A New York State Division of Tax Appeals administrative law judge (ALJ) recently ruled in favor of a medical device and technology company represented by McDermott Will & Emery on the question of whether patent license fees that the company charged to its customers were subject to New York sales tax. In Matter of AMO USA, Inc., DTA No. 824550 (N.Y. Div. Tax App. June 19, 2014), the ALJ determined that the patent license fees were not taxable because they were received in exchange for the right to use the company’s patents, which was a valuable intangible right that could be sold separately from any tangible personal property.
AMO USA, Inc., (AMO) was engaged in the development, manufacture and distribution of surgical procedures and technologies involved in laser assisted corrective eye surgery, and obtained patents covering many of the methods and apparatuses used to perform the surgery. Under United States patent law, the patents issued to AMO created an enforceable right against the unauthorized use of the patented methods and apparatuses for a limited period of time. When AMO sold a laser directly to a physician or hospital that would operate the laser in surgical procedures, AMO also granted its consent to perform the surgical procedures covered by its patents by entering into written patent license agreements with the purchasers. The fee that the customer paid for the right to perform AMO’s patented surgical procedures was separately stated from the charge for the equipment on the customer’s invoice; while AMO collected sales tax on the latter, it claimed that the separate fee for the patent license was exempt from sales tax.
New York imposes its sales tax on retail sales of tangible personal property but not (as a general rule) on transfers of intangible property. Further, under New York law, the primary purpose of the transaction controls the taxability of the entire transaction, even if some parts of the transaction would be taxable and other parts would not be if they were purchased separately. If a person makes a taxable sale of tangible personal property, the entire amount of the receipt, including any expenses incurred by the seller that are passed on to the purchaser, is subject to sales tax.
The Division of Taxation (Division) asserted that the patent license fees were not independent of the charges for tangible personal property and thus the entire transaction should have been subject to sales tax. AMO, however, explained that the patents themselves were valuable intangible rights that could be sold separately from any tangible personal property. The ALJ agreed with AMO, remarking that the “essential and considerable value of a patent is the intangible right vested in its owner to have exclusive authority and control over the procedure, process or apparatus for a term of years[.]”
In reaching his decision, the ALJ distinguished AMO’s case from an Advisory Opinion, TSB-A-11(32)S (Dec. 7, 2011) in which the Division had ruled that certain patent license fees paid in connection with laser eye procedures were subject to sales tax because the fees represented an expense that was passed on from the seller to the buyers. The ALJ recognized that the rationale in the Advisory Opinion was not applicable because, unlike the taxpayer in the Advisory Opinion, “[AMO] owned the patents and merely granted a license to its customer. The intangible right temporarily transferred was not an expense passed through to its customers.” (emphasis in original).
The Department of Taxation and Finance has 30 days from the determination date to file an exception (i.e., an appeal).