On March 5, 2013, the Multistate Tax Commission’s Income and Franchise Tax Uniformity Subcommittee declined to move forward with a transfer pricing project and instructed its Financial Institutions Working Group to examine the inclusion of loans in the property apportionment factor. For full details, read our legal alert, “Update from the MTC’s Winter Committee Meetings: Transfer Pricing and Financial Institution Apportionment.”

In a case pitting statutory language against a department of revenue’s historical practice, the Kentucky Court of Appeals held that the “franchise” of a public service corporation is a separate asset for ad valorem taxation purposes, and it is subject to state and local property taxation. Dayton Power & Light Co. v. Dep’t of Revenue, No. 2011-CA-001438-MR (Ky. Ct. App. Nov. 2, 2012).

From 1999 to 2003, the Kentucky Department of Revenue allowed Dayton Power and Light Company (DP&L), an electric utility, to pay tax on its intangible franchise value based on a “spread method,” which allocated the value among several classes of tangible property. The spread method had the effect of lowering the tax rate imposed on DP&L’s franchise and exempting it from local taxation. The Department reversed course in 2006 and took the position that the franchise should be taxed separately. The Department’s change in position increased the tax rate on DP&L’s franchise and subjected the franchise to local, as well as state, taxation.

The court rejected DP&L’s application of the doctrine of contemporaneous construction, which generally prevents an administrative agency from retreating from a long-standing policy regarding an ambiguous statute. The statutes at issue, the court found, were unambiguous, and DP&L did not present sufficient evidence that its prior agreement with the Department amounted to a long-standing policy of allowing utilities to employ the spread method with respect to their franchises. Instead, the court described the Department’s change in position as merely a correction of an “erroneous interpretation of the law.”

We recently launched the Sutherland SALT Digital Economy Forum, which provides comprehensive state tax resources regarding the taxation of the digital economy. Following is a summary of recent digital economy administrative guidance, noteworthy cases and legislation. If you would like to learn more about the Sutherland SALT Digital Economy Forum or any of the issues covered here, please contact us.

Sales, Use and Other Transaction Taxes

Administrative Guidance

  • Massachusetts Soliciting Comments on Software Directive. On February 7, the Massachusetts Department of Revenue issued a draft directive that addresses the application of the Massachusetts sales and use tax to sales of software and computer-related services.
  • Wisconsin Updates Guidance Regarding the Sales and Use Tax Treatment of Computer Hardware, Software, and Services; Addresses Cloud Computing. On January 25, 2013, the Wisconsin Department of Revenue (DOR) updated its software guidance for sales occurring on and after October 1, 2009. While the taxability conclusions and destination-based sourcing regime remain largely unchanged, the DOR expressly addressed software as a service (SaaS), platform as a service (PaaS), and infrastructure as a service (IaaS).
  • Missouri DOR: Computer Software May Not Be Eligible for Manufacturing Exemption. The Missouri Department of Revenue (DOR) recently determined that a company’s software programs were not eligible for the manufacturing equipment exemptions from sales and use tax because the software was not directly used in the manufacturing process.

Continue Reading Digital Economy Update: Administrative Guidance, Noteworthy Cases and Legislation

The Michigan Court of Appeals held that a $2.2 billion transaction involving the sale of assets related to the Grey Goose vodka product line did not constitute a “sale” for purposes of apportioning the Michigan Single Business Tax (SBT). Sidney Frank Importing Co., Inc. v. Dep’t of Treasury, No. 306742 (Mich. Ct. App. 2012). The taxpayer, Sidney Frank, transferred all of its tangible and intangible assets in the top-shelf vodka, including inventory, to Bacardi, Ltd. The transaction produced a substantial gain, and Sidney Frank included the proceeds in the denominator of its sales factor for 2004 apportionment purposes.

For purposes of the SBT, which was repealed in 2006, “sale” was defined in relevant part as the amounts received from the rental, lease, license or use of property that constitutes business activity. The taxpayer argued that the transfer of the Grey Goose assets was a sale of intangible property (and thus the proceeds should be included in the sales factor denominator) because it was a “use” of intellectual property. The Department argued that the term “sale” includes only transactions where the taxpayer allows a person to use property and does not transfer title to the property.

Continue Reading The (Grey) Goose that Got Cooked in Michigan

Retailers and banks continue to get whipsawed on sales tax bad debt deductions where a retailer provides a private label credit card program in conjunction with a third party bank. The Kentucky Board of Tax Appeals ruled that a retailer was not entitled to a bad debt deduction because it was not the party that wrote off the bad debts on its books and records. Home Depot USA, Inc. v. Kentucky Fin. and Admin. Cabinet, No. K10-R-25 (Oct. 17, 2012).

The Arizona Court of Appeals reached the same conclusion in Home Depot USA, Inc. v. Arizona Dep’t of Revenue, 287 P.3d 97 (Oct. 2, 2012). In a prior case, the same Arizona court rejected the bank’s bad debt refund claim because it was not the retailer that actually paid the tax. DaimlerChrysler Servs. N. Am., LLC v. Ariz. Dep’t of Revenue, 110 P.3d 1031 (Ariz. Ct. App. 2005). In other words, neither party in a typical private label credit card arrangement is able to claim a sales tax bad debt deduction in Arizona. The state is unjustly enriched, in our view, by retaining sales tax paid by the retailer on transactions where the consumer never actually pays for the goods.

Retailers have prevailed in some states on bad debt claims. The Michigan Supreme Court, for example, rejected the state’s appeal from an unpublished decision of the Michigan Court of Appeals granting the retailer’s bad debt refund claim. Home Depot USA, Inc. v. Michigan Dep’t of Treasury, No. 301341, 2012 WL 1890219 (Mich. Ct. App. May 24, 2012), appeal denied, 821 N.W.2d 664 (Mich. Oct. 22, 2012). Other states, such as California, have remedied the unjust enrichment to the state by legislatively permitting the retailer and/or bank to make an election allowing one of the parties to claim the bad debt refund. See Cal. Rev. & Tax. Code §§ 6055, 6203.5.

Lard, Todd.jpgWe are pleased to announce that Todd A. Lard will rejoin Sutherland’s Washington, DC office on March 4 as a partner in our State and Local Tax (SALT) Practice. For the past five years, Todd Lard worked at the Council On State Taxation (COST), most recently as its vice president and general counsel. Prior to joining COST, a premier association representing state taxpayers, he was counsel at Sutherland.

Todd Lard led COST’s legal team, which oversaw legislative, administrative and judicial advocacy on complex state and local tax issues for multistate corporations, including nexus, jurisdiction, discriminatory taxation and apportionment. He testified before government authorities and filed amicus briefs at the U.S. Supreme Court and state appellate courts advocating fair and nondiscriminatory taxation of multistate corporations.

At Sutherland, Todd Lard will leverage his significant experience and insight into state tax policy, digital economy and communications tax issues, in his representation of Fortune 500 and other industry-leading companies on state and local tax issues. Todd will play a leading role in the recently launched Sutherland SALT Digital Economy Forum.

Sutherland’s SALT Practice also welcomes three new associates, Todd G. Betor, Sahang-Hee Hahn and Saabir S. Kapoor. To learn more about the expanded team, click here.

Many states offer special tax rules for manufacturers. In this edition of A Pinch of SALT, Sutherland SALT’s Suzanne Palms, David Pope and Maria Todorova explore the state tax treatment of manufacturers, including the various state definitions and special rules.

Read “State Tax Treatment of a “Manufacturer,”” reprinted from the January 21, 2013 issue of State Tax Notes.

The Tennessee Department of Revenue issued an interesting ruling addressing the taxability of two types of Internet-based services. The Department determined that the first type (facilitating remote access to the user’s computer) was a non-taxable service and the downloaded Java applet was software but not the true object of the transaction. The Department determined that the second type, which facilitated online meetings/webinars, was a service “ancillary” to a telecommunications service, and was thus subject to sales tax.

The Tennessee Department of Revenue released two taxpayer-favorable rulings related to the intangible expense addback statute and economic nexus on January 8, 2013. In Letter Ruling No. 12-32 (Dec. 19, 2012), the Department ruled that the discount incurred in the course of factoring trade receivables using an affiliated factoring company did not constitute an “intangible expense” subject to Tennessee’s related member addback statute. The ruling confirms that Tennessee’s addback statute is properly interpreted to generally exclude expenses unrelated to intangible property, such as factoring discounts and interest expenses on debt unrelated to intangible property.

In Letter Ruling 12-27 (Nov. 14, 2012), the Department ruled that an intangible holding company did not have nexus in the state where it licensed patents to an affiliated company that used the patents to manufacture products outside of Tennessee and then distribute and sell the products to customers located in Tennessee. The ruling found that the intangible holding company’s contacts with Tennessee under the facts were “too remote and indirect so as to be characterized as an activity ‘purposefully engaged in’ within the state with the object of gain, benefit, or advantage.” Citing a 2009 New Jersey Supreme Court case, Praxair Tech., Inc. v. Dir., Div. of Taxation, 988 A.2d 92, however, the ruling notes that the holding company “could be” subject to tax in Tennessee if the affiliate to which the patents were licensed used the patents to manufacture products within Tennessee.

On January 8, 2013, the Sutherland State and Local Tax (SALT) Team appeared before the Oregon Supreme Court in an important case concerning the scope of Oregon’s central assessment method of property taxation. Comcast Corporation v. Department of Revenue, Case No. S059764. The issue in the case concerns whether cable television and Internet access services are within the scope of “data transmission services” for ad valorem tax purposes. This case is being followed closely by participants in the Digital Economy (e.g., sellers of Internet access, digital goods and services, and cloud computing providers) and taxing jurisdictions throughout the country.

Continue Reading Sutherland SALT Argues Digital Economy Central Assessment Case