Subcontract Manufacturing in Turkey: Tax and Documentation

In subcontract manufacturing every tax consequence turns on a single test: who owns the main raw material. That test determines whether the transaction is a supply of goods or a supply of services, which VAT rate applies, whether withholding arises, and whether an exemption is available on cross-border work.

Two jobs done in the same factory on the same machines are taxed at different rates according to who supplied the raw material alone, and one attracts withholding while the other does not. This page covers the documentation and filing regime for domestic subcontract work, the exemption conditions for work carried out for customers abroad, and the permanent establishment and transfer pricing risk for a foreign investor, using 2026 legislation and figures.

The Tax Definition and the Distinguishing Test

Subcontract work is, as a matter of private law, a contract for work. Under Article 470 of the Turkish Code of Obligations the contractor undertakes to produce a work and the customer to pay for it. Where the customer supplies the materials, the contractor’s performance consists of labour and organisation alone; title to the goods never changes hands at any stage.

Tax legislation captures the same structure in one sentence: subcontract manufacturing requires the raw materials, and above all the main raw material, to be supplied by the party commissioning the work. The test appears in the partial withholding section of the VAT General Application Communiqué and is also the basis for the reduced rate.

Three consequences follow. First, subcontract work is a supply of services assessed under Article 4 of the VAT Law, not a supply of goods. Second, where the main raw material belongs to the party doing the work there is no subcontract work at all: there is manufacturing and sale, the transaction is a supply of goods, and the rate applicable to the goods applies. Third, the supply of ancillary materials such as sewing thread, zips and buttons by the party doing the work does not remove the subcontract character.

This third possibility is the one most often disputed in practice. Where the staff of the party doing the work operate under the direction, management and instructions of the commissioning party, and the commissioning party sets the working hours and the production schedule, the obligation is to supply labour rather than to produce a work. The standard rate and 9/10 withholding then apply; the reduced rate and the 7/10 withholding for subcontract work cannot be used.

Value Added Tax: Rate, Withholding and Invoicing

A subcontract service fee is subject to VAT at the standard rate as a general rule. The reduced rate applies only to textile and clothing work carried out on a subcontract basis, listed at item 10 of section B of Schedule II annexed to Decision 2007/13033. Partial withholding is a separate mechanism and should not be confused with the rate: the reduced rate determines the price of the transaction, while withholding determines who declares the tax.

The row that stands out is the split treatment of dyeing and bleaching. The same job moves both rate and withholding according to who supplied the chemicals. Ironing, warping, sizing, stitching, cutting, quilting, shearing, sanding, raising, singeing, stentering and embroidery all fall within withholding; but where they are performed as part of dyeing, printing, finishing or bleaching, together with those services and on the same invoice, they follow the regime of the principal service for withholding purposes.

Who withholds, and the threshold

In textile and clothing subcontract work, withholding applies on transactions with VAT taxpayers and with the designated buyers listed in the Communiqué. Where the buyer is not a taxpayer, no withholding arises.

The withholding threshold for 2026 is TRY 12,000 including VAT. The threshold is assessed per transaction and amounts relating to the same transaction are aggregated; even where a single job is split across several invoices, the amounts are combined and tested against the threshold. Splitting a transaction to fall below the threshold is challenged on audit. The threshold is updated annually in line with the invoicing limit in the Tax Procedure Law.

Invoicing and declaration

An invoice subject to withholding must separately show the transaction value, the VAT calculated, the withholding ratio, the amount to be withheld by the buyer, the total including withholding and the total excluding it. The amount recorded as payable on the invoice is the amount due to the seller after withholding. Transactions with and without withholding may appear on the same invoice; in that case the threshold is tested only against the value of the transaction subject to withholding.

The buyer declares the tax withheld on VAT return No. 2 and deducts the same amount on return No. 1 in the period in which it is paid. The seller declares the portion not withheld on return No. 1 and shows the withheld portion at line code 609 in the “Transactions Subject to Partial Withholding” table of the return.

Two separate refund routes

The two refunds cannot be claimed for the same input tax; which route produces the larger refund has to be calculated year by year. In textile subcontractors the second route is frequently the larger, and it is regularly overlooked.

Documentation, Waste and Accounting for Materials

No invoice is issued for raw materials and ancillary materials sent for subcontract work, because title does not change hands. A delivery note is issued when the goods are dispatched and when they are returned. In a ruling on the subject the Revenue Administration confirmed that no invoice is required for materials such as dyed sewing thread, bobbins, labels, cellophane, box card and cartons sent for subcontract work.

The bookkeeping follows the same distinction. The commissioning party continues to carry the goods in its own inventory and adds the subcontract fee to production cost. The party doing the work does not take the goods into its own inventory; it tracks them in memorandum accounts as goods held on consignment. Failure to use memorandum accounts is the most common gap found in stock counts and reconciliations.

Corporate Tax, Withholding and Stamp Duty

The fee earned by the party doing the work is commercial income and is taxed under the general rules. Three points are specific to subcontract work.

Subcontract work given to persons within the artisan exemption

Where subcontract work is given to persons producing at home and benefiting from the artisan exemption under Article 9, first paragraph, item 6 of the Income Tax Law, income tax is withheld at 2% on the service fees paid, under Article 94, item 13, sub-item (a) of the same law. Because these persons do not issue invoices, an expense voucher is used as the supporting document. Failure to withhold results in a penalised assessment for the business claiming the payment as an expense.

Rate reductions

The two reductions are not applied together to the same income: 5 points on the portion attributable to exports, 1 point on the remaining manufacturing income. For a subcontractor working on thin margins, the minimum tax comparison does not change the outcome unless an exemption is being used. For subcontractors benefiting from a free zone or technology development zone exemption, however, the minimum tax calculation has to be run separately.

Stamp duty

A subcontract manufacturing agreement stating a specific amount is subject to stamp duty at 0.948%. From 1 January 2026 the maximum payable per document is TRY 29,115,961.10. Three points are commonly missed:

• Penalty clause. Where the agreements and transactions gathered in one document are connected and arise from a single principal, the duty is charged on the transaction attracting the highest amount. If the penalty clause exceeds the principal value, it becomes the base
• Counterparts. Following the amendment made by Law No. 6728, stamp duty on documents subject to proportional duty is charged on a single counterpart even where several are executed
• Framework agreements with no stated value. Where no specific amount appears in the agreement, no proportional duty arises; but duty arises on the supplementary protocol or order form that sets the value

Subcontract Labour Performed in Turkey for a Customer Abroad

A foreign company sending its raw material to Turkey, having it processed and taking back the finished goods is Turkey’s longest-established cross-border subcontract model. The first decision determining the tax outcome is the customs regime: where the raw material arrives under the inward processing regime or temporary importation, the Turkish company does not sell goods but supplies a service, and its invoice covers the labour fee alone. Where the raw material is imported into free circulation, the transaction is not subcontract work but a purchase-production-sale chain and is taxed entirely differently.

1. Determining the customs regimeThe raw material is brought in under the inward processing regime or temporary importation. This decision fixes at the outset whether the transaction is a service or a sale of goods, and it cannot be corrected afterwards.
2. Entry and recording of the raw materialThe goods are not taken into the Turkish producer’s inventory; they are tracked in memorandum accounts as goods held on consignment. Entry and exit documents must match the scope of the regime.
3. Production and waste trackingThe waste rate stated in the contract governs. Losses exceeding it cause problems both under the customs regime and for VAT deduction.
4. Dispatch of the finished goods abroadThat the processed goods are not sold domestically is a condition of the exemption. A partial domestic sale removes the exemption for that portion.
5. Issuing the invoiceThe invoice is issued in the name of the customer abroad and with the exemption code. Where the customer has a branch in Turkey and the service relates to that branch’s activity, the exemption does not apply even if the invoice is issued to the head office.
6. Evidencing the payment and claiming the refundThe consideration must be capable of being evidenced through banking channels. The input tax is claimed as a refund within the scope of the export of services exemption.

The export of services exemption

Subcontract labour performed by processing goods sent from abroad in Turkey and sending them abroad again is treated as an export of services under Articles 11/1-a and 12/2 of the VAT Law where the conditions are met. Those conditions are:

• The service must be performed for a customer abroad
• The invoice must be issued in the name of the customer abroad
• The service must be enjoyed abroad
• The processed goods must not be sold domestically
• The consideration must be evidenced through banking channels
• The invoice must be issued with the exemption code

Subcontract services for customers in free zones

Free zones are not treated as being abroad as a general rule, and services performed for customers in free zones do not fall within the export of services exemption. Subcontract services are the exception to that rule: Article 11/1-a of the VAT Law expressly brings subcontract services performed for customers in free zones within the export exemption. For the exemption to apply, the service must be performed for a customer operating in the free zone and the finished goods must be sent to the free zone. Consultancy, maintenance or software services provided to the same free zone customer do not benefit from this provision.

Deferment-cancellation and export-registered supplies

Two mechanisms are frequently confused. Subcontract labour purchased domestically by the holder of an inward processing certificate does not fall within the deferment-cancellation regime under provisional Article 17 of the VAT Law. That article covers supplies of materials to be used in producing goods for export, not supplies of services. The subcontract labour invoice is issued with VAT under normal rules.

By contrast, using subcontractors is no obstacle to an export-registered supply. The Communiqué states that the deferment-cancellation regime may be used for goods that can be produced within the production capacity shown on the manufacturer’s certificate, including goods manufactured on a subcontract basis within that scope. The critical conditions are that the supplier holds an industrial registry certificate and that the goods manufactured on a subcontract basis remain within the production subject and capacity shown on it. A company without an industrial registry certificate that has all of its output manufactured on a subcontract basis cannot make an export-registered supply. The same rule applies to manufacturers claiming a refund based on the export value on their direct exports.

Permanent Establishment and Transfer Pricing Risk for a Foreign Investor

A foreign company having goods manufactured on a subcontract basis in Turkey does not by itself create a permanent establishment here. Article 5 of the double taxation agreements lists, among the situations that do not constitute a permanent establishment, the maintenance of a stock of goods or merchandise belonging to the enterprise solely for the purpose of processing by another enterprise. Because this provision varies between agreements, the text applicable to the specific case should be checked separately.

Transfer pricing

Where the subcontract relationship is between related parties, the consideration must be at arm’s length under Article 13 of the Corporate Tax Law and must be documented. A subcontract manufacturer does not bear raw material, inventory, demand or market risk and does not own the intangibles relating to the goods produced; that function and risk profile corresponds to a routine return. In practice the cost plus method or the transactional net margin method is used.

Having Goods Manufactured Abroad

The reverse transaction — a Turkish producer sending raw material abroad, having it processed and bringing it back — falls under the outward processing regime. Where a regime authorisation is obtained, import duties on the returned goods are calculated as a rule on the value added abroad. Where goods are sent without authorisation this possibility is lost and duty arises on the whole of the finished goods, creating a cost difference that cannot be reversed.

The fee paid to a subcontract manufacturer abroad is commercial income and, not being among the payments listed in Article 30 of the Corporate Tax Law, is not as a general rule subject to withholding. Treating these payments as professional income or as royalties and withholding on them is a common error in practice. Where the payment package includes a transfer of technical knowledge, design or a licence fee, however, that portion should be separated and assessed under its own regime.

The financing side should not be overlooked either. A levy on the resource utilisation support fund arises on imports not paid for in advance; the payment method and maturity create a burden beyond the visible part of the subcontract cost. The payment terms in the contract deserve as much attention as the price.

Points to Check in a Subcontract Agreement

• Who supplies the main raw material, stated expressly
• The acceptable waste rate, expressed as a figure
• Where the direction and management of the staff sits
• The VAT rate and the withholding arrangement
• Delivery notes and tracking of goods held on consignment
• The effect of the penalty clause on the stamp duty base
• Confidentiality and ownership of moulds, models and designs
• For cross-border work, the customs regime and the invoicing arrangement

Common Mistakes

• Applying withholding at 5/10. The ratio has been 7/10 since 1 March 2021; older templates and calculators still show 5/10.
• Splitting a job to stay below the threshold. Amounts relating to the same transaction are aggregated, and splitting is challenged on audit.
• Applying the reduced rate to non-textile subcontract manufacturing. The 10% rate covers only the listed textile and clothing work.
• Ignoring who supplies the chemicals in dyeing and bleaching. The same job moves both rate and withholding on that point alone.
• Issuing an invoice for materials sent for subcontract work. Title does not change hands; a delivery note is issued.
• Not tracking consigned goods in memorandum accounts. This is the most common gap found in stock counts and reconciliations.
• Leaving the waste rate out of the contract. Input tax on losses above the normal rate cannot be deducted.
• Never claiming the reduced-rate refund. A 10% revenue and 20% cost structure builds a structural carried-forward balance.
• Paying an exempt artisan without withholding. A 2% withholding and an expense voucher are required.
• Attempting an export-registered supply without an industrial registry certificate. A company without the certificate that subcontracts all of its output cannot make that supply.

Frequently Asked Questions