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INSIDE SALT
In-Depth Coverage of Issues Surrounding State and Local Tax
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In-Depth Coverage of Issues Surrounding State and Local Tax
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Did You Pay a Michigan Assessment After an MTC Audit? What the State’s Retroactive Compact Repeal May Mean

by and | Sep 30, 2014 | , , , , ,

On September 11, 2014, Michigan Governor Rick Snyder signed legislation (SB 156) retroactively repealing the Multistate Tax Compact (Compact, formerly codified at MCL § 205.581 et seq.) from the state statutes, effective January 1, 2008.  Among other things, the bill’s passage ostensibly supersedes the Michigan Supreme Court’s decision in Int’l Bus. Machines Corp. v. Dep’t of Treasury, 496 Mich. 642 (2014) (holding that (1) the enactment of a single sales factor under the Business Tax Act (codified at MCL § 208.1101 et seq.) did not repeal Compact by implication and (2) the state’s modified gross receipts tax fell within the scope of Compact’s definition of “income tax” which the taxpayer could calculate using Compact’s three-factor apportionment test) and relieves the Department of Treasury from having to pay an estimated $1.1. billion in refunds to taxpayers.  While many commentators have rightfully focused on the constitutional validity of retroactively repealing the Compact in Michigan in such a manner (including our own Mary Kay Martire in her recent blog post), we think it is equally as important to consider whether the repeal compromises the validity of prior interstate audit assessments authorized pursuant to the Compact.

Background

Article VIII of the Compact provides the specific rules governing participation in interstate audits conducted by the Multistate Tax Commission (MTC) via their Joint Audit Program (Program).  Unlike other provisions of the Compact, Article VIII is “in force only in those party states that specifically provide therefore by statute.”  Section 8 of the Compact provides this authority, simply stating “Article VIII [of the Compact] shall be in force in and with respect to this state.” See MCL § 205.588 (repealed by SB 156).  This threshold matter must be satisfied before the MTC is authorized to audit and assess businesses and review their books and records on behalf of any particular state.

The MTC and its participating audit states have taken the controversial position that membership and participation in the Program is independent from a state’s Compact status (e.g. Massachusetts, Nebraska, Tennessee, and Wisconsin have not adopted the Compact, yet participate in the Program).  Further, even when authorized, states have the discretion to elect not to participate in the Program by simply opting out for one or both of the taxes audited (income and franchise, or sales and use).

Minnesota offers an example of a state that may have withdrawn from the Compact correctly while maintaining the State’s ability to participate in MTC audits.  In May 2013, the legislature enacted legislation repealing the Compact (H.F. 677, repealing Minn. Stat. § 290.171) (this legislation does not appear to be retroactive).  In doing so, the legislature included a separate provision authorizing continued participation in audits performed by the MTC. See Minn. Stat. § 270C.03 subd. 1(9), amended by H.F. 677.  While Minnesota ultimately opted not to participate in these audits, they have statutory authority if they so choose (but as noted above, the Compact itself may not allow for this).

Implications

Unlike Minnesota, the recent repeal in Michigan failed to [...]

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In Case We Didn’t Know the Difference Between “Big” and “Little” Cigars, the New York State Tax Department Tells Us What it is

by | Sep 5, 2014 | ,

The New York State Department of Taxation and Finance has addressed one of the major issues in tax administration:  defining the difference between “big” and “little” cigars.  Tax Bulletin TP-530 (August 28, 2014).  First, the Department has defined “cigar.”  A cigar is any roll of tobacco wrapped in leaf tobacco or in any substance containing tobacco.  A “little” cigar is a cigar that has all of the following characteristics:  (1) it is a “roll” for smoking made with any amount of tobacco, (2) the cigar wrapper contains some amount or form of tobacco that is not “natural leaf tobacco,” and (3) the product must either weigh four pounds or less per 1,000 cigars or have a filter made of cellulose acetate (i.e., a cigarette-type filter) or any other integrated filter.  A “natural leaf tobacco wrapper” that can prevent a cigar from being classified as being “little” is any wrapper made from one or more natural tobacco leaves.  An example of a substance commonly used to wrap cigars that contains tobacco but is not “natural leaf tobacco” is “homogenized tobacco leaf,” which is made from “tobacco scraps that are pulverized, mixed with other products and rolled into sheets that can be used to wrap cigars.”

The importance of the ruling is that little cigars are taxed at the same rate as cigarettes, which is lower than the rate on big cigars.

This is probably the most important tax development to come along since the Internal Revenue Service released Revenue Ruling 63-194, 1963-2 C.B. 670, explaining the requirements that a martini would have to meet to be considered a “dry martini” for tax purposes.

The McDermott State and Local Tax Practice Group is well positioned to advise clients on these important issues.  Although none of us smoke cigars, our Firm’s real estate and corporate departments are well stocked with cigar smokers so we have access to the necessary expertise to advise our clients.



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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 | Sep 4, 2014 | , , ,

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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New York State Department of Taxation and Finance Releases Guidance on the Taxability of Computer Software

by | Aug 12, 2014 | , ,

The New York State Department of Taxation and Finance has just released a Tax Bulletin addressing how the state’s sales tax applies to sales of computer software and related services. The Tax Bulletin does not broach new ground, but it does offer a formal expression of the Department’s position—previously articulated in advisory opinions—that the provision of remote access to prewritten software is subject to sales tax. However, that position does not comport with New York authorities, including a recent administrative law judge determination that is directly on point.

Read the full article.



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New Jersey Issues Ominously Vague Guidance on New Click-Through Nexus Law

by | Aug 11, 2014 | , , ,

The New Jersey Division of Taxation issued a Notice last week that is hardly reassuring to remote sellers.  The Notice basically paraphrases the new click-through statute, noting that the statutory definition of “seller” was amended to create a rebuttable presumption that an out-of-state seller, who makes taxable sales of goods or services, is soliciting business and has nexus in New Jersey if it (1) enters into an agreement with a representative located in New Jersey for compensation in exchange for referring customers via a link on its website and (2) has sales from those referrals to customers in New Jersey in excess of $10,000 for the four prior quarterly periods.

The Notice provides no guidance for sellers on how they can prove that their New Jersey independent contractors or representatives did not engage in any solicitation on their behalf in New Jersey.  The Notice states that the out-of-state seller may provide proof that the representative did not engage in solicitation, but it does not include any details on what type of proof will be acceptable to the Division.

More troubling is that the Notice does not provide specific relief to arrangements where affiliates are paid on a cost-per-click basis (compensation based solely on the number of clicks rather than a commission on sales resulting from clicks).  States such as California, New York and Pennsylvania have said that such arrangements are indicative of advertising rather than solicitation.  The one example given in New Jersey’s Notice describes a commissioned click-through arrangement; the Notice is silent as to cost-per-click advertising.

It is unclear whether New Jersey will issue additional guidance, but given that the Notice does not provide relief for remote sellers with cost-per-click arrangements, they should not simply rely on California’s and New York’s guidance in the interim.  Instead, they should obtain documentation from all their New Jersey independent contractors and representatives that they are not soliciting business in New Jersey on their behalf, even if they are only compensated on a cost-per-click basis.



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

by | Aug 11, 2014 | , , ,

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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The Illinois Two-Step: Final Sales Tax Sourcing Regulations May Cause Sales to be Sourced outside the State

by | Aug 8, 2014 | , ,

Localities expecting more tax dollars due to the elimination of the controversial order acceptance test may be sorely disappointed.  Application of the final sales tax sourcing regulations, effective as of June 25, 2014 (see 38 Ill. Reg. 14292), may actually increase the number of sales that are sourced outside of the state, such that more sales are subject to the 6.25 percent Use Tax rate instead of the higher Retailers’ Occupation Tax rates that include additional local rates.

Background: Moving from a Test Favoring In-State Sourcing to a Neutral Approach

In previous posts we provided the background on the litigation and policy factors driving this new regulation. See Illinois Department of Revenue Intends to Extend Its Multifactor Post-Hartney Sourcing Regulations to Interstate Transactions; Illinois Regional Transportation Authority Suffers A Setback In Its Sales Tax Sourcing Litigation. Suffice it to say that Illinois sales tax sourcing has been a contentious issue. But Illinois local government units may now find that the revenue impact of these new regulations is worse that the sourcing issues that they attempt to cure: Where the previous regime had tended to source sales to Illinois if part of the retailing activity occurred in the state, the new regulations treat in-state and out-of-state locations equally and attempt to source sales to the location with the best claim on the retailing activity.

Step One: Can a Location Claim at Least Three of Five Primary Selling Activities?

The first part of the test looks to five primary selling activities. If at least three of the primary selling activities occur in one business location, then the sales are sourced to that location. See 86 Ill. Admin. Code 220.115(c)(1), (2). (Note: These sourcing regulations are codified in parallel under several chapters of the Illinois Administrative Code. See 86 Ill. Admin. Code 220.115, 270.115, 320.115, 370.115, 395,115, 630.120, 670.115, 690.115, 693.115, 695.115. For convenience we will cite to 86 Ill. Admin. Code 220.115, but parallel provisions exist in the other regulations.) The primary activity factors are as follows:

Broadly speaking, the primary selling activities would likely result in headquarters-based sourcing as long as the business has a centralized headquarters with personnel that have the authority to bind the seller and personnel issuing invoices and processing payments. Additionally, there appears to be an overlap between the first two activities: If salespersons have authority to bind the retailer to a sale, then it would seem that the second factor, where the binding action takes place, would also be implicated.

Step Two: If No Location Has a Majority of Primary Selling Activities, then the Headquarters and Inventory Locations Compete for Sourcing Based on Primary and Secondary Factors

Assuming that no single location can claim three primary selling activities, the test then turns to the second step, in which both primary and secondary selling activities are considered in determining whether the sales should be sourced to the headquarters location or the inventory [...]

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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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