary, the exemption strategy has to be built state by state, based on where the plant operates and where it sells.

Most manufacturing exemptions require that the property be used directly in the production process, not in administrative or general business functions. Office equipment, hand tools and forklifts used only to unload, inspect or store raw materials have been held not to qualify in some states, because they are not directly part of transforming the product.

The practical consequence is documentation. Exemption certificates, purchase records, use studies for shared equipment and energy, and a clear description of how each asset supports production are what make an exemption defensible in an audit. A manufacturer that claims exemptions without the paperwork can face tax, interest and penalties years later.

The annual review should cover what the plant buys and where it sells: which purchases were exempt and how that was documented, whether out-of-state sales created collection obligations in other states, and whether any untaxed purchases now sit in inventory or use. Nexus rules have expanded as states have adopted economic thresholds, so selling into a new state can create a registration and collection duty even without a physical presence.

Sales and use tax is state law, and the rules change. A manufacturer should confirm its exemptions, nexus footprint and filing positions with an advisor who knows the states where it operates, rather than assuming last year's answer still holds.