Thumbnail image for Filion Pets.jpgFilion Cats.jpgMeet Jethro and George, the feline companions of Kathy Filion, an executive assistant at Tyco, who answered our recent call for feline pets. Both Jethro and George are rescue kitties and die-hard Green Bay Packers fans (seen drowning their sorrows in food at the end of football season with the Filions’ dog, Gracie, who already had her 15-minutes of fame). George has an adventurous side and once went on a six-week “walk-about.” A kind family called to let the Filions know he was hanging Filion Pet 1.jpgout at their house seven miles away! The Filions were thrilled to have him back. He came home to Gracie and a new little brother, Jethro.  George and Jethro have been buddies ever since. When the boys aren’t reading up on the latest SALT news, they are busy stalking and chasing each other, and then napping from all the hard work they have done. Jethro and George say thanks for choosing them as Pets of the Month…and GO PACK GO!

By Derek Takehara and Andrew Appleby

The Virginia Tax Commissioner issued a taxpayer-favorable ruling addressing Virginia sales and use tax on (1) computer software sold to manufacturers and (2) cloud computing services. The Commissioner determined that Virginia’s manufacturing exemption can apply to sales of computer software if the software is used directly in the manufacturer’s production process (i.e., as an indispensable and immediate part of the actual production process). As an example, the Commissioner distinguished between software used to direct or control production operations (exempt) and software used only to monitor such operations (taxable). If potentially exempt software is used in both taxable and exempt production activities, a preponderance of use test is used to determine whether the exemption applies on an all-or-nothing basis. The Commissioner reminded the taxpayer that sales of computer software could also be exempt as sales of prewritten software modifications or custom software, irrespective of whether the purchaser is engaged in manufacturing. If the taxpayer relies on the manufacturing exemption, the Commissioner cautioned the taxpayer to collect an exemption certificate from manufacturers at the time of sale to avoid later audit scrutiny. Finally, the Commissioner determined that cloud computing services were exempt from sales and use tax because they do not involve tangible medium and qualify as a nontaxable service under Virginia’s exemption for electronic transfers of software. Va. Pub. Doc. Rul. No. 14-42 (Mar. 20, 2014).

By Kathryn Pittman and Timothy Gustafson

The Oklahoma Supreme Court held Oklahoma’s deduction for capital gains arising from the sale of a company headquartered in the state for three or more years does not violate the dormant commerce clause of the U.S. Constitution. The taxpayer, a California company with its headquarters in Florida, sold a manufacturing facility in Oklahoma and claimed the Oklahoma capital gains deduction. The Oklahoma Tax Commission denied the taxpayer’s deduction because it was not headquartered in Oklahoma for three years prior to the sale, and the taxpayer challenged the denial on constitutional grounds. The Oklahoma Supreme Court, an elected body, held that the application of the deduction had no negative impact on interstate commerce because the deduction was available to a qualified entity participating in any market or industry, regardless of whether it participated in intrastate or interstate commerce, and concluded that the dormant commerce clause did not apply. Even if the dormant commerce clause applied, the court held that the deduction on its face does not penalize the out-of-state activities of corporations doing business in Oklahoma; serves the non-discriminatory purpose of enticing out-of-state companies to locate in Oklahoma; and does not preclude tax-neutral decision-making or otherwise have a discriminatory effect on interstate commerce. CDR Sys. Corp. v. Oklahoma Tax Commission, Case No. 109886 (Okla. 2014). This decision raises an issue similar to that in DaimlerChrysler Corp. v. Cuno, 547 U.S. 332 (2006), a case ultimately dismissed on standing grounds. If appealed and granted review, the Oklahoma decision would give the U.S. Supreme Court the opportunity to revisit the constitutionality of tax incentives.

By Jessica Kerner and Pilar Mata

The Michigan Court of Claims held that cloud computing, or software as a service (SaaS), is a nontaxable service rather than a taxable use of prewritten software. The taxpayer, an insurance company, entered into various transactions that provided the taxpayer with remote access to third parties’ software. The Michigan Department of Treasury asserted that the insurance company was liable for use tax because the transactions at issue involved the “use” of prewritten computer software “delivered by any means.” The court disagreed, reasoning the software was not “delivered” because the third-party providers did not surrender possession or control of the software to the taxpayer, nor did the third parties actually transfer to the taxpayer the software needed to process and produce the outcomes. Moreover, the court found that the legislature could not have intended the term “delivered” to include remotely accessing a third-party provider’s technology infrastructure because such remote access was unheard of at the time the statute was enacted. The court further determined that even if the software was deemed to be “delivered,” the taxpayer had not made the requisite “use” of the software because there was no evidence that the taxpayer exercised a right or power incident to ownership in the underlying software. The court’s decision acknowledged the “complexity associated with the computer environment” and the “changing nature of computer-based technology and business models.” There are currently two bills pending in Michigan, Senate Bill 142 and Senate Bill 143, which would codify the decision in this case. These bills would make it clear that for both sales and use tax purposes, the right to access prewritten computer software on another person’s server is a nontaxable sale of service. Auto-Owners Insurance Company v. Department of Treasury, Case No. 12-000082-MT (Mich. Ct. Cl. 2014).

By Zachary Atkins and Pilar Mata

A California Court of Appeal held that a mobile telecommunications service provider could pursue refund actions against local taxing authorities in California without first having to refund the disputed taxes to its customers. Pursuant to a settlement agreement, New Cingular, the provider, filed refund claims against 132 California cities and two counties on behalf of its customers for taxes erroneously charged on sales of Internet access services. The local taxing authorities argued that New Cingular did not have standing to bring refund suits on its customers’ behalf because New Cingular failed to refund the amounts in question to customers before filing refund claims in accordance with local ordinances. The court disagreed and held that local “refund first” ordinances are preempted by the state Government Claims Act to the extent they purport to create additional preconditions on the filing of refund claims for local taxes and that New Cingular’s claims substantially complied with the requirements of the Government Claims Act. The court also held that New Cingular had standing because it had a direct interest in seeking the refunds as a result of the settlement agreement—an enforceable contract that required New Cingular to seek the refunds on behalf of its customers—and there was no possibility that New Cingular would be unjustly enriched. Allowing New Cingular to proceed with its refund suit also ensured that the local taxing authorities would not be unjustly enriched with erroneously collected sales taxes. The court’s opinion is consistent with the New Jersey Tax Court’s recent opinion in New Cingular Wireless PCS, LLC v. Director, Div. of Taxation, No. 000003-2012, 2014 WL 714769 (N.J. Tax Ct. Feb. 21, 2014), which Sutherland covered here. Sipple v. City of Hayward (Apr. 8, 2014, B242893) ___ Cal.App.4th ___ [2014 Cal. App. LEXIS 313].

By Christopher Chang and Pilar Mata

The New Jersey appeals court ruled that BIS LP, Inc. (BIS) was entitled to receive a New Jersey Corporation Business Tax (CBT) refund in the ongoing BIS litigation saga. In 2011, BIS, an out-of-state limited corporate partner, prevailed before the appeals court, securing a decision that found BIS lacked sufficient nexus with New Jersey and, consequently, was not subject to CBT. The case was remanded to the New Jersey Tax Court to determine whether BIS was entitled to receive the CBT refund. The State contended that BIS was not entitled to the refund because a related entity (who was time-barred from seeking a refund claim) remitted the CBT on behalf of BIS, and BIS did not consent to New Jersey taxing authority or have nexus with the State. The appeals court again held in favor of BIS, determining BIS was entitled to the refund. The court reasoned that BIS had filed a CBT return, so the State’s argument that BIS did not consent to New Jersey’s taxing authority was unpersuasive. BIS LP, Inc. v. Director, Division of Taxation, Dkt. No. A-1647-12T3 (N.J. Super. Ct. App. Div. April 11, 2014).

By Jonathan Maddison and Andrew Appleby

The Commonwealth Court of Pennsylvania held that tax records detailing yearly totals of room rental tax and other occupancy data submitted by hotel taxpayers to a locality were not subject to disclosure under Pennsylvania’s Right-to-Know Law (RTKL). A newspaper, under the RTKL, requested that Lancaster County provide detailed tax records for all hotels in the county that paid the Hotel Room Rental and Excise Taxes. The County’s denial of the newspaper’s public records request was ultimately upheld by the Commonwealth Court. The RTKL starts with the presumption that a record in the possession of a local agency is a public record, and then several exceptions are provided, including records that constitute or reveal a trade secret or confidential proprietary information. The Commonwealth Court reasoned that the information sought by the newspaper was confidential proprietary information under the RTKL because the information necessary for the hotels to compute the Hotel Room Rental and Excise Taxes, including occupancy data and related information, is never shared between hotels or with the public. Further, the court held that the disclosure of such information would cause substantial harm to the competitive position of the hotels. Accordingly, the Commonwealth Court held that the County was not required to release any of the information sought by the newspaper. Thirty Inc. v. Smart, No. 805 C.D. 2013 (Apr. 14, 2014).

By Nicole Boutros and Timothy Gustafson

A New York State Division of Tax Appeals Administrative Law Judge (“ALJ”) upheld the denial of corporation franchise tax refund claims, determining the taxpayers were not engaged in a unitary business.  The taxpayers and their subsidiaries (“Group”) provided services in what the ALJ found were “similar and related lines of business” to shared customer bases in overlapping business sectors.  The parent corporation provided extensive services to members of the Group, often times without compensation or not at arm’s length pricing, including management and control of budgets and cash flow, insurance functions, audit functions, regulatory filings and tax reports, legal functions, record retention and related employee functions, centralized Group debt, purchasing functions, human resources and benefits, marketing, and technology.  In addition, there was significant overlap among the Group members’ corporate officers, a number of which were responsible for high-level management, direction and control of the entire Group.  Nevertheless, the ALJ found the Group was not engaged in a single unitary business for New York combined reporting purposes.  The ALJ’s decision was largely based on the finding that the centralized operations and services provided by the parent corporation were “strictly oversight” and did not involve any “operational expertise” from the parent.  The ALJ further found that the shared services did not result in flows of value that would give rise to functional integration among and within the Group’s different lines of business.  Finally, without much analysis and despite the Group transactions identified above, the ALJ found little cross-selling and intercompany transactions between the various business segments, thereby determining that the Group lacked economies of scale.  The ALJ’s decision has considerable implications for taxpayers in the wake of New York State’s corporate tax reform, which shifted to a unitary combined reporting regime as a result of the 2014-2015 Budget.  The decision creates uncertainty for corporate taxpayers by rejecting indicia that courts have typically found to evidence a unitary business.  The taxpayer has a right to appeal the ALJ’s decision to the Division of Tax Appeals Tax Appeals Tribunal.  The ALJ’s decision foreshadows the controversy New York corporate taxpayers will face under the new unitary combined reporting regime.  In the Matter of the Petition of Sungard Capital Corp., DTA No. 823631 (Apr. 3, 2014).  For additional coverage, see our previous post, “New York Tax Reform Made Easy: Unitary Combined Reporting and Nexus.”

By Suzanne Palms and Tim Gustafson

In direct response to the Mississippi Supreme Court’s decision in Equifax, Inc. v. Miss. Dep’t of Revenue, wherein the court upheld the Department of Revenue’s use of market-based sourcing despite the taxpayer’s use of cost-of-performance sourcing in compliance with the governing statute, Mississippi’s Governor signed House Bill (HB) 799 into law. The most notable provisions of the bill set new conditions for the Department of Revenue to follow in applying alternative methods of apportionment and limit the Department’s authority to require taxpayers to file combined returns. HB 799 goes beyond the issues in Equifax to remedy a wide range of inequitable procedural provisions during the audit and appeals process. Specifically, the legislation codifies the ability of the Department or a taxpayer to use an alternative apportionment method but explicitly places the burden of proof on the party invoking the alternative method to prove by a “preponderance of the evidence” that 1) the statutory or regulatory methods do not fairly represent the extent of the taxpayer’s business activity in the state and 2) the method selected more fairly represents that activity than any other reasonable method available. The legislation also requires that alternative apportionment be invoked only in “limited and unique, nonrecurring circumstances” when the standard apportionment provisions “produce unanticipated results that do not fairly represent the extent of the taxpayer’s business activity” in Mississippi. Moreover, the bill prohibits the Department from invoking its forced combination authority until the Department adopts regulations which specify the “criteria and circumstances” it must use to meet the “preponderance of the evidence” standard necessary to support an assumption that intercompany transactions resulted in the improper shifting of taxable income. The bill’s effective date is January 1, 2015. HB 799, 2014 Leg., Reg. Sess. (Miss. 2014).

By Ted Friedman and Timothy Gustafson

The Supreme Court of Missouri reversed and remanded a decision of the Administrative Hearing Commission (see our coverage of the Commission’s January 28, 2013 decision here) and held that income from a “rabbi trust”—a trust established by a corporation to fund a nonqualified deferred compensation plan for company executives—constituted business income subject to apportionment and Missouri taxation. While agreeing with the Commission that the trust income did not satisfy the transactional test for business income, the Court held that the trust income was business income under the functional test. The Court reasoned that a successful business requires capable, productive management and executive leadership management just as it requires the tools of its trade, and by providing additional retirement compensation for its executives, the corporation attracted and retained top executives for the purpose of sustaining its current business operations. MINACT, Inc. v. Dir. of Revenue, No. SC93162 (Mo. Apr. 15, 2014), reh’g den., (Mo. May 27, 2014).