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Sutherland SALT is a proud co-sponsor of the COST Pacific NW Regional State Tax Seminar on December 6, 2016, in Seattle, Washington. The Sutherland SALT Team will present an update on significant state tax issues for California, the Pacific Northwest States and certain other significant states around the country, including: Discussion of State Tax Cases, Issues and Policy Matters to Watch Latest Developments on Apportionment |
By Elizabeth Cha and Timothy Gustafson
On October 26, 2016, the South Carolina Court of Appeals reversed a lower court ruling and determined the Department of Revenue (Department) failed to satisfy its burden of showing that the statutory apportionment formula did not fairly represent Rent-A-Center West Inc.’s (RAC) business activities in South Carolina. This case had been stayed pending a final decision in the CarMax Auto Superstores West Coast Inc. v. Dept. of Revenue, 397 S.C. 604 (2014) (see our prior coverage here), in which the South Carolina Supreme Court applied a two-prong test whereby the Department must show that (1) the statutory formula does not fairly represent the taxpayer’s business activity in South Carolina, and (2) its alternative accounting method is reasonable in order to apply alternative apportionment.
RAC did not own or operate any stores in South Carolina, and thus its South Carolina revenue arose solely from the licensing of RAC intellectual property (IP) to RAC-affiliated companies for use in their stores in South Carolina. Accordingly, the numerator of RAC’s single receipts factor apportionment formula was comprised of the South Carolina licensing receipts and the denominator included all of RAC’s nationwide revenue from its retail stores and licensing activities. The Department argued that including the retail sales in the denominator diluted the gross receipts ratio and invoked alternative apportionment. However, the Department’s auditor did not offer any specific evidence to support its argument that the standard apportionment method did not fairly represent RAC’s business activities in the state. The court concluded that the Department presented the same level of evidence in this case as it did in CarMax, which was insufficient to meet the Department’s burden on the issue of whether the statutory formula fairly represented RAC’s business activity in South Carolina. Rent-A-Center West Inc. v. South Carolina Department of Revenue, No. 2012-208608 (S. Ct. App. Oct. 26, 2016).
By Douglas Upton and Andrew Appleby
The New Jersey Tax Court determined that credit card issuers must source to New Jersey all of their interest and interchange fee receipts, and half of their credit card service fees, from New Jersey accountholders. The Tax Court concluded that the Division of Taxation’s regulations required the taxpayers to source their interest receipts based on the location of their cardholders, rejecting the taxpayers’ argument that the interest receipts were not so integrated with a business carried on in New Jersey as to acquire a New Jersey tax situs. The Tax Court further determined that credit card interchange fees constituted interest for corporation business tax purposes, noting that the taxpayers treated the interchange fees as an original issue discount for federal income tax purposes and that the interchange fees amounted to a fee charged for the use of money. The Tax Court also held that the Division of Taxation’s 25/50/25 sourcing regulation (i.e., sourcing 25% of receipts to the where the service originates, 50% to where the service is performed, and 25% to where the service terminates) applied to source 50% of credit card service fees from New Jersey cardholders to New Jersey because the service was performed where the cardholder received the benefit of such service, in New Jersey. Finally, the Tax Court found that the Division of Taxation could not apply the throwout rule to any of the taxpayers’ receipts because the Division of Taxation failed to point to any state that would not have jurisdiction to tax the taxpayers’ sales if New Jersey’s economic nexus standard applied. Bank of Am. Consumer Card Holdings v. N.J. Div. of Taxation, __ N.J. Tax __, 2016 WL 5899786 (N.J. Tax. Ct. Oct. 6, 2016).
By Zachary Atkins and Open Weaver Banks
The New Jersey Tax Court held that apportioning all of a company’s income to New Jersey for corporate business tax purposes, even with the allowance of a credit for taxes paid to separate-return states, failed to fairly reflect the company’s business activities in New Jersey. The court also rejected the company’s contention that it was entitled to use a three-factor formula. Prior to 2011, corporate taxpayers without a “regular place of business” outside New Jersey were required to use a 100% apportionment factor, while taxpayers that maintained a regular place of business outside the state were required to use a three-factor apportionment formula. The company in question, which was headquartered in New Jersey, did not have a regular place of business outside the state and so was required to use the 100% apportionment factor. The Division of Taxation responded to the company’s request for relief on audit by allowing a credit for taxes paid to separate-return states. The tax court concluded that the 100% apportionment factor, even with the credit, did not fairly reflect the company’s in-state business activities because it produced tax liabilities that were, depending on the year, double or triple the tax liabilities produced by the three-factor formula. Nonetheless, that in itself did not entitle the company to use the three-factor formula, the court said. The court agreed with the Division that strict application of the three-factor formula would have produced an unfair result because, while the company’s offices, employees and operations were in New Jersey, the three-factor formula would have resulted in apportionment factors of approximately 30%. The court noted, too, that because the company was in the business of offering equipment lease financing to customers of related entities, the leased equipment—located in all 50 states—reduced the company’s property factor. The court remanded the case to the Division so that further adjustments to the statutory apportionment factor could be considered. Canon Fin. Servs., Inc. v. Director, Div. of Taxation (N.J. Tax Ct. Oct. 13, 2016).
By Charles Capouet and Maria Todorova
The Franklin County Circuit Court held that Netflix’s subscription-based streaming video service was not subject to Kentucky’s gross revenues tax, excise tax and school tax (telecommunications taxes) imposed on “multichannel video programming service” (MVPS). Under Kentucky law, MVPS is programming “provided by or generally considered comparable to programming provided by a television broadcast station” and includes cable television service. The court held that Netflix’s streaming video service is ”a vast departure from the linear programming model of traditional cable or broadcast television services” because: (1) it does not provide content in a multichannel format; (2) its content is not linear or sequential programming, i.e., Netflix does not offer or provide content on any predetermined or set schedule; (3) it does not deliver live content; (4) it does not own any facilities or infrastructure capable of transmitting or delivering its streaming service to its customers; and (5) it “enables the customer to craft an entirely unique and personal profile and viewing experience.” The court reasoned that it would be unreasonable to conclude that the General Assembly intended its legislative enactment “to subject to taxation every possible new technological development in the field of transmitting digital content for personal enjoyment.” Therefore, the court concluded that Netflix’s streaming video service is not an MVPS and therefore not subject to Kentucky’s telecommunications taxes. Fin. & Admin. Cabinet, Kentucky Dep’t of Revenue v. Netflix, Inc., No. 15-CI-01117 (Franklin Cnty. Cir. Ct. Aug. 23, 2016).
By Chris Mehrmann and Charlie Kearns
A New Mexico Taxation and Revenue Department administrative hearing officer found that a seller could not use equitable recoupment as a defense to offset gross receipts (sales) tax assessed on its sales of software licenses. In support of its equitable recoupment argument, the seller maintained that third-party lenders that extended loans to the seller’s clients paid gross receipts tax on the seller’s behalf. Rejecting this argument, the hearing officer explained, inter alia, that the software sales and customer loans were separate taxable events— which were each subject to gross receipts tax—and that the lenders paid gross receipts tax on the financing transactions and not the software sales. Therefore, the hearing officer concluded that the seller did not show that the transactions at issue were a single taxable event arising out of the same transaction, which is a requirement for a successful equitable recoupment defense. In re Market Scan Info. Sys., Inc., N.M. Taxation & Revenue Dep’t Admin. Hearings Office, No. 16-44 (Sept. 12, 2016).
By Nicole Boutros and Marc Simonetti
The Illinois Appellate Court held that a defendant out-of-state retailer was not liable under the state’s False Claims Act because it conducted a good faith inquiry into its use tax collection obligations for both its Internet and catalog sales. The defendant had franchisees operating in Illinois and sold products through a website and catalog, and it sent employees into the state to visit the franchisees about once a year. The Appellate Court agreed with the trial court that, with respect to the defendant’s Internet sales, the defendant conducted a good faith inquiry into its use tax collection obligation and did not recklessly disregard an obligation to collect the tax. The court further overturned the trial court’s determination that the defendant did not conduct a good faith inquiry into its use tax collection obligation for catalog sales following its 2005 policy change requiring its franchisees to distribute 1,000 catalogs per year. The court cited to the reliance on a positive outcome in a prior New York State audit and on annual financial audits as proof that the defendant did not knowingly or recklessly disregard an obligation to collect use tax. People ex rel. Beeler, Schad & Diamond, P.C. v. Relax the Back Corp., 2016 IL App (1st) 151580 (Ill. App. Ct. Oct. 17, 2016).
Read our October 2016 posts on stateandlocaltax.com or read each article by clicking on the title. For the latest coverage and commentary on state and local tax developments delivered directly to your phone, download the latest version of the Sutherland SALT Shaker app.
Meet Georgia, the five-and-a-half-year-old German Shepherd belonging to Damien Packard, Sutherland’s Senior User Support Coordinator, and his girlfriend Chelsy. The two adopted Georgia last August when a friend moved and couldn’t take Georgia with him.
While with her previous owner, Georgia spent all of her time in the backyard, so she is still working on her social skills. She is a sweet girl, but can be very protective of her family and their personal space.
She loves to snuggle and goes wild for bully sticks. When she hears the ice machine in the refrigerator, her face lights up and she runs to the kitchen.
Georgia is so very grateful to be October’s Pet of the Month!
By Alla Raykin and Tim Gustafson
The Colorado Department of Revenue determined that energy purchased by a television broadcaster is exempt from sales tax when used to transmit broadcasts, but taxable when used for other office purposes. Colorado imposes sales tax on electricity and natural gas for commercial consumption. The Department analyzed possible exemptions applicable to the broadcaster’s use of energy and concluded that the 1937 statute exempting “radio communication” extends to television broadcasting today. However, the exemption, read narrowly, does not extend to energy used for office lighting, computers, printers, cameras, stage lighting and heating of office space. CO GIL-16-014.
