Market Sourcing Merry-Go-Round
Almost a year after vetoing similar legislation, Arizona Governor Jan Brewer signed SB 1046 on February 21, 2012, which allows “multistate service providers” to elect to use a market sourcing methodology for purposes of computing the sales factor numerator. The election is limited to taxpayers that derive more than 85% of sales from services provided to customers outside of Arizona.
Last year, Governor Brewer vetoed similar market sourcing legislation because it was viewed as conflicting with the temporary voter-approved increase to Arizona’s sales tax rate. This time around, legislators cured the conflict between tax hikes and cuts by delaying the effective date of the marketing sourcing election until 2014, after the sales tax increase expires, and by adopting a unique phase-in that will delay full market sourcing for qualified taxpayers until 2017.
The first year of the phase-in will allow multistate service providers to include 85% of market sourced sales along with 15% of costs-of-performance sourced sales in the numerator. Similar to when states phase-in a single sales factor formula by still accounting for the property and payroll factors at a reduced weight, this phase-in requires taxpayers to source sales using both sourcing methods and to include the respective percentage of those sales in the numerator of the sales factor during the phase-in period.
Under the new market sourcing rules, receipts are included in the numerator of a taxpayer’s sales factor based on where a purchaser receives the benefit of the service. However, there is no elaboration on how to determine where the benefit of a service is received. This lack of clarity may present difficulties for taxpayers in trying to implement the new sourcing rules. However, because of the delayed effective date, the Arizona Department of Revenue will have an opportunity to issue regulations or guidance to help taxpayers interpret the provisions.