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Tax Base

Yes, Distortion is Enough: New York Tax Appeals Tribunal Clarifies Combined Reporting Requirements

by Jane Wells May | Oct 6, 2014 | Income Tax, New York, Tax Base

On September 18, 2014, the New York State Tax Appeals Tribunal released its first decision interpreting New York State’s post-2007 combined reporting laws and, in doing so, answered a question that has been lingering in the minds of taxpayers and the Department’s auditors—whether distortion alone can still justify combined reporting. Reversing a June 2013 determination of a New York Division of Tax Appeals Administrative Law Judge, the Tribunal, in Matter of Knowledge Learning Corp. et al., DTA Nos. 823962; 823963 (N.Y. Tax App. Trib. Sept. 18, 2014), held that distortion, even in the absence of substantial intercorporate transactions, can provide the basis for combined reporting.

Before January 1, 2007, New York required combined reporting for companies that were linked by common ownership and engaged in a unitary business if separate filing would result in distortion of income. Under prior law, distortion was presumed where taxpayers in a purported combined group engaged in substantial intercorporate transactions (SIT). The 2007 amendment to the combined reporting statute converted the presumption arising from the presence of SIT into a rule of law, with taxpayers now required to file combined reports if SIT are present. Unclear after the 2007 law change was whether taxpayers could be permitted or required to file on a combined basis if separate filing would distort the taxpayers’ New York incomes, even if the combined group did not engage in SIT.

The petitioners in Knowledge Learning Corporation filed a combined return for the tax year ending December 29, 2007 and argued (1) that the parent and subsidiaries included on the combined report engaged in SIT and (2) that, regardless of whether the SIT test was met, separate filing would result in distortion. The ALJ declined to address the petitioners’ argument that there was actual distortion even if there were not SIT, stating that “distortion is not the proper analysis in light of the 2007 statutory amendment”—a conclusion with which many practitioners disagreed. (See prior coverage here). The Tribunal reversed, concluding that the amended law “allows combined reports to be filed, even in the absence of substantial intercorporate transactions, when combined filing is necessary to properly reflect income and avoid distortion.” The Tribunal also overruled the ALJ’s conclusion that the petitioners did not engage in SIT and, after conducting a fact-intensive inquiry into the group’s operations, held that the leasing of employees to the subsidiaries by the parent and the parent’s payment of all of the subsidiaries’ expenses met the SIT test such that combination was required.

This decision is noteworthy for a number of reasons: First, because the Tribunal found in favor of the taxpayer, the New York State Department of Taxation cannot appeal and the decision constitutes binding precedent. Furthermore, although the Tribunal did not reach the issue of whether the petitioners had actually proved distortion, a wealth of New York case law discussing what is necessary to prove distortion (such as Matter of Autotote Limited, Matter of Heidelberg Eastern Inc. and Matter of Mohasco Corporation) exists, and [...]

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Bear Down: In a Preseason Loss to Cook County’s Poor Play, the Appellate Court Finds Chicago Bears Ticket Holder Amenities Taxable

by McDermott Will & Emery | Sep 4, 2014 | Illinois, Local Tax, Sales Tax, Tax Base

The First District of the Illinois Appellate Court, in Chicago Bears Football Club v. Cook County Department of Revenue, 2014 IL App (1st) 122892 (Aug. 6, 2014), has affirmed an administrative determination finding the Chicago Bears owe Cook County over $4.1 million in amusement tax and related interest, on the basis that the amenities and privileges enjoyed by Bears premium ticket holders are taxable admission charges. The ordinance at issue imposes tax on “admission fees or other charges paid for the privilege to enter, to witness or to view such amusement” but excludes “any separately stated charges for non-amusement services or for sales of tangible personal property.” Cook County, Ill. Code of Ordinances, part I, ch. 74, art. X, § 74-392(a), (e).

The charges at issue include those for club level seats, luxury suites and the Skyline Suite. For club level seats, the assigned seat location varies from the 50-yard line to the end zone. On the face of the ticket, the charge for the seat and for the amenity license is separately stated. The price of the seat is constant regardless of location, while the price of the license varies depending on the seat location. Amenities provided to a club seat ticket holder include access to a “club lounge” for use before, during and after the game. The lounge has buffet and bar areas (food and beverage not included in ticket price), better food selection than that available in the regular seating area and high-definition televisions for viewing the Bears game in progress and other National Football League games. A club level ticket holder cannot view the entire field from the lounge. Other amenities provided include rights to early ticket purchases to playoff games and non-Bears game events at Soldier Field, special parking privileges, invitations to autograph sessions and merchandise giveaways, free gameday programs and invitations to appreciation events year-round.

The luxury suites provide a private enclosed area for up to 20 guests. Seating is not assigned. Tickets list a single price. Amenities of the suite include individual temperature controls, private bathrooms and high-definition televisions. Food and beverage generally are not included in the ticket price. Other available amenities include first option to use the suite for most non-Bears events at Soldier Field, travel arranged by the Bears for certain away games, invitations to non-football gameday events, participation in gameday drawings for special prizes, parking passes, special recognition in Bears publications and invitations to appreciation events year-round.

The Skyline Suite is an open area shared by multiple licensees and has non-assigned seating. Food and beverage are included in the price. Like luxury suite tickets, a single price is listed. The same amenities available to luxury suite ticket holders are available to Skyline Suite ticket holders.

The appellate court affirmed the county’s assessment, concluding tax is owed on 100 percent of the club seat ticket price and on 60 percent of the luxury suite and Skyline Suite licenses. For club level seats, the court reasons that [...]

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Connecticut Hires Chainbridge Software LLC for Transfer Pricing Training

by Stephen P. Kranz | Aug 21, 2014 | Connecticut, Income Tax, Nationwide Importance, Tax Base, Transfer Pricing

On July 15, 2014, the Connecticut Department of Revenue Services awarded Chainbridge Software LLC a contract worth $50,000 for on-site and remotely supported training for transfer pricing audits. Chainbridge is infamous for being the contract auditor hired by the District of Columbia Office of Tax and Revenue to manufacture transfer pricing-based assessments. In 2012, the District of Columbia Office of Administrative Hearings denounced Chainbridge’s methodology in Microsoft Corp. v. Office of Tax and Revenue. Numerous other cases are in litigation following D.C.’s refusal to abide by that decision.

We have reviewed the Connecticut request for proposal drafted by the Department of Revenue Services. While we do not yet have access to the final contract, it will likely be similar to the request for proposal. The solicitation requests two to three days of training per week over the course of three months. According to the RFP, Chainbridge will teach the Department’s employees about transfer pricing principles and methodologies, taxpayer planning, economic analysis of transactions between related parties, pre- and post-audit planning, and other related topics.

In light of the Connecticut Department of Revenue Services’ expected contract with Chainbridge, we anticipate that the Department will become more active in evaluating transfer pricing. What is not certain is whether the analysis will follow the debunked method still being used in D.C.

Idaho Drafting Cloud Computing Regulation in the Wake of H.B. 598

by Stephen P. Kranz | Aug 11, 2014 | Idaho, Sales Tax, Tax Base, Transaction Taxes

The Idaho Sales Tax Rules Committee is currently revising Rule 027, Computer Equipment, Software, and Data Services, in response to the passage of H.B. 598. The Committee met for the last time on July 24 to discuss the draft rule prior to the promulgation of the proposed rule.

As previously discussed in Inside SALT, the passage of Idaho H.B. 598 has resulted in the exclusion from the definition of tangible personal property of “computer software that is delivered electronically; remotely accessed software; and computer software that is delivered by the load and leave method where the vendor or its agent loads the software at the user’s location but does not transfer any tangible personal property containing the software to the user.” However, “computer software that constitutes digital music, digital books, digital videos and digital games” is included within the definition of tangible personal property.

The discussion draft of Rule 027, released prior to the meeting, added new definitions for ‘canned software,’ ‘computer program,’ ‘computer software,’ ‘custom software,’ ‘digital product,’ ‘information stored in an electronic medium,’ ‘load and leave method’ and ‘remotely accessed computer software.’ As of the July 24 meeting, the definition of ‘delivered electronically’ was still under discussion.

The draft rule interprets H.B. 598 to assist taxpayers in identifying transactions subject to Idaho sales tax. Following are items addressed by the draft rule:

The draft identifies streaming digital music, books and videos as subject to Idaho sales tax.
The draft explains that if canned software is loaded onto a user’s computer but has minimal or no functionality without connecting to the provider’s servers, it may be taxable based upon the delivery method of the canned software.
Online or remote data storage on storage media owned and controlled by another party is a nontaxable service.
Where the seller purchases raw data, expends time and resources to “clean up” the raw data into a usable format and charges customers for the right to use the data for a specified period of time, and the customers only have access to the full data over the internet, the charges are not taxable.
Digital games are treated by the draft rule as tangible personal property, and thus taxable, regardless of the method of access or delivery and regardless of whether the digital game requires the internet for some or all of its functionality.
Periodic charges to play games that require a constant connection over the internet to a remote server and periodic charges for a gaming service that enables certain functionality are taxable.
While the rule imposes sales tax on the purchase of virtual currency that enables additional content or progress in a digital game, it will not address the purchase of virtual currency used to purchase digital products such as video games, digital videos or apps.
The draft rule addresses the taxability of maintenance contracts. The original rule is revised to impose tax on mandatory maintenance contracts only if the software to which the contract applies is subject to tax. [...]

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

by Arthur R. Rosen | Jul 30, 2014 | Constitutional Issues, Illinois, Local Tax, Nexus, Sales Tax, Tax Base

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.

New York Releases Corporate Tax Reform FAQs

by McDermott Will & Emery | Jul 25, 2014 | Incentives, Income Tax, New York, Nexus, Tax Base

Earlier this year, New York enacted sweeping corporate tax reform, generally effective for tax years beginning on or after January 1, 2015, including a new economic nexus standard, changes to New York’s combined reporting regime, changes to the tax base and traditional New York income classifications, changes to the receipts factor computation, and changes to the net operating loss calculation and certain tax credits and incentives. (For a more detailed discussion of these changes, see our Special Report.

While this corporate reform is quite comprehensive, a number of open issues remain so taxpayers and practitioners have been eagerly awaiting additional guidance from the Department of Taxation and Finance. As a first step in providing that much-needed guidance, the Department has released its first set of responses to frequently asked questions on a new “Corporate Tax Reform FAQs” section of its website. Most notably, the responses clarify that the non-unitary presumption based on less than 20 percent stock ownership for purposes of determining exempt investment income is a rebuttable presumption. The responses also clarify that the business capital base includes items of capital that generate exempt income. Other topics addressed include economic nexus, credits, the Metropolitan Transportation Business Tax (MTA surcharge) and net operating losses.

The Department plans to update the Corporate Tax Reform FAQs on an ongoing basis as it continues to receive questions from taxpayers and practitioners, which can be submitted on the Department’s website. We will be submitting questions and comments and can do so on behalf of companies that do not want to be identified. The Department is also in the process of revising its current regulations (which are expected to be released before the end of 2015) and plans to issue two technical memoranda in the interim, one discussing qualified New York manufacturers and one discussing the new expense attribution rules. Stay tuned for updates regarding this additional guidance.

Tax Reform in New York: Implications for Corporate America

by Arthur R. Rosen | Jul 17, 2014 | Allocation/Apportionment, Constitutional Issues, Income Tax, New York, Nexus, Tax Base

The corporate tax reform portion of the New York State 2014–15 Budget Bill resulted in major changes for virtually all corporations—even many that are not currently New York taxpayers. In this video (produced by SmartPros), McDermott partners Arthur Rosen, Maria Eberle, Lindsay LaCava and Leah Robinson will discuss the implications of New York State’s sweeping corporate tax reform, including changes to the Article 9-A traditional nexus standards, the combined reporting provisions, the composition of the tax bases and computation of tax, the apportionment provisions and the net operating loss calculation.

For more information on these issues, please click here for our Special Report, “Inside the New York Budget Bill: Corporate Tax Reform Enacted.”

Louisiana Taxpayers Beware Non-Uniform Sales Tax Treatment

by Stephen P. Kranz | Jun 25, 2014 | Local Tax, Sales Tax, Tax Base

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).

Alenia Decision May Benefit D.C. Corporate Taxpayers

by Stephen P. Kranz | May 13, 2014 | Allocation/Apportionment, Constitutional Issues, District of Columbia, Income Tax, Tax Base

The recent decision in Alenia N. America, Inc. v. District of Columbia Office of Tax and Revenue in the District of Columbia Office of Administrative Hearings (OAH) could present opportunities for District taxpayers to receive corporate franchise tax refunds by including their joint ventures’ apportionment factors in the taxpayers’ District apportionment percentage calculation. Alenia N. America v. District of Columbia Office of Tax and Revenue, Dkt. 2012-OTR-00015 (D.C. O.A.H. Mar. 11, 2014).

Through an unwritten, internal policy, the District of Columbia Office of Tax and Revenue (OTR) prohibited separate filers from including the apportionment factors of joint ventures in which a taxpayer was a member/partner in the apportionment percentage calculation while permitting consolidated filers to do so. Alenia N. America challenged this interpretation of the District’s apportionment formula, filing a protest in OAH. Alenia is a separate filer C Corporation headquartered in the District. A portion of Alenia’s 2010 tax year income resulted from its 51 percent ownership in a Mississippi LLC, Global Military Aircraft Systems (GMAS). Because OTR required Alenia to include the income resulting from ownership of GMAS in its apportionable tax base but exclude the apportionment factors of GMAS, Alenia’s District apportionment percentage increased from 55.1899 percent to 86.1993 percent. OTR effectively asserted the power of taxation over income derived from sources outside of the District.

OAH granted a summary decision in favor of Alenia, holding that GMAS’ apportionment factors could be included by Alenia because Alenia and GMAS were unitary and the District’s apportionment statute was designed with the purpose to create uniformity; most states applying formulaic apportionment allow for the inclusion of the apportionment factors (see Homart Development Co. v. Norberg, 529 A.2d 115 (R.I. 1987); Malpass v. Dep’t of Treasury, 494 Mich. 237, 833 N.W.2d 272 (2013)); and factor inclusion was necessary to reflect the source of the GMAS income. Reading the District’s apportionment statute, D.C. Code § 47-1810.02, “consistently with its constitutional underpinnings and its general purpose to promote uniformity” overcame the silence as to whether the inclusion of factors applied to separate filers. OTR’s misinterpretation of District law was “in conflict with the statute.” Alenia, Dkt. 2012-OTR-00015 at *26.

In light of the holding in Alenia allowing for the inclusion of the apportionment factors of joint ventures, taxpayers should consider whether District refunds are now available to them. Further, an argument can be made that the holding in Alenia continues to apply despite the District’s switch to a combined reporting regime because of the court’s insistence that factor inclusion is necessary to reflect the source of the taxpayer’s income.

For a copy of the decision, contact one of the authors.

Revise Your Tax Matrix: Remote Access of Software Exempt in Michigan and Idaho

by Stephen P. Kranz | May 6, 2014 | Idaho, Michigan, Nationwide Importance, Sales Tax, Tax Base, Transaction Taxes

A trend is developing in response to aggressive Department of Revenue/Treasury policymaking regarding cloud computing. The courts and legislatures are addressing the issue and concluding that the remote access to software should not be taxed. Here are two recent developments that illustrate the trend:

Michigan – Auto-Owners Insurance Company v. Department of Treasury

On March 20, 2014, the Michigan Court of Claims held in Auto-Owners Insurance Company v. Department of Treasury that certain cloud transactions were not subject to use tax because the transactions were nontaxable services. The State has appealed this decision.

Auto-Owners engaged in transactions with numerous vendors to provide services and products that Auto-Owners used to conduct its business. The court grouped Auto-Owners’ transactions into transactions with six categories of providers: (1) Insurance industry providers; (2) Marketing and advertising providers; (3) Technology and communications providers; (4) Information providers; (5) Payment remittance and processing support providers; and (6) Technology providers. The transactions all involved, on some level, Auto-Owners accessing software through the Internet. No software was downloaded by Auto-Owners.

The Michigan use tax is imposed on the privilege of using tangible personal property in the state. Tangible personal property includes prewritten, non-custom, software that is “delivered by any means.” Mich. Comp. Laws § 205.92b(o). The court held that the transactions were not subject to use tax under the plain language of Michigan’s statute.

First, the court held that use tax did not apply because the court interpreted the “delivered by any means” language from Michigan’s statute to apply to the electronic and physical delivery of software, not the remote access of a third-party provider’s technology infrastructure. Second, the court held that the software was not “used” by Auto-Owners. Auto-Owners did not have control over the software as it only had the “ability to control outcomes by inputting certain data to be analyzed.” Third, the court held that even if prewritten computer software was delivered and used, the use was “merely incidental to the services rendered by the third-party providers and would not subject the overall transactions to use tax.” Michigan case law provides that if a transaction includes the transfer of tangible personal property and non-taxable services, the transaction is not taxable if the transfer of property is incidental to the services.

Practice Note: This decision is encouraging in that the court said that the Department was ignoring the plain meaning of the statute and overreaching, and determined that the legislature must provide specific language extending the sales and use tax for such transactions to be taxable. It is important to note that the Michigan statute uses the phrase “delivered by any means,” and the court focused on the definition of deliver in reaching its decision. This decision will likely have implications for other streamlined sales tax (SST) member states. Auto-Owners Ins. Co. v. Dep’t of Treas., No. 12-000082-MT (Mich. Ct. Cl. Mar. 20, 2014).

Idaho – H.B. 598

On April 4, 2014, Governor Butch Otter signed into law Idaho [...]

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