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Illinois Appellate Court’s Expansive Interpretation of a Taxing Ordinance Swallows a Sale for Resale Exemption

by | Jul 30, 2014 | , , , , ,

The First District of the Illinois Appellate Court, in Ford Motor Company v. Chicago Department of Revenue, 2014 IL App (1st) 130597 (June 27, 2014), recently held that Ford Motor Company (Ford) owes City of Chicago vehicle fuel tax on 100 percent of the fuel it purchased and dispensed into the tanks of cars it manufactured in Chicago, even though Ford offered proof that 98 percent of the fuel was resold to car dealerships around that nation.

The court relied on the language of the taxing ordinance, which imposes tax on the “privilege of purchasing or using, in the City of Chicago, vehicle fuel purchased in a sale at retail.”  The court, focusing only on the first portion of that provision, found Ford “used” the fuel in Chicago, on the basis that “use” is defined to include “dispensing fuel into a vehicle’s fuel tank,” an activity Ford did when it transferred fuel from its storage tanks into the tanks of the cars it manufactured.

For the “sale at retail” element, defined as “any sale to a person for that person’s use or consumption and not for resale to another,” the court rejected Ford’s argument that it resold 98 percent of its purchased fuel to dealerships on the basis that Ford had introduced insufficient proof.  The court disregarded Ford’s sample invoice that included a line item charge for 10 gallons of fuel because a supporting affidavit from Ford did not confirm that the invoiced amount was the amount actually in the tank of that specific car at the time of delivery.  The court then, somewhat presumptively, inferred that the invoiced amount must be the amount that Ford initially dispensed into the car, before consuming some fuel during delivery, so that “the amount invoiced was to reimburse Ford Motor Company for fuel that it purchased and used to produce and prepare its new cars for delivery. …”  Additionally, the court considered Ford’s failure to rebut the City’s evidence that no Ford dealership in Chicago had remitted fuel tax consistent with the conclusion that Ford was not reselling fuel; the court did not cite any authority for the proposition that subsequent tax collection is a necessary element of the statutory “resale” provision.

Ford also raised constitutional concerns that were not considered very seriously by the court.  For example, was there sufficient nexus between the City and Ford’s use of the fuel placed into cars it transferred to dealerships?  Moreover, the court did not consider the conceptual tax issue of pyramiding, as the ultimate vehicle purchaser will presumably pay tax (in almost all locations in the country) on the full price paid for the vehicle, which will cover the cost of the fuel.  In any event, by focusing on the “use” and not the “resale” aspect of the taxing ordinance, the court fails to consider that the ordinance may not apply to Ford at all.



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If At First You Don’t Succeed, Try, Try Again: Illinois General Assembly Sends Revised Version of Click-Through Nexus Law to the Governor for Signature

by and | Jul 30, 2014 | , , , , ,

In 2011, Illinois became one of the first states to follow New York’s lead by enacting “click-through nexus” legislation.  The Illinois law created nexus for any out-of-state retailer that contracted with a person in Illinois who displayed a link on his, her or its website that had the ability to connect an Internet user to the remote retailer’s website, when those referrals generated over $10,000 per year in sales.  Pub. Act 96-1544, §§5, 10 (eff. Mar. 10, 2011) (codified at 35 ILCS 105/2(1.1) and 35 ILCS 110/2(1.1) (West 2010).  On October 13, 2013, the Illinois Supreme Court held that the click-through nexus law violated the Internet Tax Freedom Act (ITFA) by imposing a discriminatory tax on electronic commerce.  Performance Marketing Ass’n v. Hamer, 2013 IL 114496.  The court held that the statute unlawfully discriminated against Internet retailers by imposing a use tax collection obligation based only on Internet referrals but not on print or over-the-air broadcasting referrals.  The court did not reach the question whether the law also violated the Commerce Clause of the United States Constitution (although the trial court had also rejected the law on this basis).

In its recently completed Spring 2014 legislative session, the Illinois General Assembly approved an amendment to the click-through law that was designed to correct the deficiencies found by the Illinois Supreme Court.  SB0352 (the Bill).  The Bill expands the definition of a “retailer maintaining a place of business in this State” under the Illinois Use Tax and Service Occupation Tax Acts (Acts) to include retailers who contract with Illinois persons who refer potential customers to the retailer by providing a promotional code or other mechanism that allows the retailer to track purchases referred by the person (referring activities).  The referring activities can include an Internet link, a promotional code distributed through hand-delivered or mailed material or promotional codes distributed by persons through broadcast media.  The Bill goes on to provide that retailers can rebut the presumption of nexus created by the use of promotional codes or other tracking mechanisms by submitting proof that the referring activities are not sufficient to meet the nexus standards of the United States Constitution.  Presumably, under the principles of Scripto and Tyler, if a remote seller can demonstrate that the Illinois referrals are not “significantly associated” with its ability to “establish or maintain” the Illinois market, the presumption will be rebutted.

As amended, the Bill appears to address the ITFA concerns expressed by the Illinois Supreme Court by not singling out internet-type referrals.  It also attempts to resolve any due process constitutional concerns by providing an opportunity for retailers to rebut the presumption of nexus created by their use of referring activities.  The Bill was sent to the Illinois governor for signature on June 27.  The Bill will take immediate effect upon becoming law.

At present, four other states (Georgia, Kansas, Maine and Missouri) have click-through nexus laws that expressly extend the presumption of nexus to non-Internet based referring activities.  [...]

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The Vermont Department of Taxes Begins to Take a Close Look at Cloud Computing

by and | Jul 29, 2014 | ,

On June 30, 2013, the Vermont sales tax moratorium on remote access to software expired.  At that time, the Vermont Department of Taxes (Department) reverted to its prior position that interpreted, without any analysis, the Vermont sales tax to apply to prewritten software that was “licensed for use and available from a remote server.”  Recently, the Department released draft regulatory language relating to the taxation of remotely accessed software and is currently seeking comments on the draft (due by October 1, 2014).

The draft regulations provide a great deal of guidance, some good and some bad.  On the positive side, the regulations recognize that a sale cannot occur unless “use or control [is] given [to] the purchaser with respect to the software” such that “the purchaser is able to use the software to independently perform tasks.”  This language comports with established legal authorities in the state regarding when sales occur, rather than simply stating that a sale has occurred when software is remotely accessed.  See, e.g., In re Merrill Theatre Corp., 415 A.2d 1327 (Vt. 1980) (finding no sale where “[the patron] never comes into possession of [the tangible property], and exerts no control over it” because the vendor was the one with “actual possession” of the property).

The draft regulations also contain a non-exhaustive list of nontaxable transactions, which provide much needed clarity in the area of cloud computing.  These include:  (1) a transaction whose true object is the purchase of a service (to which any transfer of software is merely incidental), (2) sales of data processing and information services, (3) a transaction where the seller processes the purchaser’s data on the seller’s software and (4) a transaction where the customer runs its own software on the seller’s hardware in a cloud computing environment (such arrangements are commonly referred to as Infrastructure as a Service (IaaS), and the draft regulations refer to them as such).  This list is particularly helpful and positive because it recognizes:  (1) the importance of the true object test in determining taxability rather than simply relying on licensing or other language in a contract, (2) that many cloud computing transactions are properly characterized as data processing services performed by the vendor rather than the transfer of software and (3) that IaaS is different in nature than Software as a Service (SaaS) and should be analyzed differently.  The IaaS discussion is particularly significant as many states have not directly addressed the subject.

The draft regulations are less successful when they attempt to provide factors for determining whether a taxable transfer of software has occurred.  These factors include whether:  (1) “[t]he purchaser can use the prewritten software with little or no intervention by the seller other than ‘help desk’ assistance;” and (2) “[t]he purchaser can use an organizational tool or function that is a function of seller’s software.”  The proposed factors are troublesome because of the lack of clarity regarding what it means to “use” the software or the functions of the software, which [...]

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New Jersey’s New Laws — Retroactive for Most Companies

by | Jul 7, 2014 | , , ,

A newly passed New Jersey law is interesting both for what it does and for what it does not do.  Assembly bill 3486/Senate bill 2268, attempts to “clarify” four aspects of New Jersey law (retroactively for three of the four!).  The four areas affected by the law change are:  (1) the business/non-business income distinction (called “operational/non-operational income” in New Jersey); (2) a limited partner’s eligibility for a refund of Corporation Business Tax paid on its behalf by a limited partnership; (3) net operating losses involving certain amounts related to bankruptcies, insolvencies, and qualified farm indebtedness; and (4) click-through nexus for sales and use tax purposes.

Business/Non-Business Income Distinction

The distinction between business and non-business income (called “operational” and “non-operational” income in New Jersey) is critical as it determines whether certain income (such as gain from the sale of an asset) can be apportioned among the states or instead much be allocated to only one state.  The law change expands the definition of “operational income” so that many more transactions will result in the generation of apportionable income.  In fact, the law change is estimated to increase revenue by $25 million annually.

Historically, New Jersey’s definition of business (“operational”) income included gain from sale of property “if the acquisition, management, and disposition of the property constitute integral parts of the taxpayer’s regular trade or business operations. . .”  N.J.S.A. 54:10A-6.1(5)(a) (emphasis added).  Use of the conjunction “and” caused New Jersey courts to determine that all three activities (“the acquisition, management, and disposition”) must each have been integral parts of the taxpayer’s regular trade or business in order for the gain from the asset to be apportionable business (“operational”) income.  This could be overcome by demonstrating that one of the activities—usually the disposition of an asset—was not an integral part of a taxpayer’s regular trade or business.

The definition was changed, however, to replace the conjunctive “and” with the disjunctive “or” such that it will now read “the acquisition, management, and or disposition of the property constitute an integral parts of the taxpayer’s regular trade or business operations. . .”  Thus, because engaging in any one (or more) of those three activities as part of a taxpayer’s regular trade or business is sufficient, many more transactions will generate apportionable business income.

This provision takes effect for tax years ending after July 1, 2014.  This means that for a calendar year filer the provision takes effect retroactively for the tax year starting January 1, 2014, since the end of the year (December 1, 2014) is after July 1, 2014.  Interestingly, while the legislation refers to this change as a “clarification,” the fact that it is anticipated to increase revenue by $25 million indicates that it is, indeed, a change of law, reiterating that for the test really is a conjunctive one for prior periods.

Overturning the Result of BIS LP v. Director

There has been (and continues to be) a substantial amount of litigation in New Jersey courts regarding tax payments and tax [...]

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Division of Tax Appeals Rules Patent License Fees Not Subject to Sales Tax in New York

by | Jun 26, 2014 | ,

New York State Division of Tax Appeals administrative law judge (ALJ) recently ruled in Matter of AMO USA, Inc. on the question of whether patent license fees are properly subject to sales tax as part of the sale of tangible personal property. The ALJ determined that the patent license fees were not taxable because they were received in exchange for the right to use the taxpayer’s patents, which was a valuable, intangible right that could be sold separately from any tangible personal property.

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State and Local Tax Supreme Court Update: June 2014

by and | Jun 25, 2014 | , , , , , , , , ,

On June 10, 2014, the Supreme Court of the United States distributed three state and local tax cases for a conference to be held on June 26, 2014: Equifax, Inc. v. Mississippi Department of Revenue, Direct Marketing Association v. Brohl, and Alabama Department of Revenue v. CSX Transportation, Inc.  The Supreme Court previously agreed to hear Comptroller of the Treasury v. Wynne and determine whether Maryland’s disallowance of a credit against its county income tax for taxes paid to other jurisdictions violated the Commerce Clause.  We are eager to see if the Court will opt to hear the remaining three cases, clarifying answers to questions in the world of state taxation.

The taxpayer in Equifax filed a petition for a writ of certiorari on February 19, 2014, appealing a decision by the Mississippi Supreme Court.  The state court upheld the Mississippi Department of Revenue’s application of market-based sourcing as an alternative apportionment formula instead of the statutory cost-of-performance sourcing for apportioning the income of Equifax, a credit reporting company.  In making this determination, the court required the Mississippi chancery courts to use a highly deferential standard of review.  The Institute for Professionals in Taxation, the Georgia Chamber of Commerce and the Council On State Taxation filed amicus curiae briefs.

The Direct Marketing Association filed a petition for a writ of certiorari on February 25, 2014.  The Direct Marketing Association seeks review of a decision by the U.S. Court of Appeals for the Tenth Circuit that held that the Tax Injunction Act barred federal court jurisdiction over the Direct Marketing Association’s challenge to a Colorado sales and use tax reporting law.  The law requires remote sellers that do not collect Colorado sales or use tax and have total annual gross sales in Colorado of $100,000 or more to inform the customer at the time of sale of the customer’s use tax obligation, to send annual notices to customers who purchased $500 or more in goods from the seller and to file a report with the state regarding a customer’s total purchases.  An amicus curiae brief was filed by the Council On State Taxation.  If the Supreme Court were to hear Direct Marketing Association v. Brohl, it would likely clarify the holding of Hibbs v. Winn to better clarify the scope of the TIA’s protection.

On October 30, 2013, the Alabama Department of Revenue filed a petition for a writ of certiorari in CSX Transportation.  The Alabama Department of Revenue is challenging the U.S. Court of Appeals for the Eleventh Circuit’s decision that Alabama’s sales tax on diesel fuel discriminates against rail carriers in violation of the Railroad Revitalization and Regulatory Reform Act of 1976 (4-R Act) because motor carriers and interstate water carriers are not required to pay the 4 percent sales tax.  The Supreme Court had previously issued a 2011 opinion stating that the taxpayer could challenge sales and use taxes under the 4-R Act, but the Supreme Court remanded the case to determine whether the tax was discriminatory.  Amicus [...]

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Division of Tax Appeals Rules Patent License Fees not Taxable in New York

by | Jun 25, 2014 |

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 [...]

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Louisiana Taxpayers Beware Non-Uniform Sales Tax Treatment

by | Jun 25, 2014 | , ,

On June 11, 2014, the Louisiana 24th Judicial District Court held in Normand v. Cox Communications Louisiana, LLC that video-on-demand and pay-per-view programming were not subject to Jefferson Parish sales tax because they were not tangible personal property, but non-taxable services.

Prior to this case, the taxability of pay-per-view and video-on-demand programming within the local jurisdictions of Louisiana was uncertain.  While the State has taken the position that this programming is not subject to sales tax, Jefferson Parish has imposed local sales tax on these transactions.

Louisiana Revised Statutes § 47:301(16)(a) defines tangible personal property to “mean[] and include[] personal property which may be seen, weighed, measured, felt or touched or is in any other manner perceptible to the senses.  Louisiana Administrative Code title 61, § I.4301 includes as tangible personal property “digital or electronic products such as … ‘on demand’ audio and video downloads.”

In Revenue Information Bulletin No. 10-015, the Louisiana Department of Revenue ruled that pay-per-view and video-on-demand movies were tangible personal property subject to Louisiana sales and use tax because they were perceptible to the senses and because, while the customers do not take title to the programs, they have control over paying fees to watch the programs.  However, following pushback from the Louisiana business community, Louisiana Revenue Information Bulletin No. 10-028 temporarily suspended and No. 11-009 permanently repealed the implementation of No. 10-015 with regard to “Pay-Per-View and Video-on-Demand movies purchased for viewing by customers of cable television and satellite television providers.”   The Louisiana Department of Revenue now takes the position that Pay-Per-View and Video-on-Demand programming is not subject to Louisiana sales and use tax.

Though the Jefferson Parish Code of Ordinances incorporates Louisiana’s definition of “tangible personal property,” Jefferson Parish disregarded the State’s position and instead pushed for the taxation of pay-per-view and video-on-demand programming as the lease of tangible personal property.  Jefferson Parish Code of Ordinances § 35-17.  Other parishes appear to be following Jefferson Parish’s lead to impose tax even though the state has said such services are exempt – and the lack of uniformity in approach to the local tax base will continue to cause problems for taxpayers.

The judge did not provide reasons for his decision, and it is unlikely that written reasons will be published unless one of the parties requests them.  It is anticipated that the case will be appealed by the parish.

Normand v. Cox Commc’ns La., L.L.C., Jefferson Parish 24th Judicial District Court, Case No. 706-766 (2014).



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Illinois Department of Revenue Intends to Extend Its Multifactor Post-Hartney Sourcing Regulations to Interstate Transactions

by | Jun 23, 2014 | , ,

The saga over local sourcing of Illinois retailers’ occupation taxes is well known. The Illinois Department of Revenue has a dedicated webpage for the issue, and Inside SALT covered some of the litigation aspects last month (see Illinois Regional Transportation Authority Suffers A Setback In Its Sales Tax Sourcing Litigation).  A new chapter is unfolding now, with revised proposed local sourcing rules that would apply a multifactor sourcing analysis to both intrastate and interstate sales. The regulations may be made final as soon as next month, and retailers with complex retailing processes should consider how the rules could apply to their operations.

Background: The Illinois Department of Revenue Issued Emergency and Proposed Local Tax Sourcing Regulations after the Supreme Court of Illinois Invalidated Its Old Rules in Hartney

Illinois has perhaps the most complex sales and use tax system in the country. One driver of this complexity is the fact that the Retailers’ Occupation functions as a sales tax but is really an occupation tax measured by gross receipts – the tax imposed is on the privilege of engaging in the occupation of being a retailer. Illinois lets some local jurisdictions impose additional Retailers’ Occupation Taxes, and so the effective local rate can climb higher than the 6.25 percent statewide base rate, e.g., the 9.25 percent rate applicable in Chicago. As the tax is imposed on the business occupation rather than the sale itself, origin-based sourcing principles apply. And for out-of-state sales shipped into Illinois and not subject to Retailers’ Occupation Tax, retailers have only a use tax collection obligation at the 6.25 percent state rate.

For decades, the Department of Revenue’s regulations applied a bright-line test based on order acceptance to determine where the taxable retailing activity had occurred for local Retailers’ Occupation Tax sourcing purposes. Some taxpayers structured their operations in reliance on this approach. But the Supreme Court of Illinois struck down the bright-line order acceptance test in Hartney Fuel Oil Co. v. Hamer, 2013 IL 115130 (Nov. 21, 2013), holding that an evaluation of all the retailing activities was necessary to determine where the retailing occupation occurred and consequently to which local Retailers’ Occupation Taxes a transaction was subject. The old local tax sourcing regulations were invalidated.

After Hartney, the Department promulgated new emergency local tax sourcing rules, effective January 22, 2014 (see the Department of Revenue press release, letter to Joint Committee on Administrative Rules, sample rule text). The emergency rules also served as a framework for the initial proposed final rules. These emergency and initial proposed final rules applied to intrastate tax sourcing and did not affect the Department’s longstanding rule governing whether a transaction was subject to in-state Retailers’ Occupation Tax or merely an out-of-state use tax collection obligation, 86 Ill. Admin. Code 130.610.

The Newly Revised Proposed Regulations Generally Consider Five Primary Factors in Determining the Location of the Taxable Retailing Activity

After consulting stakeholders and receiving numerous comments, the Department substantially revised [...]

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Retailers Caught in the Middle: To Tax or Not to Tax Delivery Fees

by | Jun 12, 2014 | , , , , , , , ,

Over the past decade we have seen a large increase in the number of third party tax enforcement claims against retailers involving transaction taxes (see Multistate Tax Commission Memorandum regarding survey of class action refund claims and false action claims, dated July 12, 2013, describing such actions).  The lawsuits typically are brought either as proposed class actions, alleging an over-collection of tax, or as whistleblower claims on behalf of state governments, alleging a fraudulent under-collection of tax owed to the state or municipality.  With respect to certain issues, including shipping and handling charges, retailers have been whipsawed with lawsuits alleging both under- and over-collection of tax.

On April 3, a proposed class action lawsuit was filed in Florida alleging that Papa John’s Pizza was improperly collecting tax on its delivery fees (Schojan v. Papa John’s International, Inc., No. 14-CA-003491 (Circuit Court Hillsboro County, Florida)).  The lawsuit is similar to an action filed in Illinois that resulted in an Illinois Supreme Court ruling rejecting a proposed class action claim that a retailer was improperly collecting tax on its shipping charges (Kean v. Wal-Mart Stores, Inc., 919 N.E.2d 926 (Illinois 2009)).

Both Florida and Illinois impose sales tax on services that are inseparably linked to the sale of tangible personal property (see, e.g., 86 Ill. Admin. Code § 130.415(b) & Fla. Admin. Code Ann. r. 12A-1.045(2)).  The regulations provide that whether a customer has separately contracted for shipping charges, or has an option to avoid shipping charges by picking up the property at the retailer’s location, can be used as a proxy to determine whether the services are separate and thus not taxable (86 Ill. Admin. Code § 130.415(d); Fla. Admin. Code Ann. r. 12A-1.045(4)(a), (b)).

In Kean, the Illinois Supreme Court held that shipping charges were a taxable part of an internet sale in which the customer had no option but to pay shipping charges.  After the ruling, the Illinois Department of Revenue made no announced change to its commonly understood audit position that sales tax was not owed on separately stated shipping charges that were assessed at a retailer’s actual cost.

Seeking to capitalize on the Kean ruling, an Illinois law firm has filed upwards of 150 lawsuits under the Illinois False Claims Act against retailers that do not collect tax on the shipping and handling charges associated with their internet sales, alleging an intentional failure to collect tax and seeking treble damages, attorneys’ fees and associated penalties.  The suits were filed without regard to whether the retailers had been audited and found not to owe tax on their shipping and handling charges.  The State has declined to intervene in the majority of these cases, permitting the Relator to proceed with the prosecution.  Because the amounts at issue are small (6.25 percent tax on shipping and handling charges), the lawsuits force many retailers to choose between paying an (entirely undeserved) settlement to resolve the litigation or bearing the expense of litigation.  For reasons not entirely clear, the Illinois General Assembly [...]

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