1. law, govt and politics

Ohio Tax
Best & Worst of State Tax
Administration and Justice Vs.
Injustice: The Prince of
Darkness and the Master of
Misconception “ Hurdling”
the Issues of Nexus,
Apportionment, and
Discrimination
Albert P. Cliffel, III, Senior Vice President, Fifth Third Bank, Cincinnati
Maryann B. Gall, Esq., MBGALLTAX, Columbus
Richard D. Pomp, Professor of Law, University of Connecticut, Hartford, CT
Craig B. Fields, Partner, Morrison & Foerster LLP, New York
Wednesday, January 30, 2013
8:00 a.m. to 9:15 a.m.
Biographical Information
Al Cliffel, Senior Vice President, Fifth Third Bank
38 Fountain Square Plaza, Cincinnati, Ohio 45263
al.cliffel@53.com
513.534.0235
Fax 513.534.7142
Al is a member of Fifth Third’s Corporate Tax Department responsible for the Tax Research & Planning Group. The
Tax Research and Planning Group monitors federal and state tax legislation impacting Fifth Third; provides tax efficient
plans for the integration of acquired entities into Fifth Third; provides advice as to structuring new business
opportunities in a tax efficient manner; and performs major tax projects such as cost segregation studies and state tax
incentives related to new job creation. Prior to joining Fifth Third in 2002, Al spent over 13 years with two Big 4 CPA
firms, most recently as a principal with Ernst & Young in the financial services tax practice. Prior to his stint with Ernst
& Young, Al was with Coopers & Lybrand (now PricewaterhouseCoopers). Al is a member of the Ohio bar and an
Ohio CPA. Al received his BSBA from The Ohio State University College of Business; JD from The Ohio State
University College of Law; and LLM (Taxation) from Capital University.
Maryann B. Gall, M B Gall Tax
230 West Street, Suite 700 Columbus, Ohio 43215
mbqall@mbqalltax.com
614.947.5199
Fax 614.947.5475
Maryann Gall's practice is concentrated in the areas of state and local taxation, with an emphasis on multistate issues
for taxpayers doing business across the country. Maryann has represented many of the nation's largest retailers on
nexus issues, including Dell Inc., Macy's Inc., Saks Fifth Avenue, and Henry Schein, Inc. Her clients include "three
channel" companies, selling through retail stores, catalogs, and the Internet. She has litigated nexus cases across the
country, done nexus planning, and helped companies to come into compliance with the nexus standards in every state
in the country.
Maryann was named as one of the country's outstanding tax lawyers by The National Law Journal in February 1993.
She is a member of the CCH State Tax Advisory Board and is one of the authors of The State & Local Tax Portfolio
Series. In 2002, CCH published Maryann's Sales and Use Tax Nexus: Practical Insights and Strategies. In 2004, she
coauthored the Deloitte & Touche Center for Multistate Taxation's A Lawmaker's Guide to Nexus (Doing Business in
the State), which is distributed to every state legislator in the United States. She has maintained a "nexus index" of
every case, statute, administrative regulation and ruling since the U.S. Supreme Court decided Quill Coro. v. North
Dakota, 504 U.S. 298 in 1992. This is likely the most complete nexus index in existence. Maryann is a member of the
board of the New York University Institute on State and Local Taxation, the Hartman Tax Institute in Nashville, and the
University of Wisconsin Multistate Corporate Tax Board and its Multistate Tax Guide. She is a regular speaker at the
national meetings of the Council on State Taxation, the Tax Executives Institute, and the Institute of Professionals in
Taxation. Maryann has been selected for inclusion in the 1999 through 2010 editions of The Best lawyers in America.
Best Lawyers has been published since 1983 and is generally regarded as the legal profession's preeminent referral
guide. Since 2004, Maryann also has been named a "Super Lawyer" by Ohio Super Lawyers magazine. She has been
AV rated for 25 years by Martindale-Hubbell, which is a national peer review rating.
Education: Graduated from Parma Senior High School, 1963; college and law school at The Ohio State University (J.D.
cum laude 1970; B.A. 1967) Government/Military Service Served with the Ohio Attorney General's Office in the
following positions: Chief Counsel to Attorney General William J. Brown (1975-1976), Chief of the Taxation Section
(1974-1975), and Assistant Attorney General, Taxation Section (1971-1974).
Personal Background: Born in Cleveland, Ohio, September 4, 1945; educated in Parma City School District; married
John R. Gall, May 2, 1970. John is a Partner specializing in commercial litigation at Squire, Sanders & Dempsey LLP in
Columbus, Ohio. Maryann retired on December 31, 2010, as a State Tax Partner at Jones Day
Biographical Information
Richard D. Pomp, Alva P. Loiselle Professor of Law, U of Connecticut Law School
65 Elizabeth St., Hartford, CT 06105
rpomp@law.uconn.edu
860.570.5251
Fax 860.570.5242
Richard D. Pomp is the Alva P. Loiselle Professor of Law at the University of Connecticut and a well known indoorsman,
famous for his cottage cheese sculptures and long afternoon naps.
He bears the scars of a difficult childhood. When he stopped smoking in the third grade, his parents called him a quitter and a
loser. As a boy, his family moved a lot, but he succeeded in finding them each time, usually within a year or two. He grew up
poor, learning to read by the light of police helicopters.
Much to the amazement of his grammar school and high school teachers, he graduated summa cum laude from the
University of Michigan and magna cum laude from Harvard Law School, signs of his being overeducated and worthless on
any reality television show.
He was once cross examined by Mr. Frankel for five hours and still cannot bear to read that transcript.
He has taught at Texas, NYU, Harvard and Columbia, leaving each time before student complaints could be filed. He is living
proof of the weaknesses of the tenure system.
From 1981 to 1987, he was Director of the New York Tax Study Commission, a period during which New York restructured
its personal and corporate income tax, and created an independent tax tribunal. He has served as a consultant to cities,
states, the U.S. Congress, the IRS, the Department of Justice, the United Nations, the World Bank, the IMF, and numerous
foreign countries, including Viet Nam, The People’s Republic of China, the Philippines, and Zambia. He has appeared as an
expert witness in various courts throughout the country. He serves as a litigation consultant to states, law firms, accounting
firms, and corporations and participates in Supreme Court litigation.
Pomp is the author of a leading casebook on state taxation and more than eighty articles, most of which no one has read, but
which he has used to get tenure and a comfortable life, despite contributing little to the gross national product. In addition to
the usual scholarly articles and monographs, his writings have appeared in The Financial Times, The Wall Street Journal,
and the New York Times. It is unknown whether any one has read these either.
In an undisclosed deal of some sort, the NYU Institute on State and Local Taxation awarded him its 2007 Outstanding
Achievement in State and Local Taxation award.
Despite a few well known incidents, Pomp is still willing to appear in public.
[Note: do not use for purposes of my obituary without first obtaining my permission]
Craig B. Fields, Partner, Morrison & Foerster LLP
1290 Avenue of the Americas New York, NY 10104
cfields@mofo.com
212.468.8193
Craig B. Fields is co-chair of the firm's Tax Department and is also chair of the firm’s State & Local Tax Group. His practice
focuses on litigation and planning relating to state and local tax matters. He has been involved in controversies regarding
state and local tax issues before the administrative and judicial systems of jurisdictions throughout the United States as well
as having resolved hundreds of non-public record cases around the country. Mr. Fields has also provided advice regarding
the potential tax consequences of complex restructurings involving the corporation income (franchise) taxes, the sales and
use taxes, and miscellaneous taxes of many jurisdictions. Mr. Fields is recommended as a leading lawyer by Chambers USA
2012, where he has been “praised by clients for his strong business acumen and great personality that conveys a
professional and proactive approach to dealing with tax.” He is recognized by Legal 500 US 2011 and 2012, and has been
consistently ranked in Super Lawyers since 2006. He has been named to State Tax Notes’ “Top 10 Tax Lawyers” list for
2011. Mr. Fields has written extensively in the area of state and local taxation. His articles have appeared in numerous
publications, including Tax Management’s Multistate Tax Report, State Tax Notes, Research Institute of America’s State and
Local Taxes Weekly, the COST State Tax Report, the Journal of State Taxation, the Journal of Multistate Taxation and
Incentives, the Journal of New York Taxation, Interstate Tax Report, and the American Bar Association’s The State & Local
Tax Lawyer. He is a contributing author to a chapter in “Doing business in the United States: New York,” a handbook in the
Practical Law Company’s “PLC Cross-border” series. Mr. Fields is also a frequent lecturer concerning state and local taxes
and has spoken before such organizations as New York University’s Institute on State and Local Taxation, Georgetown
University Law Center’s Advanced State and Local Tax Institute, Vanderbilt University Law School’s Paul J. Hartman State
and Local Tax Forum, the Tax Executives Institute, the Council On State Taxation, the Energy Tax Association, the Tulane
Tax Institute, the Practicing Law Institute, and the Tax Section of the American Bar Association.
Education: Queens College (B.A. in Accounting and Economics, 1986); Duke University School of Law (J.D., 1989); New
York University School of Law (LL.M. in Taxation, 1991)
Best & Worst of State Tax
Administration and Justice vs. Injustice
Craig B. Fields
Morrison & Foerster LLP
1290 Avenue of the Americas
New York, NY 10104
(212) 468-8193
CFields@mofo.com
Maryann B. Gall
MBGALLTAX
230 West Street, Suite 700
Columbus, OH 43215
(614) 947-5199
mbgalltax@mbgalltax.com
Richard D. Pomp
University of Connecticut
School of Law
65 Elizabeth Street
Hartford, CT 06105
(860) 570-5251
richard.pomp@law.uconn.edu
22nd Annual Ohio Tax Conference
Columbus, Ohio
January 30, 2013
Table of Contents
I.
Nexus ....................................................................................................................................1
II.
Addback Statutes and Denials of Deductions .....................................................................10
III.
Combined Reporting ...........................................................................................................14
IV.
Allocation/Apportionment ..................................................................................................16
V.
Business/Non-Business Income..........................................................................................22
VI.
Sales and Use Tax ...............................................................................................................25
VII.
Miscellaneous Issues...........................................................................................................28
I.
NEXUS
A.
Colorado
1.
The Direct Marketing Ass’n v. Huber, No. 10-cv-1546 (D. Colo. Mar. 30,
2012), appeal docketed, No. 12-1175 (10th Cir. Apr. 30, 2012). The
District Court granted a permanent injunction against the enforcement of
Colorado’s statute imposing a use tax reporting requirement on
out-of-state retailers who do not collect sales tax. The court held that the
statute violates the Commerce Clause of the U.S. Constitution because it:
(i) directly regulates and discriminates against out-of-state retailers and
interstate commerce; and (ii) imposes an undue burden on interstate
commerce. In reaching its determination, the court noted that “if [a] state
has a mandatory sales tax system, . . . enforcing a reporting requirement
on out-of-state retailers will, by definition, discriminate against the out-ofstate retailers by imposing unique burdens on those retailers.” The court
also observed that “Quill creates the in-state versus out-of-state
distinction, and the dormant Commerce Clause prohibits differential
treatment based on that distinction. Only a change in the law by the
Supreme Court or action by Congress can change this situation.”
The Department of Revenue has appealed the injunction. Briefs have been
filed and oral argument is set for November 7, 2012.
B.
Connecticut
1.
Scholastic Book Clubs, Inc. v. Comm’r of Revenue Servs., 38 A.3d 1183
(Conn. 2012), cert. denied, No. 11-1532 (U.S. Oct. 9, 2012). The
Connecticut Supreme Court held that the State may constitutionally
impose sales and use tax on an out-of-state book distributor because it had
nexus with Connecticut through the activities of local schoolteachers who
participated in the program. The distributor, which had no real or personal
property or employees in Connecticut, made sales in Connecticut by
mailing catalogs to teachers who distributed the catalogs to students,
collected the students’ orders and payments, and returned them to the
distributor. The distributor delivered the ordered products by common
carrier. The court determined that the schoolteachers who participated in
the distributor’s program were representatives of the distributor because
the schoolteachers served as the exclusive channel through which the book
distributor marketed, sold and delivered its products. Therefore, the court
concluded, the schoolteachers’ activities provide the requisite nexus under
the Commerce Clause to justify imposition of sales and use taxes on the
book distributor.
C.
D.
Illinois
1.
Performance Marketing Association, Inc. v. Hamer, No. 2011-CH-26333
(Ill. Cir. Ct. May 7, 2012), cert. granted, No. 114496 (Ill. June 22, 2012).
The Illinois Circuit Court found that Illinois’ “Amazon” statute:
(i) violates the Commerce Clause of the U.S. Constitution by imposing tax
on transactions that do not have a substantial nexus with the state; and (ii)
is preempted by the federal Internet Tax Freedom Act, which establishes a
moratorium against discriminatory state taxes on electronic commerce. In
2011, Illinois amended its statutory definitions to impose sales tax
collection obligations on an out-of-state retailer that contracts with an instate resident to refer potential customers to the retailer’s website with an
Internet link, if the gross receipts generated from such referrals are more
than $10,000 during the preceding four quarters.
2.
General Info. Letter, IT 12-0001-GIL (Ill. Dep’t of Revenue Jan. 12,
2012). The Department issued a general information letter explaining that
an out-of-state call center that contracts services to retailers in Illinois may
be subject to income tax. The call center coordinated contracted labor on
an as-needed basis for its customers, some of which were located in
Illinois. The Department stated that the applicable regulation allowed tax
immunity for the use of independent contractors only for “limited
activities” and contracting sales of services in Illinois on a regular basis
may subject the call center to Illinois income taxation.
Indiana
1.
E.
Letter of Findings, No. 18-20110050 (Ind. Dep’t of Revenue Nov. 2,
2011). The Indiana Department of Revenue ruled that an out-of-state
financial institution had economic nexus with Indiana through an
affiliate’s activities in Indiana and, therefore, was subject to the financial
institutions tax. The financial institution argued that it did not have nexus
with Indiana because it served only Indiana customers who learned of its
financing services through a related company that made sales to the
Indiana customers and informed them of the financial institution’s
services. The financial institution asserted that the related company
solicited business for itself and not for the financial institution. The
Department rejected the financial institution’s argument and found that it
had nexus with Indiana.
Hawaii
1.
Letter Ruling, No. 2012-10 (Haw. Dep’t of Taxation July 10, 2012). The
Hawaii Department of Taxation ruled that an out-of-state Internet retailer,
with no physical presence, employees, payroll, or solicitors in Hawaii, had
2
a sufficient nexus with the State, based on the physical presence of an
in-state representative, to justify the imposition of Hawaii’s general excise
tax. The Department found that a local affiliated company acted as the
retailer’s representative because: (1) both the retailer and the affiliate
promoted a loyalty points program whereby the customers of each
company received points for purchases made either from the retailer’s
Internet site or the affiliate’s retail store locations; and (2) customers of the
retailer had the option to return merchandise purchased on the retailer’s
Internet website to the affiliate’s retail store locations, in addition to
regular online returns.
F.
Kansas
1.
G.
Louisiana
1.
H.
Opinion Letter, No. O-2011-002 (Kan. Dep’t of Revenue Jan. 24, 2011).
The Kansas Department of Revenue ruled that an out-of-state company
sending employees to service gas and oil wells located in Kansas had
nexus for sales and withholding tax purposes because sending employees
into Kansas constituted having physical presence in Kansas.
Utelcom, Inc. & Ucom, Inc. v. Bridges, 77 So. 3d 39 (La. Ct. App.
Sept. 12, 2011). The Louisiana Court of Appeal held that the Louisiana
corporate franchise tax did not apply to two out-of state corporations with
limited interests in a foreign limited partnership that owned property and
did business in Louisiana because the corporations’ indirect ownership of
capital in Louisiana through the foreign limited partnership did not
constitute “incidents of taxation” as required under the statute. The
corporations themselves did not conduct any business activities in
Louisiana and did not have employees, property, or bank accounts in
Louisiana. The court held that subjecting the corporations to the corporate
franchise tax because of their indirect ownership of capital through a
limited partnership constituted a prohibited expansion of the scope of the
statute.
Maryland
1.
NIHC, Inc. v. Comptroller of the Treasury, No. 03-C-10-9151 (Md. Cir.
Ct. Dec. 7, 2011). The Circuit Court held that two out-of-state trademark
corporations had nexus with Maryland. One of the corporations
(“N2HC”) licensed trademarks to the ultimate parent (“Nordstrom”) at an
arm’s length rate. The other corporation (“NIHC”) transferred the rights
to license the trademarks to N2HC and, therefore, had reportable gain
under Internal Revenue Code Section 311(b) (“IRC § 311(b)”), which it
was required to defer. The Comptroller assessed NIHC on the deferred
3
gain. The Tax Court affirmed the assessment, finding the activities of
NIHC and N2HC “must be considered as the activities of their parent,
Nordstrom and, as such, there are substantial activities in Maryland.”
NIHC appealed the Tax Court decision to the Circuit Court.
In August 2009, the Circuit Court agreed with NIHC’s position that the
Tax Court failed to consider whether the § 311(b) gain was connected to
any activity in Maryland and whether Maryland, a separate company
reporting state, can tax a deferred gain reported on the federal consolidated
return. The Circuit Court remanded the case to the Tax Court to consider
the two issues.
In July 2010, the Tax Court reaffirmed its earlier decision, and NIHC
again appealed to the Circuit Court. The Circuit Court reversed the Tax
Court on the basis that the deferred gain reported on the federal
consolidated return is not included in the Maryland income tax return
because, under Maryland’s separate company reporting regime, each
member of a consolidated group reports its separate company income
without regard to consolidation.
The case is currently on appeal in the Court of Special Appeals. Oral
argument will likely take place in January 2013.
2.
Gore Enterprise Holdings, Inc. v. Comptroller of the Treasury,
No. 07-C-10-435 (Md. Cir. Ct. Aug. 26, 2011) & In re Future Value, Inc.,
No. C-10-434 (Md. Cir. Ct. Sept. 30, 2011). The Circuit Court held that
two out-of-state subsidiaries that held intellectual property and funds for a
parent corporation located in Maryland were not subject to corporate
income tax in Maryland for their receipt of royalty and interest income.
The court concluded that the Tax Court erred in finding that the
subsidiaries were passive, non-operational entities that did not have a
business existence separate from the parent company. Regarding one of
the subsidiaries, the court determined that the subsidiary had its own
independent business purpose, its own independent business dealings, and
made profits. Regarding the other subsidiary, the court determined that
there was no “tax advantage” to the intercompany relationship and that
there was “no nexus between the transactions involved.”
The Comptroller of the Treasury has appealed the decisions to the Court of
Special Appeals.
I.
Michigan
1.
Vestax Securities Corp. v. Dep’t of Treasury, 798 N.W.2d 15 (Mich.
2011). The Supreme Court of Michigan held that an out-of-state
corporation was not subject to the Michigan Single Business Tax (“SBT”).
4
The corporation, a securities broker-dealer, had contractual relationships
with independent registered representatives (“IRRs”) in Michigan that
used the corporation to facilitate securities transactions.
The Supreme Court stated that the evidentiary record did not support a
determination that the IRRs were the corporation’s agents or that there
was a substantial nexus between Michigan and the corporation’s business
activities sufficient to impose the SBT.
J.
New Jersey
1.
BIS LP, Inc. v. Director, Div. of Taxation, No. A-1172-09T2, 26 N.J. Tax
489 (N.J. Super. Ct. App. Div. Aug. 23, 2011). The New Jersey Superior
Court, Appellate Division held that an out-of-state investment company
that owned a 99% limited partnership interest in a limited partnership
doing business in New Jersey did not have sufficient nexus with New
Jersey for purposes of the Corporation Business Tax (“CBT”) because the
investment company was not doing business in New Jersey and was not
unitary with the limited partnership. The court concluded that the
investment company lacked nexus with New Jersey because it was not
“integrally related” with the limited partnership. The investment company
was not in the same line of business as the limited partnership, did not
substantially overlap with the limited partnership in their officers, did not
share offices, operational facilities, technology or know-how with the
limited partnership, and did not control the limited partnership.
BIS LP, Inc. v. Director, Div. of Taxation, No. 007847-2007 (N.J. Tax Ct.
Oct. 25, 2012). On remand the Tax Court addressed whether the
investment company or the partnership was the actual taxpaying entity for
purposes of claiming a CBT refund. The court held that the investment
company was entitled to the CBT refund because the Division of
Taxation’s regulations made it “abundantly clear” that when a CBT
payment is made on behalf of a non-resident partner, the partner is deemed
to have paid it and is eligible to receive a refund even though the funds
were technically remitted to the State by a third party. Furthermore, the
court found that the legislative history of New Jersey’s statute addressing
payments of CBT by non-resident corporate partners of limited
partnerships demonstrated the Legislature’s intention to have a partner
receive any refund of taxes paid on its behalf by a limited partnership.
2.
N.J.A.C. 18:7-1.8 (amended). Effective August 15, 2011, the Division of
Taxation (“Division”) amended its Corporation Business Tax regulation
regarding nexus of foreign corporations to conform to the 2002 statute.
The regulation provides that the tax is imposed on every foreign
corporation that derives receipts from sources within New Jersey or
5
engages in contacts within New Jersey, provided that the corporation’s
business activity in New Jersey is sufficient to give New Jersey
jurisdiction to tax under federal law.
3.
K.
Telebright Corp. Inc. v. Director, Div. of Taxation, 38 A.3d 604 (N.J.
Super. Ct. App. Div. 2012). The Superior Court, Appellate Division held
that an out-of-state software developing company had nexus with New
Jersey and was subject to the Corporation Business Tax because one of its
employees telecommuted full-time from her New Jersey residence. The
employee developed and wrote software code from a laptop computer in
New Jersey which became a part of a web-based product that the company
sold. The court observed that an employee’s creation of computer code in
New Jersey for her software developer employer was no different from a
foreign manufacturer employing someone to fabricate parts in New Jersey
for a product that will be assembled elsewhere. Rejecting the company’s
Constitutional arguments, the Appellate Division held that the corporation
was subject to tax because the employee’s full-time-basis work in New
Jersey created a sufficient minimum connection with New Jersey to
subject the corporation to tax.
New Mexico
In re Protest of Barnesandnoble.com LLC, 283 P.3d 298 (N.M. Ct. App.
2012), cert. granted, No. 33,627 (N.M. June 22, 2012). The New Mexico
Court of Appeals held that an online bookseller had a substantial nexus
with the State and, therefore, that the Department was justified in
imposing a gross receipts tax on the online bookseller’s sales into the
State.
The online bookseller’s parent company owned a number of other
companies, including a corporation that owned and operated retail
bookstores physically located in New Mexico (“Physically Present
Bookseller”). The online bookseller and the Physically Present Bookseller
both licensed the same trademarks from a third entity. The court stated
that the in-state activities performed under the banner of the subject
trademarks were sufficient to create a nexus between the Physically
Present Bookseller and the trademark licensor. The court then went “one
step further” and imputed the in-state activities of the Physically Present
Bookseller to the online bookseller based on the in-state use of the same
trademarks. The court reasoned that the running of the physical
bookstores in New Mexico strengthened the goodwill behind the
trademarks and that some of the goodwill indirectly accrued to the online
bookseller.
6
Furthermore, the court determined that the subsidiary’s participation in a
multi-retailer gift card program and in a customer loyalty program, while
insufficient to create nexus on their own, were cross-marketing activities
that enhanced goodwill for the online bookseller’s website. Accordingly,
the court held that the online bookseller was properly subject to the State’s
gross receipts tax.
L.
Oklahoma
1.
M.
In re Scioto Insurance Co., 279 P.3d 782 (Okla. 2012). The Oklahoma
Supreme Court held that a company was not subject to Oklahoma’s
corporate net income tax as a result of receiving payments under a
licensing contract that was not made in the State and involved no in-state
performance. Scioto Insurance Company (“Scioto”) was an out-of-state
corporation that licensed trademarks and operating practices to its parent
corporation, Wendy’s International (“Wendy’s International”). Wendy’s
International then sublicensed the intellectual property to Wendy’s
restaurants in various states, including Oklahoma. Wendy’s International
received a royalty from the sublicensees and paid Scioto royalties, which
Wendy’s International deducted on its state tax return. In holding that
Scioto was not subject to the Oklahoma corporate income tax, the court
noted that “Scioto and Wendy’s International, like any taxpayers, are
entitled to rely on settled law . . . to maximize any benefits allowed under
the state and federal tax laws of this nation,” and that “due process is
offended by Oklahoma’s attempt to tax an out of state corporation that has
no contact with Oklahoma other than receiving payments from an
Oklahoma taxpayer (Wendy’s International) who has a bona fide
obligation to do so under a contract not made in Oklahoma.”
Oregon
1.
Ann Sacks Tile & Stone, Inc. v. Dep’t of Revenue, No. TC 4879 (Or. Tax
Ct. Nov. 29, 2011). The Oregon Tax Court held that the parent company
of a taxpayer had nexus with Oregon on the basis of the activities of its
employees, distributors, and authorized service representatives (“ASRs”)
in Oregon. Therefore, the taxpayer was required to include the parent
company’s payroll and sales numbers in its apportionment numerator for
its consolidated Oregon corporation excise tax return. During the tax
years at issue, the parent company used sales representatives to solicit
orders from Oregon customers and entered into contracts with local
distributors and ASRs to provide warranty repair work for some of its
products to Oregon customers. The parent company also sent employees
to Oregon to provide technology assistance and administrative services for
one of its subsidiaries.
7
The taxpayer filed an appeal with the Supreme Court of Oregon. On
September 20, 2012, the appeal was dismissed for lack of jurisdiction
upon the court’s finding that the taxpayer failed to properly serve the
Department of Revenue.
N.
Tennessee
1.
Scholastic Book Clubs, Inc. v. Farr, No. M2011-01443-COA-R3-CV,
373 S.W.3d 558 (Tenn. Ct. App. Jan. 27, 2012), application for permission
to appeal denied, No. M2011-01443-SC-R11-CV, No. M2011-01443-SCR11-CV (Tenn. June 22, 2012), petition for cert. denied, No. 12-374 (U.S.
Nov. 26, 2012). The Tennessee Court of Appeals held that an out-of-state
book distributor had sufficient presence in Tennessee to be subject to the
sales tax. The distributor had no real property, personal property, or
employees located in Tennessee. The distributor made significant sales in
Tennessee by mailing catalogs to teachers who distributed the catalogs to
students, collected the students’ orders and payments, and returned them
to the distributor. The distributor delivered the ordered products by
common carrier. The court rejected the distributor’s constitutional
arguments on the basis that the distributor had used the Tennessee schools
and teachers to create a “de facto marketing and distribution mechanism,”
regardless of whether or not the teachers were agents of the distributor.
Therefore, the court concluded, the distributor’s activities were sufficient
to satisfy the substantial nexus requirement and Quill’s physical presence
standard.
2.
Letter Ruling, No. 11-66 (Tenn. Dep’t of Revenue, Dec. 5, 2011). The
Tennessee Department of Revenue ruled that an out-of-state company that
used local sales representatives to solicit sales of its products was “doing
business” in Tennessee for franchise and excise tax purposes. The
company’s manufacturing and inventory warehousing facilities were
located outside of Tennessee. The company’s sales representatives
solicited sales of its products throughout various states, including in
Tennessee. Orders were sent outside of Tennessee for approval and most
orders were filled by shipment or delivery via the U.S. Postal Service or
common carrier from a point outside Tennessee. However, the company
filled some orders from a point inside Tennessee by utilizing a direct
shipment process with vendors that warehouse and ship goods directly to
the company’s customers. The Department ruled that solicitation by the
sales representatives within Tennessee constituted “doing business” under
the Tennessee statute because the company was “purposefully engaged in .
. . sales activities” within Tennessee “with the object of gain, benefit or
advantage.” The Department also ruled that P.L. 86-272 did not exempt
the company from tax because some orders were filled from inside
Tennessee.
8
3.
O.
Opinion No. 11-71, Tenn. Attorney General (Oct. 3, 2011). The
Tennessee attorney general issued an opinion that a retailer that directly
maintains or owns an in-state warehouse or distribution facility has sales
and use tax nexus with Tennessee for Commerce Clause purposes.
However, if the in-state facility is owned by a retailer’s subsidiary, nexus
is established only if the subsidiary’s in-state activities are significantly
associated with the retailer’s ability to establish and maintain a market in
Tennessee for its sales. When nexus can be established, the retailer’s
acceptance of electronic purchase orders will not affect the retailer’s
liability for collecting and remitting of Tennessee sales taxes.
Washington
1.
Tax Determination No. 10-0057, 30 WTD 82 (Wash. Dep’t of Revenue,
Dec. 20, 2011). The Washington Department of Revenue determined that
an out-of-state mail order retailer had substantial nexus with Washington
for purposes of retail sales tax and business and occupation tax (“B&O
tax”) because its in-state affiliate performed significant services on behalf
of the retailer in relation to the retailer’s ability to establish or maintain a
market in Washington for its sales. The retailer operated from offices
outside of Washington and had no employees or inventory in Washington.
The in-state affiliate distributed the retailer’s catalogs free of charge,
provided limited assistance to the retailer’s customers with respect to
returns of purchases, and sold gift cards that could be redeemed by mail
order, online, or at retail locations. The Department found that the
affiliate’s activities constituted the facilitation of a sale on behalf of the
retailer and, because such activity was significantly associated with the
retailer’s ability to establish or maintain a market in Washington, the
Department properly assessed retail sales tax and B&O tax on the retailer.
2.
Sage V Foods, LLC v. Dep’t of Revenue, No. 11-704 (Wash. Bd. Tax
Appeals Aug. 31, 2012). The Board of Tax Appeals found that an
out-of-state LLC did not have a sufficient nexus to support the imposition
of Washington’s wholesaling business and occupation tax and litter tax.
The Board found that the sole salesman for the LLC visited Washington
only once, for less than an hour, during the seven year audit period and
that such a visit was not a “substantial” activity that was associated with
the LLC’s “ability to establish and maintain” a market within Washington.
Rather, the Board determined that the visit, which did not involve the
solicitation of sales, was “slight or incidental to some other purpose or
activity.” Similarly, the Board found that the LLC’s use of leased rail cars
to deliver its products in Washington was not “significantly associated”
with the LLC’s “ability to establish and maintain a market” because the
delivery activity could have “just as easily been accomplished” by having
the customer itself lease the rail cars.
9
P.
West Virginia
1.
II.
Griffith v. ConAgra Brands, Inc., 728 S.E. 2d 74 (W. Va. 2012). The
West Virginia Supreme Court held that assessments against a foreign
licensor for West Virginia corporation net income and business franchise
tax, on royalties earned from the nationwide licensing of food industry
trademarks and trade names, satisfied neither “purposeful direction” under
the Due Process Clause nor “significant economic presence” under the
Commerce Clause, where the foreign licensor, with no physical presence
in West Virginia, did not sell or distribute food-related products or provide
services in West Virginia and where: (1) all products bearing the
trademarks and trade names were manufactured solely by unrelated or
affiliated licensees of the foreign licensor outside of West Virginia; (2) the
foreign licensor did not direct or dictate how its licensees distributed the
products; and (3) the licensees, operating no retail stores in West Virginia,
sold the products only to wholesalers and retailers in the State.
ADDBACK STATUTES AND DENIALS OF DEDUCTIONS
A.
Indiana
1.
Letter of Findings No. 02-20100412 (Apr. 27, 2011). The Department
determined that interest payments made to a subsidiary under a loan
arrangement were properly added back to a taxpayer’s Indiana corporate
income tax returns, even though the taxpayer had entered into the
intercompany loan arrangement in order to comply with another state’s
requirement for the taxpayer obtaining economic development tax credits
in that state. The Department determined that, while there was a business
purpose for entering into the loan arrangement, the loan lacked economic
substance because there was a circular flow of funds, the subsidiary’s
balance sheet did not show any assets, liabilities, notes receivable, capital
or retained earnings, and the officers and board members of the subsidiary
were all employees of the taxpayer. Therefore, the Department concluded
that it properly disallowed the interest expense deductions to correct the
distortion of the taxpayer’s Indiana-source income.
2.
Letter of Findings No. 02-2010-0220 (July 27, 2011). The Department
disallowed a portion of the taxpayers’ deductions for payments to an outof-state subsidiary for products to be used in the taxpayers’ operations and
cash management services. The Department determined that the payments
were intended to shift the taxpayers’ income out of Indiana and that the
subsidiary’s income from payments for products and services and from
interest were not subject to tax because the subsidiary’s home state did not
impose an income tax on intangibles. Furthermore, because the subsidiary
was a qualified foreign operating corporation, its income was also
10
excluded from tax in states that adopted or required combined reporting.
Therefore, the Department concluded that, because there was a legitimate
concern that the taxpayers had shifted a substantial portion of their Indiana
source income to outside of Indiana, the Department properly disallowed a
portion of the taxpayers’ deductions in order to fairly reflect income from
Indiana sources.
B.
C.
Massachusetts
1.
Kimberly-Clark Corp. v. Comm’r of Revenue, Nos. C282754, C295077,
and C299008 (Mass. App. Tax Bd. Jan. 31, 2011). The Appellate Tax
Board determined that the Commissioner properly disallowed deductions
and required that royalties and interest paid to an intellectual property
management subsidiary and a cash management subsidiary, respectively,
be added back to the taxpayer’s income. The Board found that the
intercompany loans within the cash management system did not constitute
bona fide debt because of the absence of an intent to repay, the absence of
security, default or collateral provisions, and the taxpayer’s failure to
establish that the transactions were at arm’s length. Further, the Board
found that the taxpayer failed to demonstrate economic substance and a
valid business purpose other than a motivation for tax reduction in the
intellectual property transfer and license back transactions because the
royalty payments were immediately returned to the taxpayer through the
operation of the cash management system. The taxpayer appealed the
Board’s decision to the Massachusetts Appeals Court.
2.
Talbots, Inc. v. Comm’r of Revenue, 944 N.E.2d 610 (Mass. App. Ct.
2011), review denied, 949 N.E.2d 925 (Mass. 2011). The Appeals Court
held that sufficient evidence was present to support the determination that
a transfer and license back transaction was a sham because it lacked
economic substance and business purpose beyond the creation of tax
benefits. The subsidiary did not enter into genuine obligations with
unrelated third parties for the use of the marks and the parent, in effect,
paid the liabilities and retained the responsibility to maintain, manage, and
defend the marks, and retained control over the benefits associated with
owning the marks. Accordingly, the Appeals Court held that the
Commissioner properly disallowed deductions for royalties paid by the
parent to the subsidiary for the use of the marks and reattributed to the
parent all of the royalty and interest income earned by the subsidiary.
Michigan
1.
Martha Stewart Living Omnimedia, Inc. v. Dep’t of Treasury, No. 409820
(Mich. Tax Trib. Sept. 1, 2011). The Michigan Tax Tribunal held that a
company properly deducted the income that the company received,
11
through its subsidiary, from an unrelated company (the “Licensee”) for the
use of trademarks owned by the company as royalty income and not
“miscellaneous income” for purposes of the Single Business Tax. The
Tribunal determined that the income fit the definitions of “royalties” under
applicable case law and rejected the Department’s assertion that only the
payments by the Licensee to the subsidiary constituted royalties.
D.
New Jersey
1.
Beneficial New Jersey Inc. v. Director, Div. of Taxation,
No. 009886-2007 (N.J. Tax Ct. Aug. 31, 2010). The New Jersey Tax
Court held that the interest paid to a related entity that borrowed funds
from third parties and then loaned the money to the taxpayer did not have
to be added back because the loans from the related entity had economic
substance as the related entity received more favorable interest rates than
could be obtained by the taxpayer.
a.
Technical Advisory Memorandum, No. TAM-2011-13 (N.J. Div.
of Taxation Feb. 24, 2011). The Division explained its position
that Beneficial does not create a general rule of applicability and
that decisions involving addback exceptions will be made on a
case-by-case basis, based on the totality of circumstances.
However, the Division will permit a cash management exception to
the interest addback when arm’s length interest rates are charged
and will net accounts due to and from the same entity.
2.
Crestron Electronics, Inc. v. Director, Div. of Taxation, Int’l Bus.
Machines Corp. v. Director, Div. of Taxation, 26 N.J. Tax 102 (N.J. Tax
Ct. 2011). The New Jersey Tax Court held that two software corporations
were not required to add back income earned outside the U.S. to their net
income for Corporation Business Tax (“CBT”) purposes because federal
law excluded such income from federal taxable income and there was no
exception to the federal statute in New Jersey law. The Tax Court
observed that: (1) N.J.S.A. 54:10A-4(k) contains plain language coupling
entire net income for CBT purposes to “taxable income, before net
operating loss deduction and special deductions” for federal tax purposes;
and (2) although N.J.S.A. 54:10A-4(k) provides that “entire net income
shall be determined without the exclusion, deduction or credit of” certain
enumerated exceptions, the exclusion of extraterritorial income from
federal taxable income is not among those exceptions.
3.
Technical Advisory Memorandum, No. TAM-2012-1 (N.J. Div. of
Taxation Feb. 16, 2012). The Division issued guidance on the use of
intercompany transfer pricing and advance pricing agreements (“APAs”)
in the context of intercompany transactions, replacing a previously issued
12
guidance (TAM-2011-17). The guidance explains that Internal Revenue
Code Section 482 (“IRC § 482”) standards will be utilized when the
Director examines intercompany transactions and determines whether to
adjust the entire net income of a taxpayer. The Director will accept an
APA with the IRS and third-party pricing studies upon which the APA
was based and will make no adjustments to federal taxable income if the
taxpayer can demonstrate that it has met the standards of IRC § 482.
However, the Director may challenge their underlying assumptions and
interpretations if the “true earnings” of the taxpayer on business carried on
in New Jersey are not reflected by the terms of the APA. The Division
expressed its intent to codify the contents of the guidance in a regulation.
4.
E.
Technical Advisory Memorandum, No. TAM-2011-22 (N.J. Div. of
Taxation Dec. 7, 2011). The Division announced that it intends to use
existing authority to examine transactions between a domestic taxpayer
and its foreign affiliate or parent company to ensure that the domestic
taxpayer “doing business” or “exercising its corporate franchise” in New
Jersey reports the appropriate amount of expenses and deductions arising
from the transactions. Furthermore, the Division may adjust the domestic
taxpayer’s entire net income if the Division determines that the
intercompany expense deductions do not accurately reflect the true income
earned or expenses incurred in New Jersey.
Virginia
1.
Wendy’s Int’l Inc. v. Dep’t of Taxation, No. CL09-3757 (Va. Cir. Ct.
Mar. 29, 2012). The Virginia Circuit Court held that a company was
entitled to refunds related to amounts paid to an affiliated LLC because an
exception to the addback provision was applicable. The company, a
national franchise restaurant chain, licensed trademarks from the LLC and
sublicensed the trademarks to restaurants owned by related and unrelated
companies. The company deducted the royalties paid to the LLC from its
federal income tax returns. The Virginia addback statute provides three
“safe harbor” exceptions to the addback, including when “[a] related
member derives at least one-third of its gross revenues from licensing
intangible property to parties who are unrelated members” and the
expenses are arms’ length. The court determined that the exception to the
addback did not require a direct connection between a related member and
an unrelated licensee and, therefore, the exception to the addback applied
to the company even though the LLC did not receive royalties from direct
licensing.
On November 20, 2012 the Supreme Court of Virginia denied the
Department’s request for appeal of the Circuit Court’s decision.
13
F.
Washington
1.
III.
Tesoro Refining & Marketing Co. v. Dep’t of Revenue, 269 P.3d 1013
(Wash. 2012). The Washington Supreme Court held that an oil refinery
may not claim a business and occupation tax (“B&O tax”) deduction on its
offshore bunker fuel sales because the deduction only applies to taxes on
wholesale and retail sales and not on manufacturing activities.
Washington imposes the B&O tax on manufacturing activities or
wholesale and retail sales. The refinery claimed a deduction based on a
statutory provision allowing a tax deduction for tax “derived from sales of
fuel for consumption outside the territorial waters of the United States, by
vessels used primarily in foreign commerce.” During the appeal process,
a clarifying amendment was signed into law expressly limiting the
applicability of the deduction to wholesale and retail activities, thereby
expressly excluding manufacturing activities. The court concluded that,
based on the plain language of the statute, the deduction applies only to
B&O taxes on wholesale and retail sales and, therefore, the taxpayer was
not allowed to claim the deduction for its bunker fuel sales.
COMBINED REPORTING
A.
Indiana
1.
AE Outfitters Retail Co. v. Dep’t of State Revenue, 957 N.E.2d 221 (Ind.
Tax Ct. Oct. 25, 2011). The Indiana Tax Court granted the taxpayer’s
motion for partial summary judgment and held that the Department was
required to apply all of the methodologies provided for in other remedial
provisions of the Indiana Code before forcing combination. Therefore, the
Department may not force combination unless income cannot be fairly
reflected through separate accounting, the exclusion or inclusion of one or
more factors, the employment of any other reasonable method that would
effectuate an equitable allocation and apportionment or through the use of
the Department’s Internal Revenue Code Section 482-like powers.
2.
Dep’t of State Revenue v. Rent-A-Center East, Inc., 963 N.E.2d 463 (Ind.
2012). The Indiana Supreme Court reversed and remanded the Tax
Court’s summary judgment ruling that required the Department to present
additional evidence beyond the proposed assessment to defend against a
summary judgment motion. The Department asserted that an out-of-state
company that operated retail stores throughout the U.S., including in
Indiana, and paid royalties and strategic assistance fees to two affiliates
must file income tax returns on a combined basis with the affiliates, based
on the statute that gave the Department discretionary authority to
determine a taxpayer’s Indiana source income using an alternative method
of apportionment. The court stated in this procedural matter that, when
14
properly designated in support of its summary judgment motion, the
Department’s notice of proposed assessment constitutes a sufficient prima
facie showing and that the burden then shifts to the taxpayer to present
evidence demonstrating that a genuine issue of material fact exists
regarding the asserted tax liability.
B.
New York State
1.
C.
In re Kellwood Co., DTA No. 820915 (N.Y.S. Tax App. Trib. Sept. 22,
2011). The New York Tax Appeals Tribunal ruled that an out-of-state
corporation was required to file New York corporate franchise tax returns
on a combined basis with one of its wholly-owned non-taxpayer
subsidiaries but not with the other. The first subsidiary (the “Factoring
Company”) performed factoring functions for the corporation, which was
in the business of supplying apparel to retail stores. The second subsidiary
(the “Services Company”) provided administrative services to the
corporation. The Tribunal concluded that the corporation did not rebut the
presumption of distortion with respect to its transactions with the
Factoring Company because it failed to prove that the transactions with
the Factoring Company had economic substance apart from tax
considerations. However, the corporation met its burden of proving that
the transactions with the Services Company had economic substance and a
subjective business purpose.
North Carolina
1.
Delhaize America, Inc. v. Lay, No. COA11-868 (N.C. Ct. App. Aug. 21,
2012). The North Carolina Court of Appeals held that the North Carolina
Department of Revenue had, under prior North Carolina law, properly
combined the income of a taxpayer and its subsidiary upon the
Department’s finding that the taxpayer’s separate entity return failed to
disclose its “true earnings” in the State. The Court of Appeals held that
the forced combination did not violate the taxpayer’s procedural due
process rights because the taxpayer received adequate fair notice, in the
form of a 1987 attorney general’s opinion and several final decisions of
the Department, that the definition of “true earnings” was not limited to a
determination of whether corporations and their affiliates performed
transactions at arm’s length and for fair compensation.
The Court of Appeals found that because the taxpayer received fair notice
of the definition of “true earnings” it could expect combination for
purposes of taxation and, therefore, the penalty did not violate its right to
procedural due process.
15
D.
2.
H.B. 619. On June 30, 2011, legislation was signed into law revising the
Secretary’s authority to redetermine net income, effective for tax years
beginning on or after January 1, 2012. The new law requires the Secretary
to make a written request to a corporation to supply within 90 days any
information necessary to determine whether the corporation’s
intercompany transactions have economic substance and fair market value.
If the Secretary finds as a fact that a corporation’s intercompany
transactions lack economic substance or are not at fair market value, he
may add back, eliminate, or otherwise adjust intercompany transactions,
and if such adjustments are inadequate to properly reflect net income, he
may require combination.
3.
Directives CD-12-01 and CD-12-02 (N.C. Dep’t of Revenue, Apr. 17,
2012). On April 17, 2012, the Department issued two separate Directives:
(1) CD-12-01, applicable for tax years beginning before January 1, 2012;
and (2) CD-12-02, applicable for tax years beginning on or after
January 1, 2012. CD-12-01 and CD-12-02 provide the conditions under
which the Secretary will require a combined return and a list of factors
that the Department will consider in determining whether a report by a
corporation properly discloses its net income attributable to North
Carolina.
4.
S.B. 824. On June 20, 2012, legislation was signed into law that requires
the Department to adopt formal rules regarding its interpretation of the law
allowing the Secretary to redetermine the net income of a corporation.
The new law supersedes CD-12-02, and prohibits the Secretary from using
bulletins or directives to interpret the law allowing the Secretary to
redetermine the net income of a corporation for tax years beginning on or
after January 1, 2012.
South Carolina
1.
Media General Comms. Inc. v. Dep’t of Revenue, 694 S.E.2d 525 (S.C.
2010). The South Carolina Supreme Court upheld an Administrative Law
Court decision that allowed the use of combined reporting as an
alternative apportionment method when the standard separate entity
apportionment method does not fairly represent the taxpayer’s business
activity in South Carolina. The Department had stipulated that the
combined reporting method fairly represented the taxpayer’s business
activity in South Carolina, as compared to use of the separate entity
method. The Court determined that, under the South Carolina statutory
provisions allowing the employment of “any other method” to effectuate
an equitable apportionment where the statutory apportionment formula
does not fairly represent a taxpayer’s business activities in the state,
combined reporting was allowed.
16
IV.
ALLOCATION/APPORTIONMENT
A.
Alaska
1.
B.
H.B. 328 and S.B. 201. On February 17, 2012, legislation was introduced
in the Alaska House of Representatives and Senate that would repeal the
worldwide apportionment formula that oil and gas production companies
operating in Alaska and other jurisdictions, including consolidated groups,
can currently use to compute corporate income tax liability. Such
companies would be required to separately account for income and
deductions from production in Alaska. The changes would also apply to
oil and gas pipeline transportation companies.
California
1.
Gillette Co. et al. v. Franchise Tax Bd., No. A130803, 207 Cal. App. 4th
1369 (Cal. Ct. App. July 24, 2012). The Court of Appeal, First Appellate
District, held that the Multistate Tax Compact (“Compact”) is a valid,
binding compact that obligates member states to offer its multistate
taxpayers the option of using either the Compact’s equally weighted
three-factor formula to apportion and allocate income for state income tax
purposes, or the state’s own alternative apportionment formula, unless and
until a state withdraws from the Compact.
Further, the court held that the Compact specifically extended to the
taxpayers, as third parties regulated under the Compact, the option to elect
to apportion their taxes under the Compact formula and, therefore, the
taxpayers were entitled to seek to enforce this right.
In addition, the court held that because the Compact is both a statute and a
binding agreement among sovereign signatory states, having entered into
it, California could not, by subsequent legislation, unilaterally alter or
amend its terms.
On November 13, 2012, the Franchise Tax Board (“FTB”) filed a petition
for review and a request for judicial notice with the California Supreme
Court. In its request for judicial notice, the FTB asked the court to take
notice of minutes from a December 1, 1972 meeting of the Multistate Tax
Commission that include a resolution by Compact member states
affirming Florida’s legislative action in repealing Articles III and IV of the
Compact and confirming Florida’s continued good standing as a Compact
member state.
2.
FTB Notice 2012-01, (Oct. 5, 2012). The Franchise Tax Board issued a
notice stating its position that a taxpayer cannot elect to utilize the
apportionment methodology contained in the Multistate Tax Compact
17
(“Compact”) on an amended return and that such an election must have
been made on the taxpayer’s original return for the taxable period for
which the election applies. Despite the Franchise Tax Board’s position, in
response to inquiries regarding how a taxpayer should file a protective
claim for refund purporting to make the Compact election, the Notice
explains how such a protective claim should be filed.
C.
Indiana
1.
D.
Department of Revenue v. Miller Brewing Co., No. 49S10-1203-TA-136
(Ind. July 26, 2012). The Indiana Supreme Court held that sales of
beverages prepared for pickup in a neighboring state and delivered to
Indiana customers by common carriers were allocable to Indiana for
purposes of the adjusted gross income tax and supplemental net income
tax. The court held that Indiana Statutes Section 6-3-2-2(e) is
unambiguous in providing that all goods delivered or shipped to Indiana
customers constitute Indiana sales, regardless of the particular
arrangements of the sale. Further, the court found that an example
contained in Indiana’s administrative code, providing that sales are not in
Indiana “if the purchaser picks up the goods at an out-of-state location and
brings them back into Indiana in the purchaser’s own conveyance,” was
both inapplicable to common carrier pick-up sales and without any force
of law.
Massachusetts
1.
AT&T Corp. v. Comm’r of Revenue, C293831 (Ma. App. Tax Bd. June 8,
2011). A telephone company was not required to include receipts from
interstate and international calls in the numerator of its Massachusetts
sales factor for corporate income tax purposes. The Board held that the
company’s income-producing activity was the provision of the entire
telecommunications network and not each individual call for each of its
customers located in Massachusetts and, therefore, the receipts from
interstate and international telecommunications services were not
Massachusetts sales includable in the numerator of the Massachusetts
sales factor. Further, the Board held that access fees paid to local
exchange operating companies in Massachusetts to perform local call
services in Massachusetts for the company should not be included as the
company’s cost of performing its income-producing activity for purposes
of calculating the numerator of the sales factor. The Board concluded that,
under the operational approach, the greater proportion of the company’s
costs were incurred outside of Massachusetts.
18
E.
Michigan
1.
F.
IBM Corp. v. Dep’t of Treasury, No. 306618 (Mich. Ct. App. Nov. 20,
2012). The Michigan Court of Appeals “reluctantly” found that there was
no way to harmonize a Michigan statute that allowed a taxpayer to elect to
apportion its income according to the Multistate Tax Compact’s
(“Compact”) three-factor formula and the Michigan Business Tax Act,
which mandates the use of a single-factor apportionment formula. The
court held that the Business Tax Act repealed by implication the election
provision found in the Compact and that IBM was required to compute its
tax liability pursuant to the Business Tax Act.
New Jersey
1.
Whirlpool Properties, Inc. v. Director, Div. of Taxation, 26 A.3d 446 (N.J.
2011). The New Jersey Supreme Court held that, for corporations having
a substantial nexus with New Jersey, New Jersey’s throwout rule may
apply constitutionally only to untaxed receipts from states lacking
jurisdiction to tax the corporations either due to insufficient connection
with the corporation or similar congressional action such as P.L. 86-272,
but not to receipts that are untaxed because a state chooses not to impose
an income tax.
The plaintiff, a corporation that was located in Michigan and had no
physical presence or activities in New Jersey, earned income by licensing
brand names to its parent corporation, which did business in New Jersey.
The corporation did not file Corporation Business Tax returns or pay tax
during the years in issue. The Division of Taxation assessed tax on the
corporation under the throwout rule, which excludes untaxed receipts from
the sales faction denominator of the New Jersey apportionment formula.1
The corporation challenged the facial constitutionality of the throwout
rule, arguing that the throwout rule results in tax that is not fairly
apportioned because it expands the sales fraction to attribute to New
Jersey any transaction taking place outside New Jersey that is not taxed by
another jurisdiction for any reason.
a.
On September 7, 2011, the Division issued a Notice explaining the
Division’s revised audit policy concerning the application of the
throwout rule to receipts assigned to certain states in accordance
with the decision in Whirlpool.
b.
On September 15, 2012, the Division began offering a limited
voluntary disclosure initiative to companies that have derived
1
The throwout rule was repealed in 2008, effective for privilege periods beginning on or after July 1, 2010.
L. 2008, c. 120.
19
income from the use of intangibles in New Jersey. Under the
initiative, the Division will accept a look back to periods beginning
after December 31, 2003, and will consider discretionary throwout
relief by averaging a throwout receipts fraction with a
non-throwout receipts fraction.
G.
New York
1.
H.
Meredith Corp. v. Tax App. Trib., No. 512597 (N.Y. Sup. Ct. Nov. 21,
2012). The New York Supreme Court, Appellate Division held that a
corporation engaged in publishing and television broadcasting was entitled
to include in the denominator of its property factor the television
programming that it obtained for use under licensing agreements,
regardless of whether the programming was delivered on videotape or by
satellite. The court found that programming on videotape had long been
considered by the Department of Taxation and Finance to be rented
tangible property that could be included in the property factor and
determined that there was “no rational distinction for taxation purposes
between programming sent to a station on videotape and programming
sent via satellite.”
Oregon
1.
AT&T Corp. & Includible Subsidiaries v. Dep’t of Revenue, No. TC 4814
(Or. Tax Ct. Jan. 12, 2012). A telephone company was required to include
receipts from interstate and international calls in the numerator of its
Oregon sales factor for corporate income tax purposes. The company
maintained equipment in Oregon and another state to process calls and
paid access charges to local exchange carriers (“LECs”) in Oregon to
perform local call services in Oregon for the company. Under the statute,
gross receipts are in Oregon if a greater proportion of the incomeproducing activity is performed in Oregon than in any other state, based
on costs of performance. “Costs of performance” is defined as “direct
costs,” interpreted by the Department of Revenue as “costs that are only
incurred because the revenue producing transaction or activity in question
occurred.” The Tax Court concluded that the company’s only direct costs
were access charges and not all costs incurred to engage in the general
business activity with respect to the interstate and international services as
the company alleged. Furthermore, the LECs that collected access charges
were providing local services to the company and not on behalf of the
company. Therefore, the access charges were a direct cost of the
company’s income-producing activity in Oregon. Consequently, the
receipts from interstate and international calls were includable in the
numerator of the sales factor in Oregon.
20
2.
I.
Revenews, Multistate Compact Apportionment Election –Protective
Refund Claim (Or. Dep’t of Revenue Sept. 24, 2012). The Oregon
Department of Revenue announced that the income apportionment
election provided in the Multistate Tax Compact (“Compact”) is not
available on an Oregon tax return. However, the Department
acknowledged that the Compact apportionment election is currently being
challenged in the Oregon Tax Court. See Health Net, Inc. v. Dep’t of
Revenue, No. 120649D (complaint filed in the Magistrate Division on July
2, 2012 and a petition to bypass the Magistrate Division and start the
proceedings in the Regular Division has been filed). Further, the
Department announced that all corporation tax returns will be processed
based on the Department’s position that the Compact apportionment
election is not available, but stated that taxpayers may file a protective
claim to secure the right to a refund. The Department will defer action on
all protective claims for refund until the outcome of the litigation is
known.
South Carolina
1.
Emerson Electric Co. v. Dep’t of Revenue, 719 S.E.2d 650 (S.C. 2011).
The Supreme Court of South Carolina held that a multistate corporation
located outside of South Carolina was required to allocate related expense
deductions to its principal place of business and not South Carolina. The
corporation filed consolidated South Carolina income tax returns with its
subsidiaries and claimed a deduction for expenses related to its receipt of
dividends from its subsidiaries. The court held that the corporation could
not claim the related expense deductions because South Carolina’s
allocation statute required the dividend income to be allocated to the
corporation’s principal place of business, and South Carolina’s “matching
principle” required that the expenses incurred in generating the dividend
income also be allocated to the corporation’s principal place of business.
The court determined that the South Carolina allocation statute did not
discriminate against interstate commerce because it was not a taxing
statute.
2.
CarMax Auto Superstores West Coast, Inc. v. Dep’t of Revenue,
725 S.E.2d 711 (S.C. Ct. App. Mar. 14, 2012). The South Carolina Court
of Appeals reversed and remanded the Administrative Law Court’s
decision, holding that a company did not have the burden of proving that
the Department’s alternative apportionment method was not reasonable.
The company, a subsidiary of a retailer of used cars and light trucks, sold
used vehicles outside of South Carolina and owned intellectual property
during some of the years in issue. The company filed South Carolina
returns using the standard apportionment formula. The Department
adjusted the apportionment formula to exclude the retail income earned by
21
the company outside South Carolina. The parties agreed that the
Department bears the initial burden of proving that the standard formula
does not fairly represent the company’s South Carolina activities.
However, the court held that the Department also bears the burden of
proving that its alternative apportionment formula is reasonable and more
fairly represents the company’s South Carolina activities.
J.
Texas
Comptroller Decision Nos. 106,503, 106,734 and 106,735 (Aug. 10,
2012). The Texas Comptroller of Public Accounts (“Comptroller”) denied
Graphic Packaging Corp.’s (“Graphic”) claim that it had the right to file
its 2010 Texas franchise tax report using the three-factor apportionment
method provided by the Multistate Tax Compact (“Compact”). The
Comptroller also denied Graphic’s refund claims for 2009 and 2008, in
which Graphic contended that it should be allowed to use the Compact’s
apportionment method. The Comptroller found that Graphic was required
to apportion its franchise tax under the single-factor apportionment
formula in the Texas tax code and that it could not elect to apportion the
tax under the Compact’s three-factor formula. The Comptroller stated that
the same issue had been addressed in three previous cases and that
Graphic had not raised any arguments that required a reconsideration of
the prior decisions. Graphic has filed a petition in the District Court of
Travis County, Texas.
V.
BUSINESS/NON-BUSINESS INCOME AND IRC § 338(H)(10) ELECTIONS
A.
Alabama
1.
In re Kimberly-Clark Corp. & Kimberly-Clark Worldwide, Inc. v. Dep’t
of Revenue, No. 2100803 and No. 2100811 (Ala. Civ. App. Feb. 17,
2012), petition for cert. filed, No. 12-401 (U.S. Sept. 27, 2012). On
remand, the Court of Civil Appeals held that the gain from the sale of an
Alabama mill and timberland by a corporation primarily engaged in the
manufacture and sale of paper-related consumer products was nonbusiness
income allocable to Alabama. The corporation had sold the mill and
timberland pursuant to a change in corporate strategy that shifted focus to
its consumer products rather than its manufacturing. The court determined
that the sale of the properties was an extraordinary transaction that
represented a divestiture by the corporation of a part of its business rather
than a transaction conducted in the regular course of the corporation’s
business and, therefore, the gain from the sale was properly classified as
nonbusiness income.
22
B.
Louisiana
1.
BP Products North America Inc. v. Bridges, No. 2010 CA 1860 (La. Ct.
App. Aug. 10, 2011). The Louisiana Court of Appeal held that an oil
company’s refinery sale was made in the regular course of its business
and, therefore, the sale proceeds were properly classified as apportionable
income. The oil company sold a refinery plant as part of its parent
company’s strategic plans. BP Products treated the proceeds from the
refinery sale as apportionable income. Following an audit, the Department
determined that the sale proceeds should have been designated as allocable
income because the refinery was located in Louisiana. Upon appeal by the
oil company, the trial court held that the sale proceeds were properly
classified as apportionable income because the sale was made in the
regular course of BP Products’ business.
The Court of Appeal determined that the refinery sale was not a one-time
event because the parent company frequently bought and sold refineries as
part of its overall business. Moreover, the sale did not take the oil
company out of the refinery business or terminate that segment of its
operations. The Court of Appeal noted that the sale proceeds were
invested in aspects of the parent company’s overall business and not
distributed to shareholders.
C.
Michigan
1.
Reynolds Metals Co. LLC v. Dep’t of Treasury, No. 300001 (Mich. Ct.
App. Mar. 20, 2012). The Michigan Court of Appeals held that an out-ofstate corporation was not required to include the capital gains from the
sale of a foreign joint venture in its Single Business Tax (“SBT”) base
because the corporation did not operate a unitary business with the foreign
joint venture. The corporation, which manufactured and distributed
aluminum products, held an interest in a joint venture through its wholly
owned subsidiary with three unrelated companies for the manufacturing
and refining of alumina in Australia. The corporation incurred capital
gains when it sold the subsidiary as part of a merger. The Court of
Appeals held that the unitary business principle applies to the SBT, a
value-added tax, as well as to income-based taxes, and that the corporation
was not unitary with the joint venture.
2.
E I Du Pont De Nemours & Co. v. Dep’t of Treasury, No. 304758 (Mich.
Ct. App. Aug. 7, 2012). The Michigan Court of Appeals held that a
taxpayer, an out-of-state corporation, was not required to include the
capital gains from the sale of its interest in a joint venture in its Single
Business Tax base because the taxpayer did not operate a unitary business
with the joint venture. The taxpayer formed the joint venture with an
23
unrelated corporation. The unrelated corporation subsequently sold its
50% interest in the venture to a subsidiary of the taxpayer, after which the
taxpayer maintained the venture’s legal structure rather than
reincorporating the venture into the taxpayer’s business. The taxpayer
incurred capital gains when it later sold its entire ownership interest in the
venture. The Court of Appeals held that the taxpayer was not unitary with
the joint venture because there was no evidence of functional integration,
centralized management or economies of scale.
The Court of Appeals also held that the taxpayer’s profits on currency
exchanges from foreign exchange contracts constituted business activity
and were, therefore, correctly included in the taxpayer’s sales factor.
D.
Missouri
1.
E.
Ensign-Bickford Industries, Inc. v. Dep’t of Revenue, No. 09-0709 RI
(Mo. Admin. Hearing Comm’n Nov. 30, 2011). The Administrative
Hearing Commission (“AHC”) ruled that capital gains from the sale of a
company’s interest in a commercial explosives business was a one-time
extraordinary event and that the interest earned on those capital gains
constituted nonbusiness income. The company owned several
subsidiaries, including a company that manufactured pet food flavor
enhancers and a company engaged in a commercial explosives business.
Applying the transactional and functional tests from ABB C-E Nuclear
Power, the AHC held that: (1) the transaction in question was a one-time,
extraordinary event; and (2) the multi-step, multi-year process through
which the company sold its interest in the commercial explosives business
did not make the commercial explosives business an integral part of the
company’s regular business. Further, the AHC stated that, under a
Constitutional analysis, Missouri could not apportion the income in
question because of the absence of functional integration, centralized
management, and economies of scale.
Oregon
1.
Oracle Corp. v. Dep’t of Revenue, No. TC-MD 070762C (Or. Tax Ct.
Mag. Div. Jan. 19, 2012). The Tax Court held that gains from the sales of
stock of two subsidiaries were business income and, therefore, includable
in the sales factor denominator for corporate income tax purposes. The
taxpayer’s primary business consisted of the sale of software, installation
of software, software support, and training for computer software. The
taxpayer sold its stock in: (1) a Japanese subsidiary that sold software to
the Japanese market through various licenses with the taxpayer; and (2) a
U.S. subsidiary that was in the business of developing and licensing
software that provided interactive network communications with
24
consumer appliances. The statute provided that “sales” included gains
from the sale of intangible assets not derived from the taxpayer’s primary
business activity but included in the taxpayer’s business income. The Tax
Court found that the subsidiary was unitary with the taxpayer under the
functional test and, therefore, that the income from the sale of the U.S.
subsidiary stock was business income.
F.
Pennsylvania
1.
VI.
Glatfelter Pulpwood Co. v. Commonwealth of Pennsylvania, 19 A.3d 572
(Pa. Commw. Ct. 2011), oral arguments before the Pa. S. Ct. May 8, 2012.
The Pennsylvania Commonwealth Court held that a company’s gain from
the disposition of its timberland property constituted taxable business
income because the sale was part of its business operations management.
The company procured pulpwood for its parent’s paper manufacturing
operations and operated the parent’s paper mill. The company divested
some of its timberland holdings and realized a net gain, which the
company distributed to the parent and reported as nonbusiness income in
an amended return. The parent used the proceeds to pay debt and
shareholder dividends. The court held that the timberland sale was not a
liquidation of the company’s business because the company still owned
several thousand acres of timberland in Delaware. Moreover, the court
found that the sale did not change the scope of the company’s business
and the company still continued to sell pulp to its parent as part of its
ongoing business activities. Further, the court rejected the company’s
Constitutional arguments.
SALES AND USE TAX
A.
Alabama
Kelly’s Food Concepts of Alabama, LLP v. Alabama Dep’t of Revenue,
No. S. 10-1131 (Ala. Dep’t of Revenue Jan. 5, 2012). An ALJ upheld an
assessment against a restaurant supply business for failing to remit sales
tax on sales made to its Alabama restaurant customers. The taxpayer had
sold napkins, plastic utensils, straws, etc., to licensed retail merchants that
sold food at retail to the public. The ALJ found that because there was no
evidence demonstrating that the taxpayer’s restaurant customers
considered or factored the cost of the napkins, plastic utensils, straws, etc.,
into the prices they charged their customers for food, the taxpayer’s
restaurant customers were not reselling the disputed items to their
customers. Therefore, the ALJ concluded the sales were taxable retail
sales not for resale.
25
B.
California
1.
C.
Indiana
1.
D.
Indiana Dep’t of Revenue v. AOL, Inc., No. 49S10-1108-TA-514 (Ind.
Mar. 16, 2012). The Indiana Supreme Court held that an out-of-state
online service provider was liable for use tax on promotional materials
sent to Indiana residents from out-of-state producers because the service
provider purchased the production and mailing of the promotional
materials in retail transactions and later used them in Indiana. The service
provider hired third-party assembly houses and letter shops to produce and
assemble CD-ROM packages containing its client software and
promotional materials and mail them from outside Indiana to residents in
Indiana. The service provider provided some of the necessary raw
materials for assembling the packages. The court determined that the sales
of the CD-ROM packages to the service provider were taxable retail
transactions that became subject to use tax once the products were used in
Indiana.
Maine
1.
E.
GMRI, Inc. v. California (Cal. S. Bd. Eq. Nov. 15, 2011). The California
State Board of Equalization held that sales tax is not due on gratuities that
are included on checks of parties of eight or more customers when the
customers of the Red Lobster and Olive Garden restaurants changed the
gratuity from the amount specified on the menu.
Blue Yonder, LLC v. State Tax Assessor, 17 A.3d 667 (Me. 2011). The
Maine Supreme Court held that an out-of-state LLC’s aircraft was exempt
from use tax because the aircraft was purchased and registered outside
Maine and only used in Maine for approximately 21 full days. The LLC’s
owner rented the aircraft for his personal and business use as well as for
delivering ill and injured patients through a humanitarian program. The
court held that the aircraft qualified for the statutory exemption for
property purchased and used outside Maine for more than 12 months.
Although the statute did not indicate the quantity of out-of-state use during
the 12-month period that would trigger the exemption, the court did not
establish any bright-line test and concluded that the exemption applied
because use of the aircraft outside Maine was sufficiently substantial to
make unjust the imposition of a use tax.
Missouri
1.
JNM Air Delaware LLC v. Director of Revenue, No. 10-1619 RS (Mo.
Admin. Hearing Comm. Nov. 2, 2011). The Commission ruled that an
out-of-state LLC’s purchase of an aircraft that was delivered outside of
26
Missouri was properly subject to Missouri use tax. The LLC, which had a
principal place of business in Missouri, purchased the aircraft from a
company located in Missouri but took possession of the aircraft in
Delaware. The Commission rejected the LLC’s argument that the use tax
assessment violated the Commerce Clause on the basis that the it had no
substantial nexus with Missouri. The Commission held that the LLC
could be subject to the use tax under the Complete Auto four-prong test,
reasoning that the LLC had a substantial physical presence in Missouri
and because of the aircraft’s presence within Missouri.
F.
G.
New York State
1.
EchoStar Satellite Corp. v. Tax App. Trib., No. 87 (N.Y. Dec. 18, 2012).
The New York Court of Appeals held that a satellite television provider’s
purchases of equipment used to deliver programming to its customers
were exempt from sales and use taxes because the provider obtained the
equipment in order to resell or lease it to its customers and, thus, qualified
for New York’s resale exemption.
2.
Advisory Opinion (N.Y.S. Dep’t of Tax. & Fin. July 11, 2012). The
Department ruled that a company’s charges for the service and use of its
portable toilets to customers in the construction industry and engaged in
capital improvements were not capital improvement-related charges that
qualified for an exclusion from sales and use tax. The Department found
that the provision of portable toilet facilities and accompanying waste
removal was not analogous to exclusions for the removal of construction
debris from a construction site. Further, the Department found that the
provision of portable toilet facilities did not qualify for an exclusion as a
“purchase of the service of trash or debris removal” because the purchaser
of the service did not generate the trash or debris as a result of a capital
improvement.
North Carolina
1.
Technocom Bus. Systems, Inc. v. Dep’t of Revenue, No. COA11-655
(N.C. Ct. App. Feb. 21, 2012). The North Carolina Court of Appeals held
that an office equipment leasing company that purchased and used parts,
supplies, and materials to fulfill its optional maintenance agreements was
entitled to a use tax credit against sales taxes erroneously collected and
paid on the optional maintenance agreements. The Department refused to
credit the company because there was allegedly no proof that the company
had refunded its customers the sales tax erroneously collected. The court
held that the Department must credit the company based on the general
provision in the North Carolina statutes that required a credit for excess
taxes paid. The court ruled that a more specific provision, which
27
prohibited a refund on taxes erroneously collected on “exempt or
nontaxable sales,” did not govern because it only applies to “exempt or
nontaxable sales” and the Department concluded that the optional
maintenance agreements were subject to use taxes and not sales taxes.
H.
South Carolina
1.
I.
Washington
1.
VII.
Revenue Ruling No. 12-1 (S.C. Dep’t of Revenue Mar. 20, 2012). The
Department ruled that software delivered via the Internet from a seller’s
laptop to a customer’s computer at the customer’s location is not subject to
sales tax because the software is not delivered by tangible means (such as
by tape, diskette or flash drive). Furthermore, the Department ruled that
changes made directly to the source code of a customer’s software by a
software programmer at the customer’s location are not subject to sales
and use tax because the software programmer has provided a service and
software and no software was sold and delivered.
Tax Determination No. 11-0053 (Wash. Dep’t of Revenue Sept. 27, 2012).
The Appeals Division of the Department of Revenue held that a taxpayer
was not entitled to a retail sales and use tax exemption on its purchases of
machinery and equipment used in its automobile crushing activities
because its activities did not constitute a “manufacturing operation,” as
required under the exemption statutes. The Appeals Division found that
the activities did not qualify because the taxpayer did not produce a “new,
different, or useful product.” Although the taxpayer created a more
marketable product, the Appeals Division found that the taxpayer did not
significantly change the physical form or the underlying properties of the
steel vehicle hulks being crushed.
MISCELLANEOUS ISSUES
A.
Alabama
1.
Watwood MD, PA v. Dep’t of Revenue, No. BPT. 12-580 (Ala. Dep’t of
Revenue Aug. 22, 2012). An ALJ upheld assessments for unpaid business
privilege taxes despite the taxpayer’s claim that it did not conduct any
business in Alabama during the years assessed. The Department argued
that the business privilege tax is imposed on the privilege of doing
business in Alabama, regardless of whether any business is actually
conducted in the State.
28
B.
California
1.
Dicon Fiberoptics, Inc. v. Franchise Tax Bd., 274 P.3d 446 (Cal. 2012).
The California Supreme Court held that a certification issued by a
governmental agency does not constitute prima facie evidence that such
employees were “qualified employees” for purposes of California’s
Enterprise Zone hiring credits (“EZ Credits”).
The Franchise Tax Board (“FTB”) auditor had denied the taxpayer’s EZ
Credits because the taxpayer did not prove that each employee at issue met
the statutory requirements to be a “qualified employee” even though the
taxpayer had valid, government-issued vouchers for all of the employees
at issue. The court held that FTB was permitted to look behind the
vouchers and that the taxpayer was obligated to provide additional
documents to prove that the employees were “qualified employees.”
C.
Illinois
1.
Metro. Life Ins. Co. v. Hamer, No. 1-11-0400 (Ill. App. Ct. Mar. 5, 2012),
reh’g denied, (Mar. 23, 2012), petition for leave to appeal allowed, No.
114234 (Ill. Sept. 26, 2012). The Illinois Court of Appeals held that a
taxpayer was not subject to a double interest penalty for additional income
taxes that were assessed after an amnesty period had ended. The court
found that the phrase “all taxes due” in the amnesty provision meant
“those taxes that a taxpayer knew were due and owing during the amnesty
period” and, therefore, did not include amounts determined to be owed
under state and federal audits that were on-going during the amnesty
period and for which final determinations were not issued until nearly a
year after the amnesty period had concluded. The court stated that it was
“unable to discern any logical interpretation” of the Department of
Revenue’s emergency rule providing that, to avoid the double interest
penalty, taxpayers must pay its entire liability during the audit period
“irrespective of whether [its] liability is known to the Department or the
taxpayer.” In addition, the court found that the emergency rule requiring
taxpayers who were under audit during the amnesty period to make a
“good faith estimate” of their tax liability to avoid the double interest
penalty exceeded the legislative intent and actual language of the statute.
2.
Marriott Int’l Inc. v. Hamer, No. 1-11-1406 (Ill. App. Ct. Aug. 22, 2012).
The Illinois Court of Appeals held that a taxpayer was subject to a double
interest penalty for additional income taxes that were assessed after an
amnesty period had ended. In reaching its decision, the court found that
the phrase “all taxes due” in the amnesty provision meant “those taxes due
on the date the tax return for that year is to be filed, irrespective of
whether the Department or the taxpayer is aware of their existence and
29
irrespective of whether the Department has issued a formal assessment.”
Ultimately, the court held that because the taxpayer did not satisfy its
entire liability by paying all taxes due for the tax years during the amnesty
period, the taxpayer was liable for double interest.
D.
New Jersey
1.
E.
North Carolina
1.
F.
J. McIntyre Machinery, Ltd. v. Nicastro, 131 S. Ct. 2780 (2011). The U.S.
Supreme Court reversed the New Jersey Supreme Court’s decision in
holding that the state’s courts could not exercise jurisdiction over a foreign
manufacturer of a product because the manufacturer “knew or reasonably
should have known” that its product was being sold through a nationwide
distribution system that might lead to its products being sold in any of the
50 state, where the manufacturer had never advertised in, sent goods to, or
in any relevant sense targeted the state.
Goodyear Dunlop Tires Operations, S.A. v. Brown, 131 S. Ct. 2846
(2011). The U.S. Supreme Court held that the foreign subsidiaries of a
corporation were not subject to general jurisdiction on causes of action not
arising out of or related to any contacts with North Carolina. The foreign
subsidiaries, which manufactured tires, were sued in North Carolina by the
parents of two boys who died in a bus accident in France, alleging that
defective tires caused the deaths. The U.S. Supreme Court concluded that
the foreign subsidiaries’ connections to North Carolina, which consisted
only of placing products in the “stream of commerce” that were
subsequently distributed in the State by other entities, fell “far short of the
continuous and systematic general business contacts” necessary for North
Carolina to “entertain suit against them on claims unrelated to anything
that connects them to the State.”
Oregon
1.
Powerex Corp. v. Dep’t of Revenue, No. TC 4800 (Or. Tax Ct. Sept. 17,
2012). The Oregon Tax Court held that a taxpayer’s sales of electricity
were sales other than sales of tangible personal property. The court based
its holding on the testimony and material submitted by expert witnesses as
to the nature of electricity, the positions of the MTC and other UDITPA
states, and considerations of uniformity and consistency in the application
of UDITPA provisions to taxpayers generally. Further, under Oregon’s
sourcing provisions for sales other than sales of tangible personal
property, the court found that the greater portion of the costs of income
producing activity related to the taxpayer’s sales of electricity occurred at
its office and trading location in Canada. Accordingly, the court held that
30
the revenue from the sales of electricity could not be included in the
numerator of the taxpayer’s Oregon sales factor.
In addition, the court held that the sales of the natural gas at issue were not
Oregon sales. The court reasoned that the purpose of the sales factor in
apportionment is to recognize the contribution of the market state to the
income producing process and that such a purpose was best served by
applying a destination rule.
© 2012 Morrison & Foerster LLP. The views expressed in this article are those of the authors only, are intended to
be general in nature, and are not attributable to Morrison & Foerster LLP or any of its clients. The information
provided herein may not be applicable in all situations and should not be acted on without specific legal advice
based on particular situations.
1071367
31
January–February 2013
Nexus News
By Maryann B. Gall and Laura A. Kulwicki
2012 Nexus Year in Review: Will 2013 Bring More of the Same?
T
Maryann
nB
B. Gall,
all, Esq., is a mem
member
mber
of the CCH State Tax Advisory Board
as well as numerous other boards. She
is a nationally recognized speaker and
her practice is concentrated in the areas
of state and local taxation, with an emphasis on multistate issues for taxpayers
doing business across the country.
Laura A. Kulwicki, Esq., is Of Counsel
in the Akron, Ohio office of Vorys,
Sater, Seymour and Pease LLP and a
member of the firm’s tax group. Her
practice focuses on state and local taxation, with an emphasis on multistate issues that affect taxpayers doing business
nationwide and she is also a nationally
recognized speaker.
©2012
wenty years after the U.S. Supreme Court last
spoke on nexus and with Quill and Wrigley
truly coming of age, we are in many ways still
no closer to understanding the limits of state authority
to tax than we were in 1992, when these landmark
cases were first handed down. While we know that
property, people, and other direct ties create nexus,
how much of it is needed to support taxing jurisdiction? What kinds of third-party relationships create
nexus? How do the federal checks and balances
that limit state authority to tax come into play now?
How far is too far when states try to reach out and
tax someone?
These themes are present throughout most of this
year’s legislative, judicial, and administrative nexus
developments.
Constitutional analysis has also come
p
full
with
revisiting
traditional
ll ccircle,
rc e wi
w
th ssome
ome ccourts
rts re
visiting the tra
dition
underpinnings
of ne
nexus
analysis.
Whereas
due
pronderpinni gs o
x ana
ysis. W
hereas d
ue pro
cess limits on state taxation largely took a back seat
to the Commerce Clause in nexus cases after Quill,
this year the Due Process Clause re-emerged as a real
check on state authority to tax. The new emphasis
on due process—which provides certain minimum
protections that cannot be eliminated by Congress—
is particularly instructive in light of recent progress
toward federal legislation. Indeed, 2012 was marked
by renewed momentum in federal legislative efforts
affecting state jurisdiction to tax and is certain to color
the dialogue and remain in the spotlight throughout
the coming year.
The following article highlights some of the more
noteworthy developments in nexus in 2012. While
by no means exhaustive, it provides a good picture of
the nexus trends that we can expect to see continue
in the coming year.
CCH. All Rights Reserved.
7
Nexus News
In-State Employees
Occasional In-State Visits
Occasional in-state employee visits have proven to be
one of the most enduring “gray areas” of nexus law in
the 20 years since Quill was decided. Litigation surrounding just how much physical presence is enough
to create nexus began almost immediately after Quill
and has remained a hotbed area of controversy ever
since. Despite frequent litigation and requests for
advice on the subject, states differ in their approach
to determining when occasional in-state employee
visits create nexus. Some states have sought to eliminate the nexus uncertainty by enacting safe harbors
to specify exactly how many visits, or exactly which
types of activity, a company can engage in without
creating nexus. What is clear is that one size does not
fit all, and nexus enforcement and litigation in this
area is certain to persist in the coming year. A few
recent developments are highlighted below.
Washington: Department of Revenue
Determination No. 11-0225
Pennsylvania: Sales Tax Bulletin No. 2011-01
Taxpayer is an out-of-state corporation that makes
wholesale sales of food products in stores across
the Un
United
States and abroad. It also makes retail
ited St
sales
through a customer service
lees to
o individuals
i divi
in
di iid
phone
ho
one number
n
num
mberr and
a itss website.
an
websi e. The wholesale
wholesa and
retail
sales
eta
ail sa
ales that
that Taxpayer
Ta ay makes
ke in Washington
ashingt result
from
Internet
orr ttradeshows
outside
ultt fro
m In
nternet searches
arc
hows o
the stat
state
Washington.
t te off W
Wa
hin
i
Taxpayer has never had any physical presence
in
p
Washington, other than two
tw visits
v sits by its
t national
national
sales manager to a wholesale
esa customer
customer in
n the
the state.
staat .
The purpose of the visits was unrelated to any sales
in Washington, but instead sought to promote the
sale of Taxpayer’s products overseas. The Department
of Revenue ruled that such sporadic and indirect
contact with the state did not establish nexus in
Washington. Because Taxpayer did not sell any of its
products at the customer’s in-state stores or engage
in any other marketing activities in Washington, the
Department agreed that occasional visits did not
create substantial nexus.
An out-of-state limited liability company (Company)
and its affiliate, a related company (Retail Merchant),
sell video games and products to distributors and
retailers. The affiliated Retail Merchant hosted an
©2012
The Pennsylvania Department of Revenue issued a
Tax Bulletin to explain its new enforcement position
regarding sales tax nexus for remote sellers, unveiling a new, aggressive policy in nexus interpretation
and enforcement. One of the highlighted areas targets remote sellers that have employee(s) regularly
traveling to Pennsylvania for any purpose related to
its business activity.
Georgia: New Trade Show Exemption:
Ga. Code
Codee Ann.
Ann
n. § 48-8-2
48 8-2 (8)(I)(iii)
(8)(I)(iii)
(
The
he latest
atest addition
ddit on to thee growing
grow ng number
n mber of
of states
state
that have specifically adopted a trade show safe
harbor is Georgia. Under Georgia’s new law, a
seller will not be considered a “dealer” for sales tax
purposes if its physical presence in the state is limited to participating in convention and trade show
activities, provided that such activities are limited to
no more than five days in any 12-month period and
the seller did not derive more than $100,000 of net
income from those activities in Georgia during the
prior calendar year.
Telecommuting Employees
Indiana Ruling: Letter of Findings
No. 02-20110251
8
annual “retailer summit” in Indiana for several days
each year and sent its employees into the state to attend the convention and sell its products there. The
Company’s employees did not come into Indiana for
the convention, nor does it have any other presence
or physical connections with the state.
The Indiana Department of Revenue found that,
based on P.L. 86-272, the Company was not subject
to tax in Indiana. The related Retail Merchant, however, was not similarly protected because its activities
went beyond “mere solicitation” and activities closely
tied to “mere solicitation,” and these activities were
more than de minimis. The Department noted that
“[a]s a leader in its industry, Retail Merchant has a
large presence at the convention that took place in
Indiana annually during the periods at issue and
made significant sales in Indiana at that time.” These
activities exceeded the scope of P.L. 86-272’s immunity and created Indiana tax obligations for the
Retail Merchant.
With today’s increasingly mobile workforce and
economy, companies are often faced with nexus issues resulting from telecommuting employees. In a
typical situation, an out-of-state move triggered by a
relocated spouse or other personal reasons prompts
CCH. All Rights Reserved.
January–February 2013
an employer to consider allowing an employee to
work from home in another state. This may create
some unanticipated nexus consequences if the company does not otherwise have nexus in that state.
Two recent cases—one from New Jersey and one
from California—illustrate the nexus pitfalls created
by telecommuting employees.
New Jersey: Telebright Corporation, Inc.
v. Director, Division of Taxation
In this case, the New Jersey Division of Taxation
successfully sought to tax Telebright, a Marylandbased company, after it allowed one employee to
telecommute from home in New Jersey on a full-time
basis. The employee had worked for Telebright as a
software developer in Maryland before relocating
to New Jersey due to a spouse’s job change. The
employee developed and wrote software code on a
laptop computer from her new home in New Jersey
and uploaded it to Telebright’s computer in Maryland.
The employee began and ended her workday by
checking in electronically or by phone from home,
and regularly received assignments from her supervisor by phone or email as well.
The New Jersey Superior Court held that Telebright
was subject
subjecct to New Jersey’s Corporation Business
Tax
ax (CBT).
(CB
BT) First,
BT).
Fi t, the court found that the company
Firs
as defined by the
wass “doing
“do
do
oingg business,”
bussin
he statute
statu and
regulations,
its
carried
egu
gulatiionss, because
be
eca
it employee
plo
arried out
o the
purpose
Telebright’s
business
urposee of Tele
ebrigh
g s busine
ss in the state by creating com
computer
Jersey residence.
mputtter ccode
de from
d
m her New
e Je
id
Turning next to the constitutional challenges, the
court rejected Telebright’s
t s claim
aim
m that
that subjecting
subjecting it
it
to tax would violate thee Due
D Process
Process Clause
C ause and
and
the Commerce Clause. The court found that the employee’s daily presence in the state for purposes of
carrying out responsibilities for Telebright satisfied
the substantial nexus requirement of the Commerce
Clause. It also found that due process was satisfied
because the corporation enjoyed the benefits of the
state’s labor market and had “fair warning” that it
may be subject to tax in the state.
California: Appeal of Warwick McKinley
Inc., California State Board
of Equalization, Case No. 489090
Taxpayer was a Massachusetts corporation that did
not maintain an office in California but had an employee that did consulting and recruiting work from
her home there.
JOURNAL OF STATE TAXATION
The Franchise Tax Board argued that the company’s
maintenance of a single employee in-state provided
substantial presence or nexus to justify imposition
of the California tax. The corporation asserted that
it did not have any California clients, its employee’s
in-home office was not “publicly attributed” to the
company, and its employee engaged in protected
sales activities as defined in P.L. 86-272.
The State Board of Equalization found that the
employee’s California activities were in the nature of
consulting and recruiting services and did not involve
the solicitation of tangible personal property—the
activity protected by P.L. 86-272. Consequently, P.L.
86-272 did not apply to shield the corporation from
California tax liability.
Third-Party Nexus: Agents,
Independent Contractors,
Representatives
Traditionally, an out-of-state company cannot avoid
nexus by hiring a third party in the state to perform
customer-related activities on its behalf. Two recent
rulings from Kansas and Missouri illustrate this basic
tenet of nexus law. In each case, the Department
concluded that hiring unaffiliated local companies
to perform installation services for an out-of-state
company created nexus.
The nexus questions are far less clear cut, however,
whenever there is no formal relationship between
the parties. The use of unpaid “volunteers” or other
third
hird parties
parties that
that lack
lack a formal
ormal relationship
elatii nship with
w h the
wit
th
out-of-state
out-o
of-state seller
sel er iss an unresolved
unreso
olved area
area of
of nexus
nexu
law. While courts are split on this question, two new
cases involving out-of-state bookseller Scholastic
Book Clubs, Inc. (Scholastic) bring the question
of unpaid representatives into sharper focus. Prior
to Quill, Scholastic litigated the nexus issue in a
number of states, prevailing in Michigan but losing
in California and Kansas. Now, Connecticut and
Tennessee join the ranks by concluding that the
out-of-state bookseller has nexus based on its relationship with in-state teachers. The U.S. Supreme
Court declined to review the Connecticut Supreme
Court’s decision, and Scholastic’s petition for certiorari has likewise been denied in the Tennessee matter.
Outside the book club context, the Washington
Department of Revenue similarly concluded that
an out-of-state company had nexus for purposes of
Washington’s B&O tax because it used unaffiliated
9
Nexus News
seeking to produce revenue for themselves or Scholastic. Key to the court’s decision was the fact that
the “teachers serve as the sole conduit through which
[Scholastic] advertises, markets, sells and delivers its
products to Connecticut schoolchildren.” The court
noted that approximately 14,000 teachers participate in Scholastic’s programs and the company has
Connecticut Supreme Court
no other personnel or means of selling its products
Scholastic Book Clubs, Inc. v. Commissioner in Connecticut. Because the principal function of
the teachers was to serve as the exclusive vehicle
of Revenue Services
for selling products, the court found that they were
Scholastic’s representatives for nexus purposes.
Scholastic is a Missouri-based company that sells
Scholastic filed a petition for certiorari to the
books to school children by distributing catalogs
U.S. Supreme Court, asking the Court to provide
to teachers nationwide, including teachers in
clear instructions both to
Connecticut. All comthe lower court and the
munication is by mail or
direct-marketing industry
common carrier, and the
The nexus questions are far less
on the question of whether
company has no tradiclear
cut,
however,
whenever
there
uncompensated third partional physical presence
is no formal relationship between
ties—including customers
in the state. However, the
like schoolteachers—who
teachers disseminate the
the parties. The use of unpaid
are not controlled by the
catalogs to students in
“volunteers”
or
other
third
parties
retailer and have no legal
their classroom, collect
that lack a formal relationship
or agency relationship
orders and payment from
with it, can nonetheless
the students and submit
with the out-of-state seller is an
create a substantial nexus
them
and
m to
o Scholastic,
Sccho
unresolved area of nexus law.
for a mail-order company.
distribute
merchandise
sttribu
ib ute me
rc
Scholastic argued that the
ordered
rde
ered
d byy thee students.
s
nts.
varied interpretations of Quill in state courts have
Based
the
Bas
ed on
o these
th
hesee facts,
fa
th Commissioner
mm
er of Revenue
Re
produced a “crazy quilt” of nexus law, displacing the
Services
issued
erv
vices iss
sued
d a ssales/use
s/u tax
x aassessment
ment to Schoclear, bright-line “substantial nexus” rule confirmed
lastic,
that the
company
had
tiic, aasserting
sseertin
ti
th
he co
pan h
d suffi
f cient
and intended in Quill. On October 9, 2012, the U.S.
nexus b
because the schoolteachers acted as its “inSupreme
Court
declined
case.
state representatives.”
uprem
me C
ourt d
ec in to review
eview th
the ca
se.
The trial court held sales/use
taxess co
could
ales e tax
ou d not be
Tennessee C
T
Court off A
Appeals
l
imposed because the teachers were not Scholastic’s “representatives” for the purpose of selling,
Scholastic Book Clubs, Inc. v. Farr
delivering, or taking orders, as required by the statutory nexus standard. The court further held that the
Scholastic fared no better in Tennessee, where the
teachers did not create substantial nexus under the
Tennessee Department of Revenue asserted on similar
Commerce Clause. Indeed, the lower court agreed
facts that Scholastic’s use of the teachers to effectuwith Scholastic’s view that the teachers were acting
ate sales is sufficient under Quill to establish nexus.
to assist students in their purchase of books “in loco
The Tennessee Court of Appeals agreed with the
parentis,” and not as representatives of Scholastic.
Department and ruled that Scholastic had a physical
The Supreme Court of Connecticut reversed,
presence in Tennessee because schoolteachers in Tenholding that the schoolteachers who participated
nessee distributed marketing materials in Tennessee
in Scholastic’s program acted as the company’s repschools and otherwise facilitated sales. The court
resentatives, and their activities supplied sufficient
found that the teachers created a de facto marketnexus to justify the imposition of tax. It was irrelevant
ing and distribution mechanism within Tennessee
that the teachers were not legal agents, did not have
schools. Scholastic filed a petition for certiorari with
a formal legal relationship with Scholastic, were
the U.S. Supreme Court on September 25, 2012,
not paid by Scholastic, and were not “order takers”
which was denied on November 26, 2012.
and uncompensated third-party speakers to make
live presentations at continuing education seminars
in Washington. Like the teachers in Scholastic, nexus
existed because the Department concluded that the
speakers were the company’s “representatives” for
nexus purposes.
10
©2012
CCH. All Rights Reserved.
January–February 2013
Washington Ruling:
Tax Determination No. 11-0292
Taxpayer is an out-of-state company that provides
continuing education seminars throughout the
United States. The Taxpayer also sells seminar materials through its website and by phone. Seminars are
presented via website and also live at locations nationwide, including occasional seminars in Washington.
The Taxpayer does not have any employees or direct
physical presence in Washington. For live seminars, it
contracts with a temporary staffing agency in Washington to supply personnel at the seminar location
to check attendees in and distribute course materials
prepared by the speakers.
The Taxpayer contacts potential speakers to volunteer to speak at its seminars. The speaker volunteers are
independent contractors and receive only a nominal
“honorarium” for speaking at the seminar. The Taxpayer does not control content, and the speakers play no
role in soliciting registrants for the seminars or soliciting sales of Taxpayer’s products. The speakers perform
no activities other than speaking at the seminars.
The Department found that the speakers, along
with the temporary agency’s personnel, were “representatives”
ntattivess ssufficient to create nexus because they
provide
services
customrov
vide
ide ser
rvice
i es directly to the Taxpayer’s
y
ers
Washington.
Department, it
rs in W
Wash
hing
gto According
gton
cordin to the Departm
wass immaterial
or
immaterial that
th the
he Taxpayer
ay had no control
con
authority
over
speakers’
presentations
uth
horitty ov
ver tthee sp
akers’ p
resentat ons or tthat the
speakers
nott solicit
business
opportunities
aker
k rs d
do
o no
oli
l
b
sine oppo
t iti on behalf of the
h Taxpayer. The Department concluded that
because the Taxpayer “contracted
with
indepenon cted w
ith its
ts in
dependent contractor speakerss to deliver
iver the
he sservices
ervices tthat
h t
Taxpayer is in the very business of providing (namely,
live continuing education seminars),” it is “engaged
in activities” in Washington and has sufficient nexus
with the state for B&O tax purposes.
Kansas Ruling:
Opinion Letter O-20122-003
An out-of-state sign company hired a local business in
Kansas to install signs that the out-of-state company
sold to Kansas customers and agreed to install as part
of the sale. The Kansas installer asked the Department
of Revenue if it can honor a multi-state jurisdiction
exemption certificate provided by the out-of-state
company to establish tax-exempt sales for resale.
The Department concluded that the sales were not
exempt because the form may be used only by unregistered out-of-state businesses that do not have nexus
JOURNAL OF STATE TAXATION
in Kansas. In this case, the Department concluded
that the out-of-state seller was required to be registered in Kansas, and thus should have been charging
and collecting tax from the Kansas customers on the
signs and any taxable services. The out-of-state sign
company was a “retailer doing business in Kansas”
because it used the Kansas installer to perform installation work that the out-of-state company was
contractually bound to perform for its customers in
Kansas. This agency relationship created nexus for
the out-of-state seller in Kansas.
Missouri Ruling:
Private Letter Ruling No. LR 7087
Taxpayer is an out-of-state company that sells and
installs building products in Missouri. It does not
have business locations or property in Missouri, but
it hires independent contractors to install products
in Missouri and has sales representatives who travel
into Missouri to generate sales. The Missouri Department of Revenue ruled that the Taxpayer is required
to collect and remit use tax on its sales to customers
in Missouri.
Independent Contractors
and Public Law 86-272
Relationships with independent contractors also
create interesting issues under P.L. 86-272. The following Oregon Tax Court decision illustrates some
of the unresolved pitfalls in this area.
Oregon
Ore
eg
Tax Court
rt
Ann S
Sacks
acks T
Tile
le a
and
n Stone
Stone, Inc
Inc. vv.
Dep’t of Revenue
Taxpayer is a wholly owned subsidiary of Kohler, Inc.
(Kohler), a company that makes and sells plumbing
products. Taxpayer and Kohler file consolidated
federal and Oregon returns. Kohler has sales representatives that conduct protected activities in Oregon.
The activities of the sales representatives were not
in question. However, Kohler also contracted with
unrelated third parties—distributors and authorized
service representatives (ASRs)—to perform warranty
repair work and other services for its products.
There was no dispute that the activities of the
sales representatives were protected by P.L. 86-272.
Likewise, there was no dispute that the in-state
sales employees created constitutional nexus
that, but for P.L. 86-272, would otherwise subject
11
Nexus News
legislative action. “If this result is unacceptable to
Kohler to tax in Oregon. Thus, the issue turned on
those who are constitutionally charged with making
whether the independent contractors and Kohler’s
tax law, at either the state or the federal level, those
other in-state connections destroyed its immunity
legislative branches may act to change the result.”
under P.L. 86-272.
Kohler also sends employees into Oregon from
The court found that Kohler was not protected by
time-to-time to perform technology assistance, conP.L. 86-272 because the distributors and ASRs conduct operating meetings and performance audits,
ducted activities pursuant to contracts with Kohler
and engage in other accounting and human resource
that go beyond the activities immunized under P.L.
work for Taxpayer. The court found that P.L. 86-272
86-272 for independent contractors. The court apdid not protect Kohler for this additional reason as
plied a literal construction of the statutory language
well. The court found that Kohler was not immune
to find that the activities undertaken by the disfrom tax because employees came into the state on a
tributors and ASRs do not fall within the safe haven
“non trivial number of occasions” to engage in other
provided by P.L. 86-272. The court found that there
business activities that were not otherwise protected
“is no question” that warranty work itself is an unby P.L. 86-272.
protected activity. The court found that activities by
independent contractors acting pursuant to contracts
Illinois Ruling: General Information
with a taxpayer can cause loss of P.L. 86-272 immuLetter No. IT 12-0007-GIL
nity if they extend beyond the activities specifically
allowed by the statute.
An out-of-state company
“By specifying certain
(Company) operates a
activities that will not
repair and maintenance
(C)ommon trademarks and
cause loss of immunity,
call center for its customtradenames, common gift card
the statute clearly implies
ers, national companies
and loyalty programs, the sale of
that some independent
with multi-site locations
similar branded merchandise, and
contractor activities will
and commercial buildresultt in
loss
ings located nationwide.
i lo
os of immuincidental or nonpreferential store
nity.”
The Company’s business
tyy.”” Absent
A
Ab ent legislative
Abse
le
return
are insufficient to
return policies
pol
action
or defi
nitive court
consists of coordinating
ction o
d
defin
niti
n
ourt
create
nexus. However, a recent
te nex
ruling,
commercial repair and
uling,
g the
t court
c rt declined
cour
d
ne
to
“broad
maintenance services for
o give
g
“bro
oad reading
read g to
decision
the New Mexico
decision from
f
the exp
express
and li
its customers, some of
press an
llimited
d
Court of Appeals found nexus
language of P.L. 86-272.”
which are located in Ilbased
based on
on “goodwill”
good
dw ” generated
generrateed
d by
by
The Taxpayer argued
linois.
d
li
noi . IIff a ccommercial
omm
me cia
that the court’s view was
customer
needs
as
c
usto
me
r
nee
ds
serv
sservice,
vice
such
such factors,
facto
ors, and
nd there
herre has
has been
beeen
flawed because under
the customer’s corpoa renewed focus on common
such reasoning merely
rate national office will
loyalty rewards programs and
contracting with a law
call the Company, which
firm, accounting firm,
then locates and arranges
gift card programs in state nexus
advertising firm, or other
for an unaffiliated indeenforcement in this context.
independent contractor
pendent contractor to
in the state would destroy
perform the repair work.
P.L. 86-272 immunity. The court rejected this arguThe Company has no preexisting arrangement with
ment, noting that it “cannot reach a conclusion
the contractors and no continuing one after the
simply because the proposition seems extreme.”
job is completed. Upon completion of the repairs,
The court also offered a factual distinction: “Unless
the Company pays the contractor and then bills its
one wishes to do so, one need not read this order as
customer for the cost of contractor’s repairs, plus a
opening the flood gates on the independent contracmanagement fee.
tor question. The activities of these contracting parties
The Illinois Department of Revenue declined to
acting in Oregon are not for limited legal, advertising,
make a specific ruling on nexus, but stated that “it
or accounting services of the type that seem to presseems likely that contracting sales of services in Illient difficulty in analysis.” Finally, the court invited
nois on a regular basis will subject [the Company] to
12
©2012
CCH. All Rights Reserved.
January–February 2013
Illinois income taxation.” The Department noted that
P.L. 86-272 is inapplicable to services and “the fact
that [the Company’s] business is entirely set up around
using independent contractors on a regular basis may
jeopardize the protections afforded” by P.L. 86-272.
Affiliate (Related-Party) Nexus
Related Party Nexus:
Cases and Rulings
In the context of three-channel retailers, the law surrounding nexus based on common ownership has
been fairly constant and defined through a body of
case law developed both pre-Quill and post-Quill.
It is clear from the case law on the subject that mere
affiliation with an in-state business, standing alone,
does not create nexus. For nexus to exist, the in-state
affiliate must act on behalf of the out-of-state seller’s
agent or representative, performing market-making
activities on its behalf. Policies and practices that
direct customers to return products purchased from
the out-of-state seller to retail stores operated by an
in-state affiliate is one such example.
Courts have generally refused to base nexus on
more
connections between the related
e atten
aattenuated
nua
entities.
common trademarks and tradentiities.
i i . For
F r example,
exaam
names,
common
and loyalty program
programs, the
nam
am
mes, com
mes
mmo
on gift card an
sale
branded
incidental
ale
e of simi
ssimilar
ilar b
bra
d merchandise,
a
and inci
orr nonpreferential
n
nonprefferen
ntial store
ore return
return policies
poli ies are insufficient
nexus. Ho
However,
decision
ientt tto
o ccreate
reate
t nex
er a rrecentt d
from the N
New Mexico Court of Appeals found nexus
based on “goodwill” generated
such
factors,
nera d by su
uch fa
ctors, and
d
there has been a renewed
common
loyalty
ed ffocuss on com
mon loy
a y
rewards programs and gift card programs in state
nexus enforcement in this context. The New Mexico
Court of Appeals’ decision in BarnesandNoble.com,
discussed below, has been appealed to the New
Mexico Supreme Court and is a “case to watch” in
the coming year.
New Mexico Court of Appeals: In the Matter
of the Protest of Barnesandnoble.com, LLC
Taxpayer, a Delaware LLC, was an online bookseller
with all of its operations, facilities, and personnel
located outside of New Mexico. It did not own or
lease properties in New Mexico, and it did not have
any temporary or permanent employees in New
Mexico. However, an affiliated company, Barnes &
Noble, owned and operated retail bookstores physically located in New Mexico.
JOURNAL OF STATE TAXATION
The Department argued that nexus existed based
on: (1) the close corporate connections between
the online seller and the affiliated Barnes & Noble
stores; (2) use of common trademarks and logos; and
(3) certain in-state activities (i.e., return policy, gift
card program, and loyalty program, etc.), which allegedly helped the online seller create and maintain
a market in New Mexico. The online seller argued
that none of the in-state activities were undertaken
on its behalf, that it had no physical presence in
New Mexico of any kind during the audit period,
and its activities did not rise to the level of substantial nexus. The Hearing Officer determined
that the activities and the economic connections
between the online seller and Barnes & Noble
were not sufficient to establish substantial nexus.
Thereafter, the Department appealed.
The New Mexico Court of Appeals reversed and
found that substantial nexus existed. It held that,
while the Hearing Officer did not abuse her discretion in concluding that the noted activities did not
create nexus on their own, the “goodwill developed
both directly, by in-store activities promoting [the
online seller’s] website, and indirectly, by consumers’ increased awareness of Barnes & Noble due to
the presence of in-state stores, helped to establish
and maintain a market in New Mexico” and thus
created “substantial nexus.” The court found “as a
matter of law, the manner in which the Barnes &
Noble trademarks were used by [the stores] in New
Mexico was sufficient to create a substantial nexus,”
noting
g that the court had previously
y held in K-Mart
that
hat the
he use
use of trademarks
tradem ks at
at stores
store in
n New
New Mexico
Mexic
iss the
physical
presence.”
e ““functional
functional eequivalent
q alent of phys
cal pre
sen
nce
The court then found that the Department could impute the in-state activities of the stores to the online
seller because each used the trademarks, and as a
result there was a “vicarious accrual of goodwill to
[the online seller] by virtue of the [affiliated] stores
in New Mexico.” The gift cards and the loyalty program were viewed as “cross-marketing activities” that
were “probative” of nexus because they created and
enhanced goodwill for the out-of-state seller.
The New Mexico Supreme Court has agreed to
review the decision.
Colorado Ruling: Private Letter Ruling:
PLR-12-2
Taxpayer is an online seller with no direct physical
presence in Colorado. An affiliated company sells
similar products at three brick-and-mortar retail
13
Nexus News
locations in Colorado. The retail locations operate
under similar names and using similar marks. Both
the online seller and the retail store affiliate share a
loyalty points program by which customers receive
loyalty points for purchases made from either the
online seller or the retail store affiliate. As points accrue, customers receive a gift certificate that may be
redeemed at either company. In addition, the online
seller’s customers are authorized to return merchandise purchased online to the affiliated retail stores.
The Colorado Department of Revenue ruled that
the online seller has sales tax nexus with Colorado
based on the affiliated in-state retail stores. According to the Department, the “Affiliated Company is an
indirect representative of Company because it acts on
behalf of Company to solicit and facilitate sales and
sales-related activities (e.g., the loyalty program) and
because it accepts returns on behalf of the Company.”
Further, the online seller and the retail affiliate are
doing business in Colorado as part of a controlled
group under Colo. Rev. Stat. § 39-26-102(3)(b)(II) and
IRC §1563(a). Because the parent owns all the voting
rights of the online seller and the in-state retail affiliate, the Department found that statutory “controlled
group” nexus exists as well.
Hawaii
Ha
awaiii Ruling:
R
Ruliin Letter Ruling 2012-10
The
hee Hawaii
Haawa ii Department
D
Dep ment of
o Revenue
Reven ue reached
reac
a
similar
result.
held that
rewards
imilar resu
ult. Itt he
ha a similar
mi shopping
pping re
program
and
return
with
affi
liated retailer
rog
gram
m an
nd re
eturn policy
olicy w
th an af
filiated
r
thatt ma
maintains
locationss within
Hawaii will
aiinta
t iins physical
p ys
locati
ith H
create suffi
fficient nexus to subject an online retailer
to the general excise tax. The Departm
Department
off Ta
Taxation
men o
axat on
n
ruled that the administration
program
tion of the rrewards
ewa d p
ogram
and return policy through the affiliate was enough
to establish the affiliate as a “representative” of the
online retailer and therefore establish sufficient nexus
to subject the retailer to Hawaii’s general excise tax,
as well as the special 0.50% surcharge for businesses
with nexus in Honolulu County.
New Related Party Legislation
California
Effective September 15, 2012, California’s related
party nexus law went into effect, requiring online and
other remote sellers to collect use tax from California
customers if they have certain relationships with a
commonly owned company in California. Under
the new law, any out-of-state seller that is a member
of a commonly controlled group and a California
14
©2012
combined reporting group is “engaged in business”
in California if the in-state affiliate “pursuant to an
agreement with or in cooperation with the retailer,
performs services in [California] in connection with
tangible personal property to be sold by the retailer,
including but not limited to, design and development
of tangible personal property sold by the retailer, or
the solicitation of sales of tangible personal property
on behalf of the retailer.” The State Board of Equalization (SBE) amended Cal. Code Regs. § 1684,
(Collection of Use Tax by Retailers), effective August
26, 2012, to implement these changes and provide
further guidance. It appears from the regulation and
other information from the SBE that these provisions
apply only when a related member performs in-state
services that help its out-of-state affiliate to establish
or maintain a California market for sales of tangible
personal property.
Georgia: Ga. Code Ann. § 48-8-2 (8)(K)
Effective October 1, 2012, Georgia expanded the
definition of “dealer” in Section 48-8-2, adding a new
affiliate nexus presumption. Under new subsection
(K), the in-state presence of a related member will be
presumed to create sales/use tax obligations for its
out-of-state affiliate if the in-state affiliate either sells
a similar line of products under the same or a similar
business name or uses the same or substantially similar
trademarks, service marks, or trade names in Georgia.
The new presumption may be rebutted by showing
that the out-of-state seller does not have a physical
presence in the state and that any in-state activities
conducted
ondu t d on
on its
its behalf
beha are not
o associated
a socia ed with
with its
i
ability
market
Georgia.
bility to
o establish
e tabli h aand
nd maintain
aintain a m
a ket in
n Geo
G
rgia
This new law does not replace the existing provisions of the statute. Subsection (J), which remains in
effect, defines a “dealer” to also include an “affiliate
that sells at retail, offers for sale at retail in this state,
or engages in the regular or systematic solicitation of a
consumer market in this state through a related dealer
located in this state,” unless the in-state dealer does
not engage in advertising, marketing, sales or other
services and accepts returns of item sold by nonaffiliated third parties on the same terms and conditions
as merchandise purchased from its affiliate.
Tennessee: HB 2370/SB 2232
Tennessee was the latest state to craft a limited safe
harbor by specifying that certain activities performed
by a remote seller’s in-state affiliates in Tennessee may
not be considered in determining whether the busi-
CCH. All Rights Reserved.
January–February 2013
ness has a physical presence in Tennessee sufficient
to establish nexus. The safe harbor is exceedingly
narrow in scope and is targeted to specific businesses that meet the following standards: (1) places
a distribution facility in service after January 1, 2011,
and before January 1, 2014; (2) makes a capital investment of at least $350 million between January
1, 2011, and before January 1, 2014; (3) creates at
least 3,500 “qualified jobs” during that same period;
and (4) enters into a written agreement pursuant to
which the business and its retail affiliates will collect
Tennessee sales and use tax beginning immediately
after the sunset provisions go into effect no later than
January 1, 2014.
The safe harbor does not apply if an in-state affiliate
operates a retail store or kiosk in Tennessee where
customers make purchases, return or exchange items
or place orders from the out-of-state seller, or if the
affiliate’s in-state personnel solicit sales on behalf
of the out-of-state seller. In addition, a remote seller
subject to the safe harbor must notify customers in an
email that the customer may owe sales and use tax
on the total sales price of the transaction and include
in the email a link to the Department of Revenue’s
website that allows the customer to pay the tax.
Texas:
exxas:: Tex
Tex.
x Ta
x.
Tax Code § 151.107(a)(4)
Effective
ffe
ective Ja
January
nuary 1, 2012,
012, th
the definit
nition
on of “r
“retailer
engaged
business
in
eng
g g d in
gage
n bus
sin
n Texas”” was expanded
panded to include
lud
de a retailer
rettailer that
ttha holds a substantial
substan ial ownership
own
interest
owned in whole
erestt in,
i or iis ow
h e or ssubstantial
b t ti part
by, a person who maintains a location in Texas from
which business is conducted,
if:
cte if
the retailer sells the sam
same orr a substant
substantially
simi-al y sim
lar line of products within the location in Texas
and sells those products under a business name
that is the same or substantially similar to the
business name of the person with the location
in the state; or
the facilities or employees of the person with
the location in the state are used to advertise,
promote, or facilitate sales by the retailer to consumers or perform any other activity on behalf of
the retailer that is intended to establish or maintain
a marketplace for the retailer in Texas, including
receiving or exchanging returned merchandise.
Utah: Utah Code Ann. § 59-12-107
Effective July 1, 2012, an out-of-state seller is subject
to sales/use tax collection obligations based on affiliation with a related seller that has tax-collection
JOURNAL OF STATE TAXATION
obligations in the state if the seller holds a substantial
ownership interest in, or is owned in whole or in
substantial part by, a related seller; and
the remote seller sells the same or a substantially
similar line of products as the related in-state
seller and does so under the same or a substantially similar business name; or
the related in-state seller (or an in-state employee
of the in-state affiliate) is used to advertise, promote, or facilitate sales for the out-of-state affiliate.
Virginia: Va. Code Ann. § 58.1-612(D)
On April 4, 2012, the Governor signed new legislation
that creates a rebuttable presumption of nexus based
on the in-state presence of certain commonly-owned
affiliates. The law goes into effect September 1, 2013,
unless federal legislation authorizing states to require
remote sellers to collect tax is enacted sooner.
Under new subsection (D), an out-of-state dealer
is presumed to have sufficient activity within Virginia
and will be required to collect sales/use taxes if any
commonly controlled person maintains a distribution
center, warehouse, fulfillment center, office, or other
similar location within the state that facilitates the
delivery of property sold by the out-of-state dealer
to its customers. The presumption may be rebutted
by demonstrating that the activities conducted by the
commonly controlled person in the Commonwealth
are not significantly associated with the dealer’s
ability to establish or maintain a market in the Commonwealth for the dealer’s sales.
Deliveries and
Deliveries
Distribution
Di
t ib ti
C
Centers
t
New distribution center nexus laws in Georgia and
Texas (as well as Tennessee and Virginia (see discussion above)) went into effect in 2012, joining states like
Oklahoma, South Carolina, and South Dakota that had
passed similar sales tax nexus laws in prior years. In
addition, Utah recently amended its income tax regulations to expressly provide that delivery in the seller’s
own vehicles will not destroy P.L. 86-272 immunity.
Georgia: Ga. Code Ann.
§ 48-8-2 (8)(L)
Effective October 1, 2012, Georgia expanded the
definition of “dealer” in Section 48-8-2 to address
certain third-party relationships. Under the new law,
an out-of-state seller is presumed to be a “dealer” if
15
Nexus News
any other person with nexus in Georgia (other than
a common carrier acting in its capacity as such) does
any of the following:
delivers, installs, assembles, or performs maintenance services for the seller’s customers in the state;
facilitates the seller’s delivery of property to
customers in Georgia by allowing the seller’s
customers to pick up property at any office,
distribution facility, warehouse, storage place,
or similar place of business maintained by the
in-state person;
conducts any other activities in Georgia that are
significantly associated with the seller’s ability
to establish and maintain a market in Georgia.
Any seller that meets the above conditions is
presumed to be a “dealer” subject to sales/use tax
collection obligations in Georgia. The presumption
may be rebutted by showing that the seller has no
physical presence in Georgia and that any in-state
activities conducted on its behalf are not significantly
associated with its ability to establish and maintain
a market in Georgia.
Texas: Tex. Tax Code § 151.107(a)(4)
Effective January 1, 2012, the definition of “retailer
engaged
in Texas” was expanded to inaged
d in business
bu
clude
retailer
ud
d a ret
de
aile
il r that holds a substantial ownership
interest
owned
whole
nte
erest in
in, or iss o
d in wh
ole or ssubstantial
ubstanti part
by,
maintains
a distribution
y a person
y,
perso
on who
w
ai
bution center,
c
warehouse,
war
reho
ouse,, or similar
simi r location
location in Texas
Texas and delivers property
The
prop
perty
ty sold
so by
b thee retailer
reta r to consumers.
c
new law also expanded the definitions of “seller”
and “retailer” to includee a person
erson
n who,
who
w , under
under an
n
agreement with anotherr p
person,
entrusted
with
on, is ent
rusted wi
w
h
the possession of tangible personal property with
respect to which another person has title or another
ownership interest and is authorized to sell, lease,
or rent the property without additional action by the
person having title to or another ownership interest
in the property.
Utah Regulation: Utah Admin.
R. R865-6F-6 (Eff. July 26, 2012).
Effective July 26, 2012, Utah Admin. R. R865-6F-6,
was amended to state that the delivery of goods in
a seller’s vehicle, if above a de minimis level, does
not create nexus for corporation income or franchise
tax purposes. This amendment reflects current Tax
Commission practice and results from case law and
amendments to the corresponding Multistate Tax
Commission model rule.
16
©2012
Click-Through Nexus
California
Effective September 15, 2012, A155 went into effect,
amending § 6203 of the California Revenue and
Tax Code and requiring online and remote retailers
to collect use tax from California customers based
on click-through nexus provisions. Similar in many
respects to the New York law, a retailer is “engaged
in business” in California under the new law if the
retailer enters into click-through relationships with a
person in California, provided that the retailer makes
more than $1 million in total sales and its clickthrough sales to California residents exceed $10,000
during the preceding 12 months.
The State Board of Equalization (SBE) amended
Cal. Code Regs. § 1684, (Collection of Use Tax
by Retailers), effective August 26, 2012, to make
it consistent with, and to implement the new
changes. Nexus is established under the statute
only if the California-based Web affi liates are
paid a consideration based on completed sales
and only if they “also directly or indirectly solicit
potential customers in California through the use
of flyers, newsletters, telephone calls, electronic
mail, blogs, microblogs, social networking sites, or
other means of direct or indirect solicitation specifically targeted at potential customers in this state.”
A Web link, banner ad, and other passive forms
of online advertising are defi ned as “advertising” and, without more (i.e. solicitation), will not
create nexus.
Regulation
sets for
forth
certain
that
Re
gulation
n 1684
6
684
se
th cer
a n ssteps
eps th
at a
retailer
can
take
rebut
the
statutory
etai er ca
n tak
e to aadequately
quately re
b t th
e st
atutor
presumption of nexus. A retailer with click-through
arrangements is not “engaged in business” in
California under the new law if: (1) the retailer’s
agreement with its Web affiliates prohibits them
from engaging in any solicitation activities in California that refer potential customers to the retailer;
(2) all Web affiliates certify annually, under penalty
of perjury, that they have not engaged in any prohibited solicitation activities in California at any
time during the previous year; and (3) the retailer
accepts the certification in good faith. To assist with
this, the SBE also provided a new Form BOE-232
(Annual Certification of No Solicitation) that can
be used to certify that the in-state person displaying the click-through link has not engaged in any
prohibited solicitation activities in California during
the previous year.
CCH. All Rights Reserved.
January–February 2013
Georgia: Ga. Code Ann. § 48-8-2 (8)(M)
Effective December 31, 2012, an out-of-state seller
that has click-through relationships with Georgia
residents is presumed to be a “dealer” required to
collect and remit tax on sales to Georgia customers.
The presumption applies only if the Georgia resident
is paid a commission or other consideration based
on completed sales and only if the total amount of
Georgia sales generated by all such click-through
agreements with Georgia residents is more than
$50,000 in the preceding 12 months.
The presumption may be rebutted by submitting
proof that the Georgia residents did not engage in any
activities in Georgia that were significantly associated with the seller’s ability to establish or maintain a
market in the state in the past 12 months. Such proof
may consist of sworn written statements, obtained
in good faith from each of the in-state residents with
whom the seller has a click-through agreement, attesting that they did not engage in any solicitation in
Georgia on behalf of the seller.
Illinois: Performance Marketing
Association, Inc. v. Hamer
Effective July 1, 2012, Illinois amended the definition
of “[r]etailer
maintaining a place of business” under
[r]ettaile
er m
Illinois
in
nois
i Use
U e Tax
T x and Service Use Tax law to include
click-through
liate
relationships.
licck-th
hrouggh and
a other
er affilia
e relati
nships. Under
the
a retailer
will
to
he new
w provisions,
p ovissio
pr
r
w be considered
conside
bee main
maintaining
place
business
m
ntain
ning a p
pla
e of bus
ness in Illinois
linois if the retailer
has
contract
person
Illinois
er h
ha
as a ccont
t ctt with a per
n within
ith Illi
i who,
for a commission or other consideration,, directly or
indirectly refers potential
retailer
al ccustomers
tomeerss to tthe
he reta
iler
by a link on the person’s
n’s website.
w bsite. The Illinois
Il ino
ois law
aw
significantly differs from New York’s “click-through”
nexus law and others patterned after it because it does
not contain a rebuttable presumption or minimum
sales thresholds.
Performance Marketing Association (PMA), a trade
association representing affiliated businesses, filed a
lawsuit to challenge the new law, alleging it violates
the Commerce Clause and the Federal Internet Tax
Freedom Act. In an order dated May 7, 2012, the
Circuit Court of Cook County granted PMA’s motion
for summary judgment, ruling that the act facially
violates the Commerce Clause because it “fails the
‘substantial nexus’ requirement for state use tax
collection and reporting obligations under the Commerce Clause” and “the unambiguous terms of the
Act cannot reasonably be construed in a manner that
would preserve the Act’s validity.” The judge also
JOURNAL OF STATE TAXATION
concluded that the statute violated the Supremacy
Clause “by virtue of the federal moratorium against
discriminatory state taxes on electronic commerce”
contained in Section 1101(a)(2) of the Internet Tax
Freedom Act. On June 4, 2012, the Department of
Revenue appealed the decision to the Illinois Supreme Court.
Pennsylvania: Sales Tax Bulletin No.
2011-01 and Letter Re: Pennsylvania
Sales and Use Tax Nexus
The Pennsylvania Department of Revenue is aggressively interpreting its longstanding statutory definition
of “maintaining a place of business in the Commonwealth” to include click-through relationships,
even though there is no specific legislative authority
or any new law or regulation authorizing this approach. Instead, the Department takes the position
that its longstanding statutory definitions apply to
click-through arrangements.
A Sales Tax Bulletin issued on December 1, 2011,
specifically provides that nexus exists if a remote
seller “has a contractual relationship with an entity or
individual physically located in Pennsylvania whose
website has a link that encourages purchasers to
place orders with the remote seller” or if the remote
seller “regularly solicits orders from Pennsylvania
customers via the website of an entity or individual
physically located in Pennsylvania, such as via clickthrough technology.” Based on the Department’s
public policy announcements, sellers that have nexus
underr the Department’s
new
through”
unde
Departmen ne
w “click
click thro
ugh internte
pretation
did
not
September
1,, 2
2012,
preta
tion tthat
at d
d no
ot register
ister by Se
ptember 1
012
may be subject to retroactive liability, including at
least a three-year look-back period.
The Department issued a letter ruling on August
28, 2012, responding to a request for clarification
by an out-of-state marketing association. The association represents publishers who contract with
sellers to place advertisements on websites, including advertisements that allow a viewer to click on
the advertisement and be taken directly to a retailer
website. The Association requested the ruling to determine whether the use of Pennsylvania publishers
created nexus.
The Department ruled that the use of a Pennsylvania
publisher by a remote seller does not create nexus,
unless the remote seller is paying for advertising services based on a percentage of actual sales. (Note
that this is the most common form of compensation
17
Nexus News
under such arrangements). While the Department
confirmed that Pennsylvania law imposes sales tax
collection responsibilities on remote sellers who
regularly solicit orders from Pennsylvania customers
via the website of an entity or individual physically
located in Pennsylvania (such as via click-through
technology), it stated that use of a Pennsylvania publisher for purposes of placing online advertisements
is not sufficient to create nexus unless payments to
the publisher are directly linked to the sale of goods,
such as by basing payment on a percentage of sales.
Noncollecting Retailer Notice and
Reporting Laws Struck Down
Colorado Federal District Court
The Direct Marketing Association v. Huber
The Direct Marketing Association (DMA) is an association of businesses and organizations that use
catalogs, magazine and newspaper advertisements,
broadcast media, and the Internet to market products
directly to consumers. The DMA asked the court to
enjoin the Colorado Department of Revenue (DOR)
from
enforcing
m en
nforc
cing the notice and reporting obligations
facing
out-of-state
cing out-o
o
of-st
f tat retailers under a 2010 Colorado
law,
codifi
39-21-112(3.5).
DMA
argued that
aw,, cod
aw
difieed
difie
d at 39
112(3.5 . The D
MA argue
the
requirements
out-of-state
violate the
he requ
quirem
men
nts on ou
ate retailers
ers viola
Commerce
Clause
Constitution.
om
mmeerce Cla
ause of the U.S. Co
ut
March
30,
2012, the ffederal
district
On M
O
arch 30
0 20
2
eral d
t i t court in
Colorado
d reached its decision on the merits and declared the law unconstitutional.
The
court
explicitly
utio al. Th
e cou
rt ex
plicitlyy
found that the act and regulations
Comegu ons vviolate
olate the Co
mmerce Clause in two ways: (1) by directly regulating
and impermissibly discriminating against out-ofstate retailers and interstate commerce; and (2) by
imposing undue burdens on interstate commerce in
violation of Quill.
The court found that the law patently discriminated
against interstate commerce because it imposed
notice and reporting obligations on out-of-state
retailers, but not on in-state businesses. The court
found that the state “has not surmounted [the Act’s]
facial invalidity by showing that the Act and Regulations serve legitimate state purposes that cannot be
served adequately by reasonable nondiscriminatory
alternatives.” While the court acknowledged that the
act and regulations did serve important local goals,
including the state’s ability to recover use taxes
unquestionably owed by Colorado purchasers, the
18
©2012
state failed to meet “its very high burden of proof
under the strict scrutiny standard” to show that there
were no other alternatives available to achieve this
goal. Indeed, while the DMA identified at least three
nondiscriminatory ways that other states had used
to increase compliance with use tax laws, including
increased audits of business consumers, individual
reporting on state income tax returns, and increased
education and notification programs, the state had
offered no evidence to show that these alternatives
were inadequate.
The court found that the law and corresponding
regulations violated the Commerce Clause because
they impose the same kind of undue burdens on interstate commerce invalidated in Quill. “The burdens
imposed by the Act are inextricably related in kind
and purpose to the burdens condemned in Quill.
The Act and the Regulations impose these burdens
on out-of-state retailers who have no physical presence in Colorado and no connection with Colorado
customers other than by common carrier, the United
States mail, and the internet. Those retailers are protected from such burdens on interstate commerce by
the safe-harbor established in Quill.”
The case is currently on appeal to the Ninth District
Court of Appeals.
Economic/Intangible Nexus
The concept of economic nexus—the notion that a state may constitutionally tax an
out-of-state company that has no physical connection
whatsoever
ect on w
hatsoever iin the ttaxing
x ng sstate—emerged
ate—emerge
immediately
South
Carommediately aafter
ter Quill,
Q ll, when
when tthe
he So
uth C
aro
lina Supreme Court’s 1993 decision in Geoffrey
concluded that Quill’s physical presence test did
not apply to taxes other than sales and use taxes. In
that case, the court found that an out-of-state intangible holding company had income tax nexus solely
because it licensed trademarks and other intangible
property to retail stores located in the taxing state.
A spate of cases followed, most of them upholding
state taxes based on some form of “economic nexus.”
This year, however, it seems that courts are finally
beginning to conclude that states are going too far. In
May, the highest courts in both Oklahoma and West
Virginia invalidated state attempts to tax royalties
paid to out-of-state licensors. What is particularly
noteworthy about these taxpayer victories is that they
emphasize due process and occurred in states that
have already explicitly adopted “economic nexus”
CCH. All Rights Reserved.
January–February 2013
or other non–physical-presence nexus tests. We can
expect to see an increased emphasis on due process
restraints and a retreat from the aggressive and unfettered application of economic nexus principles.
Oklahoma Supreme Court
Scioto Insurance Co. v.
Oklahoma Tax Commission
The Oklahoma Tax Commission assessed corporate
income tax against Scioto Insurance Company (Scioto),
a Vermont corporation that owned intellectual property
(trademarks, operating practices, etc.) that it licensed to
the Wendy’s fast food restaurant chain. Scioto entered
into a licensing agreement and received payments
from Wendy’s International, Inc. for the use of intellectual property by individual Wendy’s restaurants,
including restaurants in Oklahoma. The licensing
contract was not entered into in Oklahoma, and no
part of the contract was to be performed in Oklahoma.
The Court of Appeals had upheld the assessment,
ruling that Scioto had nexus with Oklahoma. On appeal, however, the Oklahoma Supreme Court vacated
the Court of Appeals decision and ruled that the Tax
Commission improperly assessed corporate income
taxess ag
against
gainsst SScioto. In reaching this result, it was important
the
court
orttant to th
h co
he
ou that any
y further transfer of the right
to
the
intellectual
sub-licensing
ou
use th
he in
ntelle
ect property,
roperty, including
ncluding sub-lic
agreements
with
in O
Oklahoma,
the legal
agre
g eementss wit
th rrestaurants
ur
ma, is th
act
responsibility
International.
In
ct and solee res
po
ons lity of Wendy’s
W
nternatio
addition,
the
obligation
pay Scioto
dition
d
diti
n, th
he ob
h
b gat
to pa
cioto based
d on a percentage off sales in Oklahoma was not dependent upon
the Oklahoma restaurants
ts actually
tuaallyy paying
p
paying Wendy’s
W
Wendy s
International. Per the licensing
agreement,
Wendy’s
ens
agre
ement Wen
W
dy s
International pays Scioto whether or not any of the
Oklahoma restaurants ever paid Wendy’s International.
The court distinguished earlier case law, where the
taxpayer was a shell entity and the licensing agreement
between the parties was a sham obligation to support a
deduction under Oklahoma law. In this case, however,
the sum paid by the restaurant chain under the licensing agreement with Scioto was a bona fide obligation,
and the payments received by Scioto were a source of
income for its insurance business. Moreover, Wendy’s
International paid Oklahoma tax on the payments it
received from the Oklahoma restaurants.
West Virginia Supreme Court
Griffith v. ConAgra Brands, Inc.
ConAgra Brands, Inc. (ConAgra), a Nebraska cor-
JOURNAL OF STATE TAXATION
poration, licensed trademarks and trade names to
affiliated and nonaffiliated entities for use in the
manufacture and sale of food products nationwide.
ConAgra collected royalties based on the sale of food
products bearing the trademarks and trade names to
clients and customers throughout the United States,
including West Virginia, but did not manufacture or
sell products in the state, did not own or rent any offices, warehouse, or other facilities in state, and had
no employees or agents in state. ConAgra conducted
all of its business of licensing and protecting the
value of its trademarks and trade names entirely out
of state. In addition, ConAgra provided no services
to licensees, nor did it direct or dictate how licensees
manufactured or distributed the products bearing the
licensed names and marks.
Initially, the Administrative Law Judge determined that
ConAgra was subject to both the state’s corporate franchise tax and its net income tax. On appeal, the lower
court held that ConAgra’s licensing transactions did
not constitute doing business in West Virginia, and the
assessments failed to meet the requirements of both the
Due Process and Commerce Clauses. The circuit court
underscored its conclusion that neither the supplying
of ingredients or labels by third-parties for the products,
nor the licensing by ConAgra of the trademarks and
trade names, had any association with West Virginia
sufficient to impose the assessments on ConAgra.
The West Virginia Supreme Court of Appeals
affirmed, concluding that the assessment was unconstitutional because ConAgra lacked the “minimum
contacts” required to create nexus under the Due
Process
Clause,
well as the “substantial
nexus”
Process C
ause, as we
s bstantial nexu
required
by
Commerce
Clause.
equ red b
y the Com
m rce Cla
use
The West Virginia Supreme Court reached this result, even though it noted that “significant economic
presence”—not physical presence—is the appropriate
test for determining whether substantial nexus exists
for Commerce Clause purposes. The court concluded
that the state’s imposition of income and franchise tax
on royalties earned from the nationwide licensing of
food industry trademarks and trade names satisfied
neither “purposeful direction” under the Due Process
Clause nor “significant economic presence” under the
Commerce Clause. In reaching this result, the court
pointed to the fact that: (1) ConAgra had no physical
presence in the state and did not sell or distribute
food-related products or provide services in West
Virginia; (2) all products bearing the trademarks and
trade names were manufactured solely by unrelated
or affiliated licensees outside of West Virginia; (3)
19
Nexus News
ConAgra did not direct or dictate how its licensees
distributed the products; and (4) the licensees, operating no retail stores in West Virginia, sold the products
only to wholesalers and retailers, and did not sell the
products to end-users in West Virginia.
Iowa Ruling:
In the Matter of Jack Daniels Properties,
Inc. and Southern Comfort Properties, Inc.
v. Iowa Dep’t of Revenue
An administrative hearing officer upheld corporate
income tax assessments issued to two out-of-state intangible holding companies (IHC) on royalty income
from the in-state sale of whiskey by independent
retailers. The ruling finds that the mere sale of a trademarked good in the state by an out-of-state licensee
is enough to sustain a tax on royalty revenue, even
though the licensee did not have any retail stores,
outlets, or other selling locations in the state.
The case involves two separate matters involving related taxpayers. Brown-Forman Corporation (Brown)
produces and markets whiskey and other alcoholic
beverages, including Jack Daniels and Southern Comfort whiskeys. Brown owns the two intangible holding
company
(IHC)
pan
ny (I
HC subsidiary corporations at issue here.
Taxpayer
Inc. holds the trademarks,
axp
payeer JD
D Properties,
P
Prro
tradenames,
property
Daniels
rad
ad
denamess,
s and
d iintellectual
ectual p
operty ffor
or Jack D
whiskey,
and
Taxpayer
owns the
whi
skeyyy, an
nd Ta
axp r SC Properties,
op
Inc. ow
intellectual
property
Southern
Comfort
whiskey.
nte
ellectual pro
ope
erty for
or Sout
hern Co
mfort wh
Both
IHCs
entered
trademark
licensing
th
h IH
HCs ente
HC
t ed
d into trade
ark li
i agreements with
i h Brown that grants Brown a license to use
the trademarks and intellectual
ect l property in
n exchangee
for a royalty payment.
Neither IHC has any property, employees, retail
operations, or other physical presence in Iowa. Moreover, the licensee of the marks (the parent company,
Brown) does not operate wholesale or retail stores
in Iowa. Brown markets and sells Southern Comfort
and Jack Daniels whiskey in Iowa through the Iowa
Alcoholic Beverages Division (ABD), which acts as a
wholesaler. As a supplier, Brown is required to maintain its products in a bailment warehouse operated by
ABD. All retailers purchase liquor through ABD, which
then pays Brown for the product. Brown files corporate
income tax returns based on goods sold in Iowa.
Brown pays royalties to the IHCs based on a percentage of net sales of licensed alcoholic beverages
branded with the licensed marks. In the case of
Southern Comfort, Brown pays the IHC directly based
on net sales of the branded whiskey. In the case of
20
©2012
Jack Daniels, the IHC receives its royalty payments
from another affiliated corporation, JD Distillery. The
royalty is based on a percentage of net sales of “distillate,” a raw material product (not the end product
whiskey) that JD Distillery produces and sells to the
parent corporation Brown. JD Distillery does not sell
the distillate to wholesalers, retailers, or the general
public; rather, it sells it exclusively to Brown, who
then ages the product for four or more years before
marketing and selling it to wholesalers or retailers.
The Iowa Department of Revenue (Department)
issued income tax assessments to both IHCs as a
result of the royalty income earned from the licensed
trademarks and tradenames. The Department relied on the Iowa Supreme Court’s decision in KFC,
but the IHCs in this case argued that KFC was not
controlling because wholesale or retail stores bearing
the Southern Comfort or Jack Daniels trade names
were not operated in Iowa. The administrative hearing officer rejected this distinction, concluding that
“[t]he fact that Iowa businesses do not remit royalty
payments directly to [Southern Comfort] does not
distinguish [it] from KFC.”
With respect to the even more tenuous relationship
in Jack Daniels, the administrative hearing officer was
likewise not persuaded that it materially differed from
KFC. Even though Jack Daniels involves an intermediary company and neither this company nor the parent
company operated stores or other retail locations in
Iowa, the hearing officer found that “the end result is
the same: Brown sells Jack Daniel’s whiskey in Iowa
via a licensing agreement that allows it to use the
name,
mark
and
other
property
by
ame, m
a k an
nd ot
her intellectual
ntel ectual p
operty held b
[the
Daniels
IHC].”
the JJack
ack D
anie s IH
C
In-State Property:
Public Law 86-272
Ownership or use of property in the taxing state is
one way to destroy P.L. 86-272’s immunity. Recent
rulings in Missouri and Virginia illustrate this point.
Missouri Ruling:
Private Letter Ruling 7072
Taxpayer is a non–Missouri-based company that provides medical risk test kits to participating physicians.
It employs a single sales representative in Missouri,
who promotes the test kits to in-state physicians. The
employee maintains a supply of test kits and provides
the kits to participating in-state physicians.
The Missouri Department of Revenue (Depart-
CCH. All Rights Reserved.
January–February 2013
ment) concluded that the company had sufficient
presence within Missouri to subject it to corporation income tax. Noting that the state, subject to
legislative limits, imposes tax to the fullest extent
constitutionally permissible, the Department concluded that nexus existed because the taxpayer
had an in-state presence through an employee and
test kit inventory. The employee’s in-state activities
exceeded the scope of P.L. 86-272’s protections
because the employee maintains inventory in
Missouri and delivers the test kits to physicians in
the state.
Virginia Ruling: Ruling of
Commissioner P.D. 12-36
Taxpayer maintains an Internet website that provides
online business profiles and marketing services for
businesses. Revenue is generated from advertising
fees, performance-based cost per click, and subscriptions. Taxpayer owns several internet servers
in Virginia that are maintained and managed by an
unrelated third party. Taxpayer also employs one
sales person in Virginia whose activities are limited
to solicitation.
The Taxpayer sought a ruling that it does not
havee nexus
nexus for
fo corporate income tax purposes.
There
he
ere were
w e in
iinsuffi
ns cient facts to determine if the
in-state
activities
n-sstatee employee’s
em
mplo
oye
activities went
wen beyond
beyon “solicitation”
activities
protected
86-272.
ici tatio
on” act
tiv
cte by P.L. 86
Department
assumed,
however,
purposes of
Thee De
eparttment as
med, ho
wever, for
or purpo
the ana
analysis
that th
the only
connection
Virginia
allysiis th
nl co
ectio with
ith V
was the server equipment located at a facility operated by an unrelated third
party.
rd p
ty
The Department found
d that
th the
he in-state
in state
e server
serv
ver crecr ated nexus. Servers used to provide online business
profiles and marketing services for the Taxpayer’s customers were not connected with in-state solicitation
and thus “clearly exceed[ed] the protections afforded
under P.L. 86-272.” It was irrelevant that Taxpayer
did not have access to the server at the third-party’s
in-state facility.
Pending Federal Legislation
Various federal bills designed to legislatively eliminate Quill’s physical presence test for sales and use
tax nexus have been introduced in various forms
since shortly after Quill was decided. In Quill, the
Court ruled that the existing system was too complicated to impose on a business that did not have a
physical presence in the state, but noted that under
JOURNAL OF STATE TAXATION
the Commerce Clause, Congress has the authority to
fashion a legislative solution that would allow states
to require remote sellers to collect tax.
Beginning in late 2011 and continuing throughout
2012, remote-seller legislation has been gaining new
momentum in Congress. While there has yet been
no significant movement on any specific piece of
remote-seller legislation, recent hearings held in both
the House Judiciary Committee and the Senate Committee on Commerce, Science and Transportation
suggest that Congress may now be more interested
in addressing this issue. A very brief overview of the
pending federal bills follows.
Main Street Fairness Act
The “Main Street Fairness Act” (S. 1452) was introduced by Sen. Dick Durbin (D-Ill.) on July 29, 2011.
H.R. 2701, a companion bill, was introduced in the
House on the same day by Rep. John Conyers (DMich.). Immediately after introduction, S. 1452 was
referred to the Senate Finance Committee where it
currently sits. H.R. 2701 remains in the House Judiciary Committee. Congressional hearings were held
on July 24, 2012, but no action has been taken on
either bill to date.
The proposed legislation is tied to the Streamlined
Sales and Use Tax Agreement (Agreement) and would
grant member states the authority to require remote
sellers to collect and remit state and local sales and
use taxes. Efforts that were ultimately reflected by the
Streamlined Sales Tax Agreement began in early 2000
and were designed to simplify and modernize sales
and
use
tax
administration
order
nd u
e ta
x adm
min str on in
no
rder to
o ssubstantially
ubstan ial
reduce
burden
compliance.
educe the burd
en of tax
x co
mp ianc .
The Main Street Fairness Act would authorize each
state that is a party to the Agreement to require remote
sellers to collect and remit sales and use taxes on remote sales if at least ten states comprising at least 20%
of the total population of all states imposing a sales
tax become member states under the Agreement.
The legislation requires that certain necessary operational aspects of the Agreement be implemented
by the Governing Board and that each member state
meet tax rate and boundary database and taxability matrix requirements provided in the Agreement
before remote sales authority would be granted.
Further, the Agreement must meet a list of minimum
simplification requirements. Certain governing board
actions would be subject to review by the U.S. Court
of Federal Claims, which is granted exclusive jurisdiction for review.
21
Nexus News
Marketplace Fairness Act
The “Marketplace Fairness Act” (S. 1832), sponsored
by Senator Enzi (R-Wyo.), was introduced on November 9, 2011, and referred to the Senate Finance
Committee. Hearings have been held, but to date,
no further action has been taken on the legislation.
This proposed legislation is a blend of both streamlined and other simplification principles. In general,
the legislation would provide that “[s]tates that voluntarily become Member States of the Streamlined
Sales and Use Tax Agreement (Agreement) would be
able to require remote sellers to collect and remit
sales and use taxes after 90 days.” In addition, “[s]
tates that do not wish to become members of [the
Agreement] would be allowed to collect taxes only
if they adopt certain simplification requirements
and provide sellers with additional notices on the
collection requirements.”
Specifically, the legislation allows a state that is
not a member under the Streamlined Agreement
to require sellers to collect and remit sales and use
taxes if the state adopts and implements certain
minimum simplification requirements, including:
(1) providing a single state agency to administer all
sales and use taxes; (2) establishing a uniform sales
and use
base; (3) provisions for state-wide audit
e tax
x ba
and
single
nd
d sing
i gle
l sales
s l s ttax return; (4) providing
g compliance
p
software
and
relieving
oftw
ware
e an
nd sservices
erv
and re
lieving remote sellers
from
liability
the state
locality for coll
collection
rom
m lia
abilitty
y to
o th
at or a lo
off th
the
incorrect
based on
he in
ncorrrectt aamount
m nt of sales
es or use
e tax bas
information
provided
and (5) providing
orma
ati
tion
n pro
ide
d by the sstate;
te an
remote sellers
ll 30 days notice of a tax rate change by
any locality in the state.
Businesses with less than
$500,000
sales
an $
0,000 in annual sa
al s
would qualify for a small business exemption. No seller compensation is included in the legislation beyond
the provision of compliance software and services.
Marketplace Equity Act
The “Marketplace Equity Act” (H.R. 3179) was introduced on October 19, 2011 by Rep. Steve Womack
(R-Ark.) and Rep. Jackie Speier (D-Calif.). On July
24, 2012, a hearing on the legislation was held in
the House Judiciary Committee. To date, no further
action has been taken on the legislation.
Like the Marketplace Fairness Act, the Market-
place Equity Act would authorize states to require
remote sellers to collect and remit sales and use
tax irrespective of physical presence, provided that
states implemented a simplified system for administration of sales and use taxes for remote sellers.
Unlike the other bills, it is not conditioned on the
Agreement. In addition, it also contains a higher
small-seller exemption.
The bill would allow states, either “individually or
through an agreement with one or more of the several States,” to require sales tax collection by remote
sellers if such states meet each of four minimum
requirement categories: (1) a small remote-seller
exception (annual gross receipts from remote sales
not exceeding $1 million nationwide or $100,000 in
any one state); (2) a single sales and use tax return and
filings; (3) a uniform tax base between the state and
its localities; and (4) sales and use tax rate structures
(including state options for a “blended” statewide
rate, the maximum state rate, or a destination rate
coupled with software to ease the collection burden
of, and relief from liability for, collection of tax at
the incorrect rate). These minimum simplification
requirements would apply to remote sellers only.
Business Activity Tax
Simplification Act
The “Business Activity Tax Simplification Act of 2011”
(H.R. 1439) was introduced on April 8, 2011 by Rep.
Robert Goodlatte (R-Va.). Like earlier proposals, this
latest “BATSA” bill sets forth minimum standards
for imposing state and local net income taxes and
other
particular,
would
the business
u iness aactivity
ctivity taxes.
axes. In
n pa
rtt cular, it w
oul
adopt
physical
presence
standard
such
dopt a ph
ysical p
e ce stan
da d for suc
h ttaxes
axe
and sets forth a 15-day safe harbor. The bill would
also modernize P.L. 86-272, including extending its
protections to sales of services and other transactions
beyond sales of tangible personal property.
Conclusion
Twenty years after Quill and Wrigley, nexus questions
still remain. Economic nexus, due process, third-party
nexus, and federal legislation were just some of the
themes in 2012. We can expect to see more of the
same in 2013.
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