By Elizabeth Cha and Amy Nogid

Pennsylvania’s Commonwealth Court agreed with the Department of Revenue (Department) that the Department’s letter rulings addressing the taxability of actual transactions were not subject to review by the Board of Finance and Revenue (Board). Members of BJ’s Wholesale Club, Inc. (Taxpayers) alleged that they were due a refund of sales taxes because tax should only have been collected on the net amount of the sales price on taxable items after reduction for the value of the manufacturer’s coupon. The Department’s Office of Chief Counsel had issued two letter rulings concluding that Taxpayers’ purchases were properly taxed in full because the receipts did not adequately describe the items to which the coupons related. Taxpayers petitioned the Board to overturn the letter rulings, but the Board dismissed on the basis that it did not have jurisdiction to reverse letter rulings. The court agreed that letter rulings are a subset of advisory opinions and are not appealable under either the Taxpayer’s Bill of Rights or other statutory provisions addressing claims for refunds.

While the letter rulings here are arguably refund denials since they relate to actual and not hypothetical transactions, and are not “advisory opinions” which provide guidance on future transactions, this decision is consistent with the positions of many state revenue departments (and confirmed by many state courts) that review is available for only certain types of notices that constitute “jurisdictional” documents. Myers v. Commw., No. 706 F.R. 2014 (Pa. Commw. Ct. Nov. 24, 2015).

In another taxpayer victory, the New Jersey Superior Court, Appellate Division held that an intangible holding company was not required to throw out any of its so-called “nowhere receipts” from an affiliated tobacco company in computing the denominator of its receipts factor. In Lorillard Licensing Company LLC v Dir., Div. of Taxation, the court held that New Jersey’s economic nexus standard must be applied to determine whether a corporation is “subject to tax” in other jurisdictions for purposes of New Jersey’s Throw-Out Rule. Further, the court held that it is irrelevant whether the corporation actually filed returns in or paid tax to those other jurisdictions. The Appellate Division agreed with the Tax Court that “New Jersey has no legitimate interest in considering the tax policy and practices of other States when determining whether to apply the Throw-Out Rule.” 

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By Suzanne Palms and Charlie Kearns

The Commonwealth Court of Pennsylvania held that network infrastructure services (including local dial networks, telephone numbers and modems, i.e., Internet “backbone”) sold to Internet service providers (ISPs) to provide Internet access to end users were not subject to Pennsylvania sales and use tax. The commonwealth court found that the taxpayer, a facilities-based provider of backbone services, was not subject to Pennsylvania sales and use tax on its sales because such transactions were charges for access to the Internet excluded from the definition of taxable “telecommunications service.” Under Pennsylvania sales tax law, “[c]harges for access to the Internet” includes access to the Internet but does not include “telecommunication services purchased by an [ISP] to deliver access to the Internet to its customers.” 72 P.S. § 7201(rr)(3)(B).

On audit, the Pennsylvania Department of Revenue (Department) assessed sales tax for the tax periods January 1, 2000, through April 30, 2003, on the grounds that the taxpayer’s sales of Internet backbone services were taxable sales of telecommunications service. Specifically, at issue was the taxpayer’s sale of services to America Online, Inc. (AOL), a retail ISP. The commonwealth court distinguished the America Online, Inc. v. Commonwealth, 932 A.2d 332 (Pa. Cmwlth. 2007), case in which it previously held that port management services offered by a third-party service provider were taxable telecommunications services. Here, the commonwealth court found that there were fundamental technological differences between the taxpayer’s service and the service at issue in the AOL case. In AOL, among other relevant facts, the third-party service provider controlled and managed the analog calls that traveled along its network to the taxpayer’s modems. In this case, however, the analog calls traveled from end users through the taxpayer’s modems and over the taxpayer’s network, which then converted the analog calls to digital signals via Internet protocol. The commonwealth court next found that because the taxpayer’s facility was an access point that established an end user’s connection with the Internet (a “Point of Presence” or “PoP”), the taxpayer’s Internet backbone service constituted “Internet access service” per se. Thus, unlike the service at issue in AOL, which in the court’s view was telecommunications service purchased by ISPs to provide Internet access service, the taxpayer’s service in this case provided end users with a connection to the Internet at the taxpayer’s PoP facility. Accordingly, the commonwealth court determined that the taxpayer’s backbone services fell squarely within the Pennsylvania statutory exclusion for “[c]harges for access to the Internet.”

Of note, the taxpayer in Level 3 also argued that the Department’s assessment of sales tax on its Internet backbone services violated the Internet Tax Freedom Act, 46 U.S.C. § 151 (ITFA). However, because the commonwealth court resolved the case under Pennsylvania sales tax law, it did not address the taxpayer’s ITFA preemption argument. Level 3 Communications, LLC v. Commonwealth of Pennsylvania, 166 F.R. 2007 (Commw. Ct. Oct. 15, 2015).

By Nick Kump and Charlie Kearns

On October 27, the Michigan Court of Appeals affirmed the trial court’s decision in favor of the taxpayer and held that several contracts for data processing services, access to computer programs and databases, and other online services did not include the use of taxable prewritten computer software. After considering the definitions of key statutory terms such as “prewritten computer software,” “computer software,” “delivery” and “use,” the court developed a test to determine when online transactions involving access to computer programs and associated services can be considered taxable prewritten computer software: “if plaintiff exercised control over a set of coded instructions that was conveyed or handed over by any means and was not designed and developed by the author or other creator to the specifications of a specific purchaser.” Applying this test to each of the transactions at issue, the court generally found that accessing and using computer programs via a web browser, or submitting data for analysis to third-party computer programs, did not constitute delivery of prewritten computer software because the plaintiff did not control the software’s code. In those contracts where the vendor provided written materials or the plaintiff had to download computer software onto its computers, the court applied the six-factor “incidental to service” test from Catalina Mktg Sales Corp v. Dep’t of Treasury, 470 Mich. 13 (2004) and found that in each case the tangible personal property was incidental to the service that the plaintiff contracted for. Specifically, the court reasoned, “[t]here is no indication that plaintiff could purchase the software or other tangible personal property independent of the services, and the services gave value to the software and other tangible personal property.” Auto-Owners Ins. Co. v. Dep’t of Treasury, No. 321505 (Mich. Ct. App. Oct. 27, 2015).

Read our November 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 Nick Kump and Charlie Kearns

The Iowa Department of Revenue issued a policy letter declaring that the delivery of a digital software key on a tangible card is exempt from sales tax, as long as the software itself is delivered digitally and there is not a separate charge for the key. Iowa Code section 423.3(67) exempts from sales tax the “sale price of a sale at retail if the substance of the transaction is delivered to the purchaser digitally [or] electronically . . . .” However, under Iowa Admin. Code r. 701-231.14, even if a product is ordered digitally or electronically, the sale of the product is not excluded from sales tax if the product is delivered by conventional, physical means such as common carrier. The Department compared the conventionally delivered digital software key to the electronically delivered software, and concluded that even though the customer could not access the software without the digital key, the software was the “substance of the transaction.”  Therefore, the entire transaction was exempt from sales tax. Sales of Software in Iowa, Iowa Dept. Rev. Policy Letter, Document No. 15300041 (Sept. 30, 2015) (released Nov. 2, 2015).       

By Nick Kump and Charlie Kearns

The Ohio Board of Tax Appeals held that medical transcription services are taxable automatic data processing services, rather than tax-exempt personal or professional services, because of the minimal level of personal skill involved in transcription services. Under Ohio law, personal or professional services are not subject to Ohio sales and use tax. To qualify as a personal or professional service, the service provider must apply specialized cognitive skills to “study, alter, analyze, interpret, or adjust” data provided by the customer. In its decision, the Board looked to both the expectations of the customer, here a medical practice, and the transcriptionists’ duties to determine whether medical transcription should be an exempt personal or professional service. While transcriptionists must decipher different physicians’ speech patterns and properly transcribe medical terminology, the transcriptionist merely reduces the physicians’ spoken word to written form verbatim without altering the substantive content. Additionally, the Board considered that there was no specialized training required of transcriptionists to perform their jobs, no licensing or certification process that must be completed in order to work as a transcriptionist, and no regulatory authority that oversaw the profession. As a result, the medical transcription services were subject to Ohio use tax. Dayton Physicians, LLC v. Testa, Ohio BTA, Case No. 2014-3986, 09/28/2015; Columbus Oncology Assoc., Ohio BTA, Case No. 2014-3984, 09/28/2015.

By Stephen Burroughs and Charlie Kearns

The Indiana Department of Revenue (Department) concluded that a company’s employment screening and background checking services are not subject to sales tax. The company in this matter receives requests from customers seeking to verify the background, employment history or education of a potential employee or tenant. The company then compiles information from various government databases, courthouse records and educational institutions to create a customized report for the customer. The customer may only view the custom report by accessing the company’s secure website. 

Indiana does not tax electronically delivered items unless the item constitutes a taxable digital product, prewritten software or a telecommunications service. The Department determined that the company’s custom reports are not similar to digital songs, movies/TV shows or books and therefore are not taxable as a digital product. It further concluded that the customized nature of the background checks excluded them from the definitions of telecommunications service and prewritten software. The Department’s conclusions are consistent with the provisions of the Streamlined Sales and Use Tax Agreement (see Sections 333 and 332) that require its Member States (including Indiana) to exclude electronically transferred products from their respective definitions of tangible personal property unless the item is separately delineated as taxable. Ind. Dep’t of Revenue, Rev. Rul. No. 2013-07ST (Oct. 1, 2015).  

 

jaxmolly.jpgThis month’s Pet of the Month column begins as a tribute to two cherished Labrador Retrievers belonging to Angie Moore, Tax Director at Liberty Media. Sweet Molly and Jax passed away suddenly within three weeks of each other this past summer. They were siblings to Bogey, a seven-and-a-half-year-old Shih Tzu who Angie has had since he was just a pup.

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Sometimes called “Boge” for short, he learned to swim alongside Molly. He even shared a bed with the two Labs and would spoon Molly as they fell asleep. 

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After losing both members of his pack, Bogey had trouble adjusting to life as an only child. Enter Cooper, a Chocolate Lab, who is now a little over seven months old and all puppy. Bogey adores his new rambunctious brother.

Cooper and Bogey enjoy playing with their favorite toy – a multi-leg squeaker-filled frog. (Sometimes Angie’s granddaughter likes to hold onto a leg and get in on the tug-of-war action with them!) The two also share an affinity for dog chews especially each other’s bone. Angie says she could lay out 10 bones in front of them, and the most desirable one would still be the one in the other’s mouth.

These handsome boys are so very thankful to be the November Pets of the Month.