State Tax Return NEW YORK: ARTWORK LOANED TO A NONPROFIT MUSEUM DID NOT CREATE NEXUS FOR A DELAWARE LLC.

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1 July 2008 State Tax Return Volume 15 Number 3 FIRST QUARTER NEXUS UPDATE -- DOING BUSINESS IN VARIOUS STATES, AFFILIATE NEXUS CASES AND STATUTES, LOCAL TAX IN PENNSYLVANIA, AND MICHIGAN S ACTIVE SOLICITATION RULE Maryann B. Gall Laura A. Kulwicki Columbus Columbus (614) (614) We keep track of nexus developments on a regular basis - legislation, administrative interpretations, the passage of rules and regulations, and court cases. This issue of our newsletter updates important nexus developments during the First Quarter, It is organized by the kind of activity that tends to give out-of-state entities nexus planning and litigation difficulties, such as in-state presence, affiliate nexus, and intangible nexus. There is an important New Jersey Tax Court decision concerning an internet retailer that sought to avoid sales tax nexus by segmenting its business operations. The Pennsylvania Supreme Court issued an instructive decision on local tax nexus. And, another boat case shows that it s hard to avoid use tax when the boat is moored in the taxing state. We hope you find these materials helpful in your planning and compliance work. TEMPORARY IN-STATE PRESENCE NEW YORK: ARTWORK LOANED TO A NONPROFIT MUSEUM DID NOT CREATE NEXUS FOR A DELAWARE LLC. Administrative Ruling, Petition No. S061220C, CCH (N.Y. Comm r of Taxation and Finance, Feb. 14, 2008). i. Petitioner, Great Art Fund III, a Delaware LLC, purchases artwork for investment purposes from art dealers located all over the country and then stores its items in a Delaware warehouse. Petitioner would like to loan artwork to the Nassau County Museum of Art (NCMA) in New York, but is concerned that allowing the artwork to enter New York might subject it to sales or use tax. 1

2 AFFILIATE NEXUS The Commissioner of Taxation found that because no consideration would be given to NCMA, there would be no sale that could be taxed. Petitioner s loan of artwork for NCMA s display would be considered a use by the Petitioner of the property in New York. However, at the time that Petitioner purchased the artwork, it did not maintain a place of business or carry on business in New York, so it would not owe use tax. IDAHO: AFFILIATE NEXUS LEGISLATION. Idaho House Bill 360, effective July 1, i. Idaho has passed legislation that amends the definition of a retailer engaged in business in this state, found in Section , to include a retailer with substantial nexus in the state. A retailer has substantial nexus with Idaho if both of the following apply: a. The retailer and an in-state business maintaining one or more locations within Idaho are related parties; and b. The retailer and the in-state business use an identical or substantially similar name, trade name, trademark, or goodwill to develop, promote, or maintain sales, or the instate business provides services to, or that inure to the benefit of, the out-of-state business related to developing, promoting, or maintaining the in-state market. The above provisions do not apply to a retailer that had less than $100,000 in sales in Idaho in the previous year. NEW JERSEY: SEGMENTATION OF BUSINESS OPERATIONS, INCLUDING WRITTEN OPERATING AGREEMENTS, DID NOT CONVINCE THE NEW JERSEY TAX COURT OF RETAILER S NO NEXUS POSITION. Drugstore.com, Inc. v. Div. of Taxation, No , CCH (N.J. Tax Ct. Feb. 11, 2008). i. Plaintiff, Drugstore.com, claimed that it could not be required to collect sales tax from New Jersey customers purchasing goods from its website operated in Washington State. Plaintiff claimed that its only roles in sales transactions were the operation of the website and certain administrative functions for its wholly owned subsidiaries, DSNP Sales, Inc., and DS Distribution, Inc. The Director of the Division of Taxation, however, claimed that Plaintiff was a vendor under N.J.S.A. 54:32B-2(i)(1) as in effect for 2

3 calendar years 2000 and 2001 and was therefore required to collect sales or use tax from New Jersey customers. The director alternatively maintained that Plaintiff was so closely affiliated with its subsidiaries and their activities that the sales of merchandise to New Jersey customers delivered from a New Jersey Warehouse must be attributed to Plaintiff under N.J.S.A. 54:32B-2(i)(2). i The New Jersey Tax Court concluded that the sales transactions actually occurred as follows: a. Drugstore.com Operated the website in Washington State through which merchandise was sold to New Jersey customers Had employees and equipment at the DS Distribution warehouse in New Jersey From its offices in Washington State, ordered merchandise from DS Distribution on behalf of DSNP Sales Processed credit card transactions for DSNP Sales Ordered and paid for merchandise from manufacturers and distributors in its own name for delivery to DS Distribution Handled accounting for itself and its subsidiaries Provided legal services for itself and its subsidiaries b. DSNP Sales Had no physical presence or employees anywhere Contracted all of its administrative and purchasing functions to Drugstore.com Contracted its distribution function to DS Distribution c. DS Distribution Had employees and property in New Jersey Received and stocked merchandise ordered on its behalf by Drugstore.com 3

4 At the direction of Drugstore.com, packed orders and shipped them to new Jersey customers iv. The court concluded that the sales on which the Director assessed tax were properly characterized as having been made by Plaintiff to its New Jersey customers, and that Plaintiff was the actual vendor. Plaintiff received orders over its website in Washington and transmitted those orders to DS Distribution with instructions for delivery to customers. Because Plaintiff was found to be a vendor under N.J.S.A. 54:32B-2(i)1), it met the bright line test of physical presence in New Jersey and was found liable for collecting the tax. PENNSYLVANIA: IS A CONSTRUCTION TRAILER A PLACE OF BUSINESS FOR LOCAL TAX PURPOSES? V.L. Rendina, Inc. v. City of Harrisburg and Harrisburg School District, No. 130 MAP 2005, 938 A.2d 988 (PA Sup. Ct., Dec. 27, 2007). i. The Pennsylvania Supreme Court affirmed the City of Harrisburg s business privilege tax against a construction contractor, finding physical presence nexus. i iv. Taxpayer is a Pennsylvania corporation with its principal place of business in Lancaster, PA. Taxpayer was the general contractor for the construction of an office building in downtown Harrisburg, PA and leased and maintained a job trailer at the construction site. The trailer had a telephone line, but no meetings with subcontractors were ever held at the trailer and no mail was delivered to the trailer. The City of Harrisburg imposed a Business Privilege and Mercantile Tax on entities conducting business in Harrisburg. For taxpayers having a place of business other than the principal place of business within the City of Harrisburg, business includes all activities carried on within the City and those carried on outside the City attributable to the place of business within the City. The City assessed a business privilege tax on Taxpayer in the amount of $27,000, which was calculated exclusively on the company s services in connection with the construction of the office building. The Commonwealth Court held that the tax should not be imposed because the Taxpayer was only doing work within the city and its trailer was not a place of business from which Taxpayer was able to manage business activities. On appeal to the Pennsylvania Supreme Court, the City argued that the trailer was a field office and/or a base of operations and for the purpose of the tax regulations, was a place of business. Taxpayer argued that it was involved in an isolated transaction in the City and 4

5 did not derive from the City any benefit normally associated with having a place of business in the City for purposes of a privilege tax. v. The Court reversed the Commonwealth Court and upheld the tax as imposed on Taxpayer. The Court distinguished this case from one in which the city is taxing a company on activities outside its jurisdiction. Here, the nexus for the tax was established by Taxpayer s presence in the city, regardless of whether the trailer was a place of business or base of operations. The existence of an office within the City is not a necessary condition for the taxation of business activities that occur wholly inside of the taxing municipality s boundaries. What is necessary is that the business activity sought to be taxed is the type authorized by the applicable tax statute in this case, it was. WISCONSIN: GENERAL PARTNER S CAPITAL GAIN ON SALE OF ITS INTEREST IN A PARTNERSHIP OPERATING TRUCK STOPS AND CONVENIENCE STORES IN WISCONSIN WAS APPORTIONABLE TO WISCONSIN. Louis Dreyfus Petroleum Products Corp. v. Wisconsin Dep t of Revenue, Wisconsin Tax Appeals Comm., No , (Jan. 2, 2008) i. Taxpayer is an out-of-state corporation and was the general partner of a Delaware partnership that owned an interest in a travel center located in Wisconsin. The Partnership had nexus in Wisconsin. i iv. Its ownership interest in the partnership was the Taxpayer s only business activity and its only connection to Wisconsin. Taxpayer and the partnership had centralized management and were fully integrated. In addition, Taxpayer s investment in the partnership served an operational purpose tied to the Taxpayer s parent company s ongoing operations. The parent company is a Delaware corporation. Taxpayer sold its interest in the partnership, resulting in capital gain. Taxpayer used the proceeds of the sale to fund a loan to its parent company, resulting in interest. Taxpayer sourced the entire capital gain from the sale and the interest from the loan to the State of Connecticut, removing them entirely from Taxpayer s tax base in Wisconsin. Taxpayer also had partnership income that was apportioned between Wisconsin and Connecticut. The tax on the partnership income was not in dispute. The Wisconsin Department of Revenue assessed tax on the capital gain and the interest income of Taxpayer. Taxpayer appealed the decision as to both the capital gain and interest. 5

6 v. The court upheld the tax on the capital gains because the Taxpayer and the partnership were unitary business centers based on three factors: functional integration, centralization of management and economies of scale. Because they were unitary business centers and the partnership had a nexus to the state, Taxpayer also had a nexus to the state. In addition, the court found that regardless of whether Taxpayer and partnership were engaged in the same unitary business, a capital transaction may be apportionable where Taxpayer s investment serves an operational function rather than an investment function of the affiliate business that has a nexus to the state. vi. The court reversed the tax on the interest income because Taxpayer s only business in Wisconsin was its partnership interest. Once the partnership interest was sold, Taxpayer no longer had a unitary or operational connection to Wisconsin. Although the loan to Taxpayer s parent was made from proceeds of the sale of the partnership, the interest income from the loan was not apportionable to Wisconsin because Taxpayer had no nexus to the state subsequent to its sale of the partnership interest. MICHIGAN S NEW BUSINESS TAX: ACTIVE SOLICITATION DEFINED IN THE BROADEST FASHION. Michigan Department of Treasury, Revenue Administrative Bulletin, CCH , Corporate Income Taxes (Dec. 28, 2007) i. The Revenue Administration Bulletin was issued to define the phrase actively solicits under the newly enacted Michigan Business Tax, MCL i iv. Actively solicits means purposeful solicitation of persons within the State of Michigan. Solicitation means (1) speech or conduct that explicitly or implicitly invites an order; and (2) activities that neither explicitly nor implicitly invite an order, but are entirely ancillary to requests for an order. Solicitation is purposeful when it is directed at or intended to reach persons within Michigan or the Michigan market. Active solicitation includes, but is not limited to, solicitation through (1) mail, telephone, and ; (2) advertising, including print, radio, internet, television, and other media; and (3) maintenance of an internet site over or through which sales transactions occur with persons within Michigan. Examples of active solicitation include sending mail order catalogs; sending credit applications; maintaining an internet site offering 6

7 online shopping, services, or subscriptions; and soliciting through media advertising, including internet advertisements. v. In evaluating whether acts of solicitation are sufficient to establish active solicitation, the Department of Treasury looks to the quality, nature, and magnitude of the activity on a facts and circumstances basis. vi. According to the Department, active solicitation, coupled with $350,000 in Michigan gross receipts, constitutes nexus under the MBT and satisfies the Due Process and Commerce Clauses of the United States Constitution. INTANGIBLE NEXUS LOUISIANA: ANOTHER GEOFFREY CASE NO SURPRISES HERE. Bridges v. Geoffrey, Inc., No CA 1063, CCH (La. App. Ct. Feb. 8, 2008). i. Geoffrey is a Delaware Corporation that was formed as a holding company for the consolidated group Toys R Us, Inc. As a holding company, Geoffrey owns the trademarks and trade names for Toys R Us. After its formation, Geoffrey entered into an exclusive licensing agreement giving Toys R Us Delaware exclusive use of Toys R Us trademarks and trade names in exchange for a royalty fee based on net sales in retail stores, including stores in Louisiana. Toys R Us Delaware filed Louisiana corporate income and franchise tax returns on which it took a royalty expense deduction for royalties paid to Geoffrey. Despite its receipt of royalty payments, Geoffrey did not file corporate tax returns. i In 2000, the Department of Revenue conducted an audit and filed a petition to collect taxes from Geoffrey in state district court. The trial court found in favor of the Department based on the holding in Geoffrey, Inc v. South Carolina Tax Commission, 313 S.C. 15, 437 S.E.2d 13 (1993), cert. denied, 510 U.S. 992 (1993), that Quill s physical presence requirement for establishing a substantial nexus with the taxing state was limited to sales and use tax cases. Geoffrey appealed, asserting that the trial court s decision was contrary to the Commerce Clause. After reviewing Quill and the South Carolina Geoffrey decision, the court affirmed the trial court s conclusion that Quill s physical presence requirement does not apply to corporate income and franchise taxes. The court also found that Geoffrey: (1) had income derived from sources within Louisiana; (2) the income came from royalties from the use of trademarks; and (3) the trademarks were 7

8 used in Louisiana. Therefore, Geoffrey had a substantial nexus with Louisiana sufficient to satisfy the Commerce Clause and was subject to corporate taxation. DOING BUSINESS IN THE STATE TAXPAYERS LOSE ONE AND WIN ONE IN COURT. FLORIDA ISSUES A SENSIBLE ADMINISTRATIVE RULING. ALABAMA Surtees v. VFJ Ventures, Inc., 2008 Ala. Civ. App. LEXIS 50 (Ct. Civ. App. Ala. Feb. 8, 2008). i. Taxpayer VFJ Ventures appealed an Alabama Department of Revenue ruling that determined it had to add back royalty payments made to two members of its corporate family, such that it could not deduct the payments from its corporate tax liability in Alabama. The payments were made to intangible management companies ( Lee and Wrangler ) in Delaware, where they would largely not be subject to income tax, for the use and management of certain trademarks. i iv. VFJ Ventures had two distribution facilities and a cutting plant in Alabama. It employed 600 people in the state. Because Alabama s add-back statute requires that a corporation add back into its taxable income expenses and costs related to intangibles such as trademarks that are paid to a related member of the corporation, the Department contended that the royalty payments made by VFJ to Lee and Wrangler should have been added to VFJ s federal taxable income for the purpose of calculating VFJ s taxable income in Alabama. Taxpayer argued, as it successfully had at the trial court level, that the royalty payments had been subject to tax in another jurisdiction, and that the application of the add-back statute was unreasonable because the royalty payments to Lee and Wrangler had a legitimate business purpose and economic substance. Such a circumstance represented an exception to the application of the add-back statute. v. The appellate court rejected this argument. Although where application of the add-back requirement is unreasonable, the statute cannot be applied, unreasonable application occurs when the tax resulting from the application of the statute has no fair relation to or is out of proportion to the corporation s activities in Alabama. Therefore, requiring that the royalty payments had a legitimate business purpose and economic substance was not the proper standard for evaluating whether add-back was appropriate. The appellate court also emphasized that although income that was 8

9 subject to tax in another jurisdiction could not be added-back, falling under this exception requires that the income is actually taxed as part of a tax on net income in another state and this means after apportionment takes place. vi. Finally, the court rejected VFJ s argument that the add-back statute was an unconstitutional attempt to tax entities with which the state does not have nexus. The statute merely disallows a deduction sought by the taxpayer and does not result in a tax that is not fairly apportioned to Alabama. CALIFORNIA Northwest Energetic Services v. Cal. Franchise Tax Board, 159 Cal. App. 4 th 841, 71 Cal. Rptr. 3d 642, 2008 Cal. App. LEXIS 162. i. Taxpayer corporation was organized in Washington and had business locations there and in Oregon. It was a distributor of explosives but had no operations, locations, or property in California, nor did it solicit customers there or make any deliveries there. It nonetheless registered as an LLC in California, and was charged a levy amount based on its total worldwide income for several years. The corporation paid the levy, and then filed for a refund, which was denied. The appellate court determined that the levy was effectively a tax on non-california income and, thus, was an unconstitutional extraterritorial tax. The Franchise Tax Board s economic justification for the levy was that the state required funds to provide certain benefits to LLC s in California. But in this taxpayer s case, the levy reached beyond the portion of value that was fairly attributable to the economic activities within California, and the Board made no effort to demonstrate otherwise. FLORIDA: JEWELRY SALES THROUGH TELEVISION AND THE INTERNET DID NOT CREATE NEXUS. Administrative Ruling, No. 08A-004, CCH (Fla. Dept. of Rev. Jan. 29, 2008). i. A retailer of jewelry sought advice from the Department of Revenue regarding whether or not its activities in Florida create a taxable presence in the state for the purposes of collecting and remitting Florida sales tax. The retailer had no stores, agent, products or employees in the state, but intended to reach prospective customers in Florida via agreements with a satellite television provider and with a procurer 9

10 of cable airtime. The retailer intended to ship its jewelry products to customers in Florida via UPS and US Mail, with the orders received and accepted in another state. i With almost no discussion, the Department of Revenue advised the retailer that it was not required to collect Florida Sales Tax on its mail order sales to Florida customers. The Department based the decision on the requirement that a retailer must have physical presence in the state, citing National Bellas Hess and Quill. The Department also noted that the retailer did not fall into one of the twelve statutory categories the Florida legislature created to help determine when an out-of-state seller must collect Florida Sales Tax on mail order sales, citing Florida Statutes section (2)(e). IOWA: NO PHYSICAL PRESENCE NEXUS REQUIRED IF CORPORATION HAS INCOME FROM IN-STATE RECEIVABLES. Administrative Ruling, Mem. No , CCH (Iowa Dept. of Rev. Jan. 11, 2008). i. Three taxpayer corporations (A, B, and C) sought advice from the Department of Revenue as to whether Corporations B and C, subsidiaries of national Corporation A, had nexus for Iowa corporation income tax purposes. The scenario was explained: Corporation A sells its accounts receivable to Corporation B at a discount, and Corporation B then sells them to Corporation C at a discount. Corporation B s only source of income is the sale of receivables to Corporation C, and Corporation C s only source of income is the collection of the receivables. i The Department first noted that physical presence is not required to establish corporation income tax nexus, basing this conclusion on the Supreme Court s refusal to review several state court decisions that reached the same conclusion, including Geoffrey, K-Mart Properties, A&F Trademark, and Landco. The Department then noted that Corporation C reported gains on receivables, some of which were from Iowa customers, which qualified as income from intangible property located or having a situs in Iowa. For these reasons, the Department concluded that Corporation C would be subject to Iowa corporate income tax. Corporation B, however, would not be subject to the tax. Because Corporation B only receives income from the sale of the receivables to Corporation C, its income was not derived from intangible property located or having a situs in Iowa. The income was merely 10

11 an intercompany transfer of receivables. Corporation B would thus not be subject to Iowa corporate income tax. MAINE: ECONOMIC NEXUS IS ENOUGH. Maine Tax Alert Vol. 18 No. 2, CCH (February 2008). i. The February 2008 issue of the Maine Tax Alert explains the Department s position on the nexus standard used to determine whether business activity in the state is sufficient to impose corporate income tax. Maine Revenue Service Rule 808, Corporate Income Tax Nexus, first issued in 1994, provides that [t]he State Tax Assessor construes Maine law to assert the tax jurisdiction of Maine to the full extent permitted by the Constitution and laws of the United States. Although physical presence nexus and economic nexus often occur together, the MRS considers economic nexus alone to be sufficient to impose Maine s income tax laws. MASSACHUSETTS: TAXPAYER DID NOT SATISFY ITS P.L BURDEN OF PROOF. Advanced Logic Research, Inc. v. Comm r of Revenue, Nos. C271740, C271871, CCH (Mass. App. Tax Bd. Jan. 10, 2008). i. Advanced Logic Research, Inc., a California corporation with its principal place of business in California, designed and manufactured computer systems that it then sold to customers throughout the country. From , Advanced Logic filed Foreign Business or Manufacturing Corporate Excise Tax Returns with the Commissioner of Revenue. Its 1998 return indicated that it was a final return because Advanced Logic no longer had sufficient nexus under PL to be required to file a Massachusetts corporate tax return. In 2000, the Commissioner commenced a compliance examination and determined that Advanced Logic owed an additional $114,000 in excise taxes. Advanced Logic challenged this determination and also filed an Application for Abatement, seeking a refund of all excise taxes that had already been paid. The Application was based on Advanced Logic s position that it did not have sufficient nexus with Massachusetts to be subject to the tax during any of the years in question. The Commissioner affirmed the results of the examination and denied the Application for Abatement. Advanced Logic filed petitions for review with the Board of Tax Appeals. 11

12 i iv. Before the Board, Advanced Logic contended that during the periods at issue it did not engage in any manufacturing activities, maintain an office, or maintain inventory or other property in Massachusetts. It also contended that any orders for sales to Massachusetts residents were sent to California to be filled and shipped, and that all repair services for Massachusetts customers were performed by third-party independent contractors. It did admit that its sales personnel occasionally traveled to Massachusetts, but only to solicit orders as permitted under PL The Board denied Advanced Logic s appeal. It noted that Advanced Logic bore the burden of proof. Advanced Logic attempted to meet that burden by providing testimony from only one witness, a midlevel sales associate. That Board found that the sales associate did not possess sufficient knowledge to establish the full extent of Advanced Logic s activities in Massachusetts. The Board also observed that the witness failed to provide any documentary evidence to bolster his testimony. As a result, the Board concluded that Advanced Logic failed to meet its burden of establishing that it lacked a taxable nexus with Massachusetts. MASSACHUSETTS: ANOTHER BOATER LOSES A USE TAX APPEAL ON 48 FOOT SAILBOAT. Liberty Marine, LLC v. Comm r of Revenue, No. C , CCH (Mass. App. Tax Bd. Jan. 10, 2008). i. Liberty Marine is a single-member LLC organized under the laws of the state of Rhode Island with a primary business address in Massachusetts. John Desmond is the president, manager, and sole member of Liberty Marine, which was organized to operate a sail charter business. i The Commissioner of Revenue conducted an audit of Liberty Marine in 2003 after receiving an anonymous complaint that the LLC had failed to pay use tax on its Massachusetts storage and use of a 48-foot sailboat that cost $748,030. The Commissioner determined that Liberty Marine was liable for use tax and interest of $59, Liberty Marine duly filed a sales and use tax return, but later filed an Application for Abatement with the Commissioner. That Application was denied and Liberty Marine sought review before the Appellate Tax Board. Before the Board, Liberty Marine argued that there was insufficient nexus to support the imposition of use tax because the sailboat s presence in Massachusetts was fleeting. However, the Board found that Desmond was a Massachusetts resident who used the 12

13 NEW MEXICO: THE TAXATION & REVENUE DEPARTMENT UPDATED ITS GUIDANCE ON P.L Administrative Ruling, FYI-350, CCH (N.M. Taxation and Revenue Dept. Jan. 1, 2008). i. Any corporation with income from the transaction of business in, into, or from New Mexico or from property or employment in New Mexico has nexus unless its activities are immune under PL Criteria for immunity under PL a. The corporation does not maintain a business location or office in New Mexico. b. The corporation is not incorporated in New Mexico. c. All sales occur in interstate commerce. d. The corporation sells only tangible personal property in the state. e. All sales solicited in New Mexico are contingent on approval (acceptance) outside New Mexico. i Protected activities in New Mexico under PL include: (1) soliciting orders through advertising; (2) soliciting orders through an in-state resident employee who works from an in-home office; (3) carrying samples and promotional materials only for display and distribution without charge; (4) setting up display racks and advising customers about products; (5) providing cars to sales personnel for their use when conducting protected activities; (6) passing inquiries and orders to the home office; (7) missionary sales activities; (8) coordinating shipment or delivery without payment; (9) checking customers inventories for reorder without payment; (10) maintaining a sample or display room for up to 2 weeks; (11) recruiting, training, or evaluating sales personnel; (12) mediating customer complaints to facilitate requests for orders; and (13) owning, leasing, using, or maintaining personal property for use in an employee s home office under item (2). 13

14 iv. Unprotected activities in New Mexico under PL include: (1) repairing or maintaining the property sold or to be sold; (2) collecting current or delinquent accounts; (3) investigating creditworthiness; (4) installing or supervising installation; (5) conducting training courses, seminars, or lectures for personnel other than those involved in solicitation only; (6) providing technical assistance; (7) approving or accepting orders; (8) repossessing property; (9) securing deposits on sales; (10) picking up or replacing damaged or returned property; (11) hiring, training, or supervising any personnel other than those involved in solicitation; (12) using agency stock checks or any other instrument to make sales; (13) owning, leasing, or maintaining facilities or property in the state; (14) consigning stock of goods or other tangible personal property to any person; (15) maintaining an office other than an inhome office as discussed above; (16) entering into franchise or license agreements; (17) shipping or delivering goods into New Mexico via private vehicle, rail, water, or air. VIRGINIA: THE VIRGINIA DEPARTMENT USED A POSITIVE FACTORS TEST TO DETERMINE INCOME TAX NEXUS. Ruling of Commissioner, P.D , CCH (Va. Dep t of Tax., Jan. 7, 2008). i. Taxpayer was a telecommunications reseller that used landline services and facilities supplied by third parties for transmitting calls from foreign offshore call centers to residents of Virginia and nationwide. The Taxpayer s client was always the foreign offshore call center, not the domestic resident. i Generally, a corporation will have income from Virginia sources and therefore be subject to Virginia income tax if there is sufficient business activity within Virginia to make one of the applicable apportionment factors positive property, payroll and sales. No income tax is imposed where the only activities in the state are solicitation, ancillary to solicitation or de minimis. Here, the Taxpayer did not have property, payroll or sales in Virginia; therefore, the service transactions did not create a corporate income tax nexus for the Taxpayer. The Taxpayer was also not subject to the sales and use tax because it was not a dealer. Taxpayer was not subject to the communications sales and use tax because it was reselling the service provided by a third party. Ruling of Commissioner, P.D. 08-6, CCH , (Va. Dep t of Tax., Jan. 11, 2008). 14

15 i. Taxpayer, a corporation commercially domiciled in Virginia, filed a consolidated Virginia corporate income tax return but did not include three subsidiaries (Corporations A, B, and C) that were commercially domiciled outside Virginia. Under audit, the Department made adjustments to consolidate the three subsidiaries with the Taxpayer, resulting in the assessment of additional corporate income tax. Taxpayer argued that the three subsidiaries lacked nexus with Virginia for income tax purposes. i iv. The Commissioner found that a corporation is subject to Virginia income tax if it has income from Virginia sources. The existence of one of three positive Virginia apportionment factors clearly establishes income from Virginia sources. The three-factor formula includes: property, payroll and sales to affiliates. Corporation A was not subject to income tax in Virginia and should not have been included in Taxpayer s consolidated return because it had no sales in Virginia, did not have property located in Virginia and did not pay employees in Virginia. Corporation B was subject to Virginia income tax and therefore required to be part of Taxpayer s consolidated return. Although Taxpayer argued that Corporation B provided de minimis services that were ancillary to solicitation, the establishment of an office by Corporation B in Virginia clearly exceeded any protection provided for services that are ancillary to solicitation. In addition, almost 40% of Corporation B s payroll occurred in Virginia, clearly exceeding a trivial level of business activity. v. Corporation C was not subject to Virginia income tax and should not have been included in Taxpayer s consolidated return. All of Corporation C s property and employees were located in a different state and all of its business activities were conducted in a different state. WASHINGTON: CREDITS, CALLED BUYDOWNS, WERE PROPERLY INCLUDED IN FRANCHISEES GROSS INCOME. Tax Determination No , Washington Dep t of Revenue, 27 WTD 1 (Jan. 23, 2008). i. Mini-marts owned by franchisees ( Taxpayer ) protested the assessment of B&O taxes. The auditor assessed taxes on amounts received by Taxpayer from its franchisor. The amounts were given to Taxpayer to support the sale of products in promotion programs established by the franchisor and manufacturers. Each month the franchisor told the Taxpayer what products to promote. The 15

16 Taxpayer then purchased the products at wholesale prices from distributors and sold the products at below the Taxpayer s costs. It then received payments, similar to subsidies, from the franchisor, through the manufacturer, for participating in the promotion. The audit division found these monthly payments to be part of the Taxpayer s income and subject to B&O taxes. On appeal, the issue was whether these payments were income for purposes of the B&O tax. The Department found that they were. i The B&O tax is extensive and intended to impose tax on virtually all business activities carried on in the state. For purposes of this tax, business is broadly defined to include all activities engaged in with the object of gain, benefit, or advantage to the taxpayer or to another person or class, directly or indirectly. Because the Taxpayer purchased products, promoted them with signage and sold them, it engaged in business in Washington. The franchisor induced or required the Taxpayer to purchase the products and price them lower for the consumer through the use of subsidies. The subsidies constituted gross income for engaging in business because they were received as a direct result of promoting and selling specific products, the business activity. This article is reprinted from the State Tax Return, a Jones Day monthly newsletter reporting on recent developments in state and local tax. Requests for a subscription to the State Tax Return or permission to reproduce this publication, in whole or in part, or comments and suggestions should be sent to Teresa M. Barrett-Tipton ( ) in Jones Day s Dallas Office, 2727 N. Harwood, Dallas, Texas or StateTaxReturn@jonesday.com.. All Rights Reserved. No portion of the article may be reproduced or used without express permission. Because of its generality, the information contained herein should not be construed as legal advice on any specific facts and circumstances. The contents are intended for general information purposes only. 16