State Tax Implications of Commodities Transactions

Transcription

1 Scott Wright Andrew Appleby State Tax Implications of Commodities Transactions Sutherland SALT Financial Services Roundtable January 21, 2016 All Rights Reserved. This communication is for general informational purposes only and is not intended to constitute legal advice or a recommended course of action in any given situation. This communication is not intended to be, and should not be, relied upon by the recipient in making decisions of a legal nature with respect to the issues discussed herein. The recipient is encouraged to consult independent counsel before making any decisions or taking any action concerning the matters in this communication. This communication does not create an attorney-client relationship between Sutherland and the recipient.

2 Agenda Introduction Overview of Commodities Transactions Nexus Gross Receipts Tax Issues Transaction Tax Issues Income Tax Issues Other Tax Issues 2

3 Introduction 3

4 Overview of Commodities Transactions 4

5 Overview of Commodities Transactions Commodities transactions frequently involve: Oil and Gas Crude Oil Refined Fuel Products/Gasoline Natural Gas 5

6 Overview Oil/Gas Transactions Sale vs. Credit Support Agreement Characterizing the transaction can be difficult, and can have vastly different tax implications. Objective is for Party 1 (often a bank or trader) to provide capital to Party 2 (often an oil/gas wholesaler or refiner). Several ways to structure the transaction, including: Loan Prepaid Forward Buy/Sell 6

7 Loan Loan Principal (Beginning of Term) Monthly Interest Party 1 Party 2 Repay Principal (End of Term) Party 1 agrees to loan money to Party 2. Party 2 pays Party 1 monthly interest. Loan amount may be flexible (e.g., revolving loan). Pure financial transaction; no hedging. 7

8 Prepaid Forward Transaction Payment (Beginning of Term) Monthly Credit Party 1 Support Fees Party 2 Future Delivery (End of Term) Party 1 agrees to purchase a certain amount of oil/gas. Party 1 prepays the entire amount due under the contract on day 1. Party 2 is obligated to deliver the oil/gas at the end of the contractual term (often years away). Party 2 pays Party 1 monthly credit support fees (flat fee and/or % of prepayment), similar to interest payment. This transaction allows Party 1 to hedge. Either or both parties may have option to terminate the contract prior to delivery (and Party 2 simply returns the prepayment amount). May require adjustments if Party 2 requires more or less capital, or to adjust for pricing fluctuations. 8

9 Buy/Sell Transaction Payment (Beginning of Term) Payment (Beginning of Term) Monthly Credit Party 1 Support Fees Party 2 Party 1 Party 2 Future Delivery (End of Term) Beginning of Day Future Delivery (End of Term) End of Day Involves two prepaid forward transactions each day. Beginning of Day: Party 1 prepays the entire amount; Party 2 is obligated to deliver the oil/gas at the end of the contractual term. End of Day: Party 2 prepays the entire amount; Party 1 is obligated to deliver the oil/gas at the end of the contractual term. These transactions partially offset. Amounts can differ based on capital needs of Party 2 and price of oil/gas. This transaction gives Party 1 an increased ability to hedge. 9

10 Intermediation Capital Party 1 Monthly Credit Support Fees Producer Party 2 Party 1 Buyer Oil/Gas From Well Party 2 Transports Flash Title Sale Facilitated by Party 2 Party 1 provides capital to Party 2 and is involved in a flash title buy/sell facilitated by Party 2. Party 1 bears no risk of loss at any point. Party 1 receives credit support fees (like interest) and also a spread on the buy/sell transaction. Party 2 receives credit support and a spread on the sale to Party 1. 10

11 Nexus 11

12 Nexus Constitutional Limitations Physical Presence Flash Title Economic Presence 12

13 Constitutional Limitations Due Process Clause Requires a minimum connection between a state and the person, property, or transaction the state seeks to tax. Commerce Clause Requires a substantial nexus between the state and the taxpayer. Quill Corp. v. North Dakota, 504 U.S. 298 (1992) Quill s economic presence in North Dakota satisfied the Due Process Clause s minimum connection requirement, but not the Commerce Clause s substantial nexus requirement. 13

14 Nexus Physical Presence If a commodities trader takes delivery, the goods may be temporarily held in the state. Does this create nexus? Example: A coffee bean commodity trader had nexus when it held inventory in N.Y. until it could resell the beans. The trader s actions exceeded P.L The outcome depended on the length of time the trader held the inventory and that some was sold to customers rather than back into the commodities exchange. See New York TSB-A-95(19)C. Does taking title to or possession of a commodity in interstate transit create a physical presence? Bloomberg BNA 2015 Survey of State Tax Departments: Income Tax: 19 states answered Yes that holding title to natural gas flowing through a pipeline in the state without originating from or terminating at an in-state location would create nexus. Sales Tax: 9 states answered Yes. 14

15 Nexus Flash Title An out-of-state seller has title to a commodity that is in interstate commerce in a common carrier s possession. While the commodity is in interstate commerce, the seller transfers title to an out-of-state buyer, without ever taking physical possession of the underlying property. Is this enough to create a physical presence to establish nexus? Indiana Rev. Ruling No. URT (Oct. 17, 2005) (income tax) An out-of-state natural gas marketer that purchased gas in the interstate pipeline at a point in Indiana and sold the gas at the same point to an Indiana consumer had nexus despite holding title for only a moment in time. Washington Tax Determination E, 14 WTD 085 (April 18, 1994) (B&O tax) An out-of-state petroleum trader had nexus despite its assertion that it only made paper transactions involving simultaneous purchase and sale. The ALJ said it was enough that the possibility of in-state storage if a simultaneous sale could not be made was enough to create nexus. A simultaneous sale was never assured. 15

16 Nexus Economic Presence Geoffrey, Inc. v. South Carolina Tax Comm n, 437 S.E.2d 13 (S.C. 1993), cert. denied, 510 U.S. 992 (1993) A trademark holding company had nexus for income tax purposes despite not having any physical presence. The South Carolina Supreme Court did not extend Quill s physical presence requirement beyond sales and use tax. Other states have adopted economic nexus standards based on the amount of receipts derived from in-state sources. Ohio: adopted the MTC s model factor presence statute. Washington: new economic presence nexus rule for wholesalers effective Sept. 1, New York: effective Jan. 1, 2015, establishes a $1 million threshold. Bloomberg BNA 2015 Survey of State Tax Departments: 6 states said they apply Quill to income taxes; 34 states said they use economic presence (note that a few states, including NY and WA, did not participate in this portion of the survey). A commodities trader may have nexus in a state in which it has no physical presence if it has a certain amount of receipts from in-state sources. 16

17 Gross Receipts Tax Issues 17

18 Gross Receipts Taxes Several states impose tax on a taxpayer s gross receipts or total revenue. Nevada Commerce Tax (S.B. 483, effective July 1, 2015) Ohio Commercial Activity Tax Texas Margin Tax Washington Business and Occupation Tax Some states include gross receipts as a component of the corporate income tax. Kentucky Limited Liability Entity Tax Michigan Business Tax s modified gross receipts tax (replaced by the Michigan Corporate Income Tax, which no longer contains a gross receipts component, effective Jan. 1, 2012) These taxes generally involve no deductions or limited deductions (such as cost of goods sold), but are subject to lower tax rates. 18

19 Gross Receipts Taxes Gross receipts taxes may be imposed on multiple occasions throughout the course of a transaction. Example: Extracting, processing, wholesaling, and retailing of the same product may all be subject to tax at each stage of the process. However, a taxpayer may be able to offset a later taxable event with a credit, such as Washington s Multiple Activities Tax Credit. States often have specific classifications for taxpayers under gross receipts tax Example: Washington Business & Occupation Tax A taxpayer may be taxed as a wholesaler, a manufacturer, or a processor for hire. The same entity may be subject to tax under multiple classifications. Basis for the tax: Gross proceeds of sales; the value of products manufactured (WA). Taxable gross receipts, without deduction for COGS (OH). Margin One of four calculations, all using total revenue as a starting point (TX). 19

20 Transaction Tax Issues 20

21 Transaction Taxes Sales and Use Tax Does a taxable sale take place if the parties settle their obligations financially without actual delivery? Taxable sales may be limited to those at retail, rather than wholesale sales. Valid reseller permits are often required to document a wholesale sale. Is a natural gas transporter subject to use tax on gas consumed during transit? Northern Border Pipeline Co. v. South Dakota Dep t of Rev., 2015 S.D. 69 (2015) Company transporting gas by pipeline was not subject to use tax on the amount of gas it burned during the shipping process, because the gas was not used incidental to Company s ownership. Company did not own the gas during transport. In several other states (e.g., MN, NE, ND, WI, WY), a use incident to possession (rather than ownership) is taxable. 21

22 Transaction Taxes Motor Fuels Tax States often categorize entities for motor fuels tax purposes (e.g., distributors, retailers, suppliers, blenders, refiners). The type of transaction may affect taxability: Bulk transfer (by pipeline or vessel) Removal at the rack (by truck, trailer, railroad car) Out-of-state shipments Taxability may depend on whether the entity is licensed by the state under the motor vehicle fuel laws. Example: A removal of fuel from a terminal or refinery by bulk transfer is exempt if the entity is a licensed supplier. See Cal. Rev. & Tax Code 7401(a)(1). A taxable entity may be allowed to pass the burden on to the consumer. Example: For each subsequent sale of gasoline on which tax has been paid, the amount of tax shall be added to the selling price so that tax is ultimately paid by the user or consumer of the gasoline. See Tex. Tax Code Ann (g). 22

23 Income Tax Issues 23

24 Income Tax Can receipts from commodities futures contracts be included in the sales factor for apportionment purposes? Distinction between commodities transactions engaged in to manage risk and those engaged in for profit. General Mills, Inc. v. Franchise Tax Board, 146 Cal. Rptr. 3d 475 (Cal. Ct. App. 2012) Hedging activity is substantially different from sales that are made for profit, and distorts the percentage of income apportioned to the state. Including only net gains, rather than gross receipts, is a reasonable alternate apportionment formula. Florida Technical Assistance Advisement 12(C)1-007 (May 25, 2012) Gross receipts from hedging transactions are generally excluded from the sales factor because they are not true sales. However, if the taxpayer sells commodities as a regular part of its profit-making business, they are included. 24

25 Income Tax-Apportionment Sourcing How is a commodity transaction characterized? A sale of tangible personal property; or A form of financing transaction, such as a credit support agreement or a loan. The characterization may affect how the income from the transaction is sourced. Sale of tangible personal property Market-based sourcing Credit Agreement/Loan May be more specific sourcing rules (including COP) 25

26 Other Tax Issues 26

27 Property Tax Does the Commerce Clause prevent ad valorem taxation of oil or natural gas that is being stored in the state awaiting out-of-state distribution? If oil or gas is entirely within the state on the assessment date and not in the stream of interstate commerce, it is taxable absent a specific exemption. However, issues arise when oil or gas is either moving through the state, or is being stored in the state temporarily. Several recent cases have addressed this issue, with two states (Texas and Kansas) reaching opposite conclusions on nearly identical facts. 27

28 Property Tax ETC Mktg. v. Harris Cty. Appraisal Dist., No CV, 2015 WL (Tex. Ct. App. May 5, 2015) Company purchased natural gas and stored it in Texas while awaiting favorable market conditions, with intent to sell to out-of-state buyers. Held: Taxable Company contracted to store gas in Texas, and had facilities and employees there. Peoples Gas, Light, and Coke Co. v. Harrison Cent. Appraisal Dist., 270 S.W.3d 208 (Tex. Ct. App. 2008), cert. denied, 139 S. Ct (2011) Company purchased natural gas that was already in the interstate pipeline system from suppliers, and delivered it to buyers in Illinois. The gas was stored in Texas. Held: Not Taxable Company knew the gas would be stored somewhere, but had no control over where. Company had no offices, employees, or facilities in Texas. 28

29 Property Tax Missouri Gas Energy v. Kansas Division of Property Valuation, 313 P.3d 789 (Kan. 2013), cert. denied, 135 S. Ct. 51 (Oct. 6, 2014) Companies knew the gas could be stored in Kansas or in another state, but had no control over where. Companies had no offices, employees, or facilities in Kansas. Held: Taxable Companies had substantial nexus with Kansas despite their lack of control over the place of storage. Storage somewhere was not only anticipated, but intended. 29

30 Questions? Scott Wright Sutherland Asbill & Brennan LLP Andrew Appleby Sutherland Asbill & Brennan LLP 30

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