Business License Tax

Transcription

1 Applying Business License Taxes to Internet Companies and Collecting TOT from Online Travel Companies Benjamin P. Fay Jarvis, Fay, Doporto & Gibson, LLP League of California Cities City Attorneys Spring Conference May 2014 Thursday, May 8, 2014 General Session 10:45 Noon Business License Tax A tax on the privilege of doing business Not regulatory 1

2 Dormant Commerce Clause The main impediment to applying business license taxes to internet companies is the Dormant Commerce Clause. The prohibition against discriminating against interstate commerce in the United States Constitution and the implied corollary in the California Constitution. The tax must satisfy the four part Complete Auto test. The Complete Auto Test A tax is valid under the Dormant Commerce Clause if: 1. It is applied to an activity with a substantial nexus with the taxing jurisdiction; 2. It is fairly apportioned; 3. It does not discriminate against interstate commerce; and 4. It is fairly related to the services provided by the State. (Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977).) 2

3 First Prong: The Nexus Requirement The business being taxed must have sufficient contact with the taxing jurisdiction. For an internet company, it must have a physical presence. Interacting with customers over the internet and delivering products through the mail is not sufficient. Quill Corporation v. North Dakota, 504 U.S. 298 (1992) The Nexus Requirement Commerce Clause minimum contacts requirement is not the same as the Due Process minimum contacts requirement. Commerce clause considers the economic effect on the larger economy of exercising jurisdiction. Due process considers the fairness of exercising jurisdiction on that particular business. Congress can change the required contacts under the Commerce Clause. 3

4 The Second Prong: Apportionment A jurisdiction can only tax its fair share of a business. Two tests for apportionment: The Internal Consistency Test The External Consistency Test Mainly an issue for a tax measured by gross receipts. For taxes measured by other metrics such as number of employees or square footage, apportionment is not usually an issue. The Internal Consistency Test Imagine that all jurisdictions are imposing the exact same tax. Do businesses who operate in more than one jurisdiction pay more tax? If they do, the tax fails the test. 4

5 The External Consistency Test Is the jurisdiction unfairly taxing more business activity than is taking place within that jurisdiction? A matter of apportioning the tax between jurisdictions. UDITPA 3 Factor Apportionment Upheld repeatedly since Three factors are evenly weighted: Sales (sales in the city/total sales) Payroll (payroll in the city/total payroll) Property (property in the city/total property) Add the factors and divide by three Result is the apportionment factor used to apportion gross receipts. 5

6 Variations in UDITPA A city can use only one two factors. You can weight the factors differently. Be careful of using a different formula for internet companies and non internet companies. Once you have settled on an apportionment formula, changing the formula may require a vote under Proposition 218. The Third Prong: No Discrimination Prohibits a jurisdiction from imposing a discriminatory tax on interstate or intercity commerce. Usually satisfied by the apportionment requirement and the internal and external consistency tests. 6

7 The Fourth Prong: Fair relation to services provided by the city Usually met if the nexus requirement is met. Is the tax fairly related to the presence and activities of the taxpayer within the city? Minimal: Use of police and fire protection, use of roads and mass transit is enough Collecting TOT from Online Travel Companies Transient Occupancy Taxes (TOT) are taxes imposed for the privilege of staying in a hotel. Generally a percentage of the rent paid for the room. The hotel is required to collect the tax from the customer and remit it to the city. 7

8 Online Travel Companies (OTCs) Online Travel Companies (OTCs) are internetbased companies that arrange the rental of hotel rooms. Hotels.com, Expedia, Hotwire.com, VRBO, etc. When applying a TOT to an OTC the main question is the correct measure of the tax. OTC Business Models There are two main OTC business models: Agency and Merchant. The model used by the OTC can be important to the application of a TOT. 8

9 Agency Model The OTC is an agent for the hotel. Facilitates bookings and charges the hotel a fee. The hotel is the merchant of record. Generally there are no complications under this model. The hotel collects the TOT on the full amount charged to the customer. Merchant Model The OTC contracts with the hotel to sell rooms at a negotiated wholesale rate. The customer books the rooms with the OTC for whatever rate the OTC can get, which is higher than the wholesale rate. The customer pays the OTC and the OTC is the merchant of record. 9

10 TOT and the Merchant Model The OTC collects TOT at the wholesale rate it pays the hotel, not at the higher rate paid by the customer. In California the courts have held that this is proper under many TOT ordinances. Importantly, these decisions were based on the wording of the ordinances. Examples from California Cases TOT is measured by the amount paid to or charged by a hotel. TOT is measured by the consideration charged by an operator and the operator is the proprietor of the hotel. 10

11 Non California Cases Cases from Tennessee, Kentucky, Texas, and North Carolina have reached similar conclusions when review TOTs that focused on the consideration paid to the hotel. But cases from Georgia, South Carolina, and Maryland found that the TOT was properly measured by the consideration charged by the OTC because the tax focused on what the customer paid. Collection Obligations Many TOT ordinances require the hotel operator to collect and remit the tax. An OTC could argue that it is not the operator. For this reason, the Georgia Supreme Court concluded that an enforcement action could not be brought against Expedia. Most OTCs do not seem to argue that they do not have to collect TOT. 11

12 Proposition 218 Requires voter approval for any change to a tax that will increase the amount of tax a person must pay. Therefore, to fix a TOT ordinance that currently allows an OTC to measure TOT by the wholesale rate requires a vote of the electorate. However, clarifying that the OTC has to collect the tax may not implicate Proposition 218. Recommendations for a TOT ordinance Avoid language tying the tax to the amount of money paid to or charged by the hotel s owner or operator. Instead, use language tying the tax to the amount of money actually paid by the consumer. 12

13 State that the amount of the tax should be based on gross payments, including charges for the rental transaction. State that rent is calculated based on the amount of money paid to any intermediary who facilitates the rental or who served as merchant of record for the rental transaction. Clarify that the entity receiving payment for the room rental from the customer has to collect the TOT. 13

14 VRBO, Airbnb, and other sharing economy websites VRBO is like the agency model. TOT should be measured by the price charged to customer. Application of TOT may depend on the definition of hotel. Airbnb operates as a hybrid agency/merchant model. Until recently Airbnb did not collect TOT. Now, perhaps to gain validity, it is offering to collect it. TOT collection is developing. May not include Airbnb s fees. Main issues are land use, not taxes. 14