Read our September 2015 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 mobile app.

By Robert Merten and Charlie Kearns

The Missouri Department of Revenue has issued a comprehensive letter ruling answering 12 software-related sales tax questions on issues concerning canned software, custom software, software licenses, software invoices, software installation and software maintenance agreements. Missouri Department of Revenue LR 7615, Aug. 21, 2015. In the letter ruling, the Department applies Missouri’s general software taxability regulation, Missouri Code of State Regulations § 12 CSR 10-109.050, to particular and practical inquiries by a taxpayer company. Specifically, the Department’s letter ruling provides Missouri sales tax guidance for the following software transactions:

  • Purchases of canned (“off the shelf”) software programs are not subject to sales or use tax if delivered electronically through the Internet, but are subject to sales or use tax if delivered in a tangible format.
  • Purchases of customized (special ordered) software programs are not subject to sales or use tax, regardless of whether the programs are delivered electronically or in a tangible format.
  • Purchases of licenses to use previously purchased canned software are not taxable if the original software was delivered electronically (even if subsequently copied), but are subject to sales or use tax if the software was delivered in a tangible format. 
  • Purchases of software maintenance/support delivered electronically (and remotely by phone) are not subject to sales or use tax if the original software was delivered electronically, but are generally taxable if it was canned software delivered in a tangible format (unless the maintenance/support is optional and is separately invoiced from the software) or if the maintenance/support provides for the delivery of canned software updates, upgrades or enhancements in a tangible format. 
  • Purchases of additional licenses for canned software delivered in a tangible format are not taxable unless they are part of the original transaction for the canned software.
  • Separately invoicing or separately listing on one invoice multiple software-related purchases (canned software, customized software, licenses to use canned software and/or software maintenance/support in which delivery of some of the items occurs in tangible format and others electronically) from the same vendor does not determine whether particular items are subject to sales or use tax.
  • Purchases of software programs installed by the vendor at the purchaser’s location in Missouri using a tangible storage media that is then taken away by the vendor upon installation (“load and leave” transactions) are not considered canned software deliveries in a tangible format, and thus are not subject to sales or use tax.
  • Purchases of licensed software installed at the vendor site onto servers or hardware also purchased from the vendor are considered part of the purchase of tangible personal property and, thus, are subject to sales and use tax. However, purchases of licensed software installed at the vendor site onto servers or hardware not purchased from the vendor are not considered canned software deliveries in a tangible format and, thus, are not subject to sales or use tax.

By Chris Mehrmann and Charlie Kearns

The Montana Supreme Court held that online travel companies (OTCs) – including Priceline, Expedia, Orbitz and others – are subject to the state’s sales taxes on accommodations, campgrounds and rental vehicles, but are not subject to the state’s lodging facility use tax. The court held that the reservation fees are subject to sales tax because, in its view, the fees are included in the sales price and that the OTCs, as sellers of these reservation services, must collect and remit these taxes to the Department of Revenue. However, because the OTCs are neither owners nor operators of lodging facilities, the court held that the reservation fees are not subject to the lodging tax. The OTCs requested a prospective application of the court’s decision, arguing that any imposition of back taxes would be inequitable. Rejecting this argument, in part, the court ordered that the OTCs pay tax retroactive to 2010, when the Department filed its lawsuit, since they were on notice that the Department considered them liable for tax. Interestingly, the court also noted that Montana’s lodging facility use tax and sales tax regimes are “inconsistent and incompatible.” Since the regimes were “created sixteen years apart” and “tax two separate transactions,” the court declined to read the statutes in pari materia. Dept. of Revenue v. Priceline.com, Inc., No. DA 14-0260 (Mont. Aug. 12, 2015). 

Thumbnail image for Wrigley.jpegMeet Wrigley, this month’s Pet of the Month, who was submitted through our SALT Shaker App by Gary Peric, founder of the State Tax Foundation. 

A real sweetheart of a pup, Wrigley (aka PL 86-272) is a mini Golden Doodle. Born to a small Poodle father and Golden Retriever mother, Wrigley celebrates her sixth birthday in November. Happy early birthday, Wrigley! 

Thumbnail image for Thumbnail image for Wrigley palm trees.jpgThe Perics, who are originally from Chicago and big Cubs fans, named their sweet pooch after Wrigley Field as well as the 1992 case, Wisconsin Department of Revenue v. William Wrigley, Jr., Co. Wrigley has been with them since she was eight or nine weeks old, and they have thoroughly enjoyed watching her grow up. She is a great companion and loves to play with everyone – especially children.

Wrigley’s favorite activity is retrieving tennis balls off the pier near the Perics’ summer home in Indiana. If she could, Wrigley would play fetch from sun up to sun down, but Gary limits her to only 10 throws a day to keep her from wearing herself out. 

Wrigley also enjoys playing with her half-brother Scout (same father, different mother). The two share a unique talent for standing on their hind legs and waving to people with a front paw.

Wrigley is so very happy to be September’s Pet of the Month!

Direct Marketing Association continued its fight against Colorado’s use tax reporting regime during oral arguments today before the United States Court of Appeals for the Tenth Circuit. After getting sidetracked with a jurisdictional question that proceeded to the U.S. Supreme Court, DMA returned to the Tenth Circuit and urged it to affirm the decision of the lower court that Colorado’s law violates Quill Corp. v. North Dakota.

View the full Legal Alert.

In a recent unpublished decision, Residuary Trust A v. Director, Division of Taxation (Kassner), the New Jersey Appellate Division relied on the “square corners doctrine” to hold that the New Jersey Division of Taxation was prohibited from imposing tax for the 2006 tax year based on a policy change not announced until 2011. In other words, even though the assessment may have been supported by the statute, the court determined that it would be unfair to assess the tax.

In their article for State Tax Notes, Sutherland attorneys Leah Robinson, Open Weaver Banks and Amy F. Nogid describe the New Jersey square corners doctrine, which prevents the government from achieving or retaining an unfair bargaining or litigation advantage.

View the full article reprinted from the September 14, 2015, issue of State Tax Notes.

By Chris Mehrmann and Amy Nogid

The Washington State Supreme Court held that a car dealership’s earnings from a “dealer cash” incentive program, offered by the manufacturer, American Honda Motor Company, to dealers to stimulate sales of certain car models within a specific time period, are taxable under the catchall provision of the business and occupation tax. The court further held that the incentive program did not qualify as a bona fide discount to the wholesale purchase price of the vehicles, which would not be taxable, because the dealer cash payments were not yet quantified or knowable at the time the dealership purchased the vehicles from the manufacturer. This opinion follows and upholds previous decisions on this issue against the taxpayer by the Washington Court of Appeals, the Thurston Superior Court, and the Board of Tax Appeals. (please see our prior coverage). Steven Klein, Inc. v. State of Wash., Dep’t of Revenue, Dkt. No. 91072-3 (Wash. Aug. 27, 2015).

By Stephen Burroughs

The Kentucky Board of Tax Appeals (Board) has held that Netflix’s digital streaming service is not subject to the state’s telecommunications taxes.

Kentucky’s telecommunications tax regime is comprised of three distinct taxes, each imposed on the provision of “multichannel video programming service” (MVPS). The taxes consist of a gross revenues tax, an excise tax, and a utility gross receipts license tax, all amounting to a 6.7% tax on MVPS. Kentucky defines MVPS as programming that is “generally considered comparable to programming provided by a television broadcast station.” The statutory definition also includes cable service.

The Kentucky Department of Revenue (Department) argued that the similarities between the digital content Netflix offers through its streaming service and traditional television programing justified subjecting Netflix to the tax. The Department analogized Netflix’s service to cable television’s video-on-demand. Netflix distinguished its service from the array of “linear” programming options offered by cable and broadcast television providers.

The Board focused on the dictionary definitions of “programming” and “comparable” to conclude that Netflix was not similar enough to broadcast television to justify the imposition of tax on the streaming service. The Board noted that while both Netflix and broadcast television allow consumers to watch television shows and movies, Netflix does not offer live programming, sports or news. The Board determined that on-demand television, while similar to the presentation of Netflix programming, was “only an incidental part of the broadcast and cable TV services programming” and insufficient to draw a significant comparison with Netflix’s customer interface.

Two related issues will be worth watching as this case progresses through Kentucky’s appellate system (if it is appealed). First, Kentucky’s telecommunications tax regime preempts Kentucky local governments from imposing local franchise fees on certain MVPS providers. Kentucky cities, along with the Kentucky League of Cities, have challenged the constitutionality of this local tax prohibition under the Kentucky Constitution. The Department and the Kentucky Cable Television Association argued to uphold this preemption, but an unpublished decision of the Kentucky Court of Appeals struck it down. See City of Florence, Kentucky, et al v. Flanery, No. 2013-CA-001112-MR, Nov. 7, 2014, modified by No. 11-CI-01418 (Ky. Ct. App. filed March 13, 2015) (unpub). That case now awaits a hearing date before the Kentucky Supreme Court.

Second, although Kentucky’s definition of MVPS closely tracks a similar federal regulatory definition, the Board refused to consider the federal regulatory treatment of digital streaming services. For more than a year, the Federal Communications Commission (FCC) has grappled with similar issues as it seeks to determine whether digital streaming video providers are properly classified as multichannel video programming distributors for regulatory purposes. An FCC order on the issue is expected this fall. Netflix, Inc. v. Kentucky Finance & Admin. Cabinet, Order No. K-24900 (Ky. Bd. Tax App. Sept. 23, 2015).

By Evan Hamme and Tim Gustafson

In a rare Chief Counsel Ruling (the first of 2015), the California Franchise Tax Board (FTB) held that the sale of an entire line of business qualified as an “occasional sale” for corporate franchise tax purposes, thus requiring the selling taxpayer to exclude the resulting gross receipts from its California sales factor. The taxpayer operated two lines of business and, through the transaction at issue, sold one to an unrelated party in order to focus on the other. California Code of Regulations, title 18, section 25137(c)(1)(A) requires taxpayers to exclude from the sales factor gross receipts resulting from a transaction that is both: (1) “substantial” (i.e., a 5% or greater decrease to the sales factor denominator would result from excluding the gross receipts); and (2) “occasional” (i.e., “is outside the taxpayer’s normal course of business and occurs infrequently”). The FTB found the transaction was “substantial” because excluding the gross receipts decreased the taxpayer’s denominator by approximately 33%. Adopting and applying an analysis from case law interpreting California’s transactional test for business income, the FTB also found the transaction was “occasional” because (1) the taxpayer’s disposition of an entire line of business was “an extraordinary corporate occurrence” that did not occur in the taxpayer’s regular course of business; and (2) the sale was infrequent since this was the only time the taxpayer had disposed of an entire line of business. Cal. FTB Chief Counsel Ruling No. 2015-01 (Jul. 31, 2015).

By Mike Kerman and Madison Barnett

The Indiana Tax Court granted summary judgment to Rent-A-Center East, Inc. (RAC), finding that the Department of Revenue’s determination that RAC and two affiliates should have filed a combined return was improper. This case was on remand from a prior Indiana Supreme Court ruling (please see our prior coverage). RAC engaged an independent accounting firm to conduct a transfer pricing study to determine arm’s-length pricing for royalty payments to one affiliate and for management fee payments to the other affiliate. While separate filing is the default method in Indiana, the Department may require a taxpayer to use an alternative apportionment method, including filing a combined return, if the standard sourcing rules do not fairly reflect the taxpayer’s income. However, the court rejected the Department’s argument that the mere fact that RAC and the affiliates operate a unitary business required a combined return regardless of a possibility of distortion. Similarly, the court also rejected the Department’s long-standing position that transfer pricing studies are not relevant to whether a separate return fairly reflects Indiana source income because Indiana Code § 6-3-2-2(m) mirrors the language in I.R.C. § 482. Additionally, the court concluded that the Department failed to introduce any evidence to show that RAC’s royalty and management fee payments lacked a business purpose or economic substance, or were made to avoid taxes. Finally, the court found that reductions in year-to-year Indiana taxable income do not establish per se that RAC’s Indiana sourced income was not properly reflected on its returns. Thus, the Department should not have required RAC to file a combined return. Rent-A-Center East, Inc. v. Dep’t of Revenue, No. 49T10-0612-TA-00106 (Ind. Tax Ct. Sept. 10, 2015).