New York Responds To Appellate Decision Regarding Amazon.com

I hope each of you had a happy Thanksgiving.  Now its Monday, and we have to work our way back into the groove.

New York and Amazon - the continuing saga.  As stated in earlier posts, a recent New York appellate court upheld the "amazon.com" nexus law, but did remand the case for further application to Amazon's specific facts to determine if nexus actually exists.

The New York Department of Taxation responded to the court case decision with a press release stating:

"The Court concluded that the State's new law is constitutionally sound "on its face" - that is - legal and enforceable with respect to Internet retailers whose business practices bring them within the scope of the law, unless a retailer can make a valid legal challenge to the statute as applied to its own unique factual circumstances."

This response is simply a re-enforcement of what the court said.  In other words, the law is constitutional, but as always, nexus is determined on a case-by-case basis.  If you are an Internet retailer, you still have the opportunity to rebut the presumption.

To access the full press-release, go to NEW YORK's RESPONSE.

Happy Thanksgiving Week! / Free Nexus Info!

I will not be posting this week as I am attempting to take the week off (to a certain extent).

Therefore, I would like to wish everyone a Happy Thanksgiving! 

I would also like to offer everyone who couldn't attend the nexus presentation I made last week at the Minnesota CPA Society's annual tax conference, the chance to obtain a copy of the handout material.  Therefore, if you are interested, please e-mail me at brian.strahle@bakertilly.com for a copy.

May you be blessed and have a safe holiday season!

Minnesota Revenue Commissioner Resigns!

According to the Minnesota Governor, Revenue Commissioner Ward Einess will be leaving his administration effective December 3 to begin his own government affairs practice.
Who will be the next Commissioner?  What impact will it have on Minnesota Tax Policy? 

Perhaps more importantly, who will be the next Governor of Minnesota?

Stay tuned.

Texas Going After Service Businesses!

According to a recent Texas Tax Policy News, Texas is auditing 2008 and 2009 franchise tax returns and finding that service companies are taking the "cost of goods sold" deduction.  Unfortunately, service businesses generally do NOT quality to take the cost of goods sold deduction.  Therefore, all service companies that have taken the cost of goods sold deduction may have tax risk or exposure.

COGS Deduction Not Allowed for 100% Service Businesses

Section 171.1012 of the Texas Tax Code specifically provides that, in determining the cost of goods sold, the term “goods” means real or tangible personal property sold in the ordinary course of business and does not include services. The Tax Code does not allow a cost of goods sold deduction for entities that provide services such as dry cleaners, law firms, parking facilities, rental services, towing companies, etc.

COGS Deduction May Be Allowed for Mixed Transactions

Franchise Tax Rule 3.588(c)(8) does allow a cost of goods deduction for transactions that contain elements of both a sale of tangible personal property and a service; however, an entity may only subtract as cost of goods sold the costs otherwise allowed in relation to the tangible personal property sold.

For example, an auto body shop offers the service of car repair and in the process of the repair, replaces some of the car's parts. If the auto body shop elects to use the cost of goods sold to determine margin, the shop can only deduct the cost of the car parts. The labor related to the repair of the car is not allowed as a cost of goods sold.

Amended Returns Required?  Deduction May Be Limited!

If an entity that is not eligible for the cost of goods sold deduction elected to use this method for prior years' reports, the entity must amend the reports.  The compensation deduction, however, is not available for the prior years' reports. The election language in Tax Code Section 171.101(d) does not allow a change in the method of computing margin to a cost of goods sold or compensation deduction after the due date of the report.

These entities that originally elected to use the cost of goods sold method must amend and use the 70 percent method to determine margin or, if total revenue is not more than $10 million, may use the E-Z Computation to determine tax due. The E-Z Computation does not allow a cost of goods sold or compensation deduction in computing margin but instead applies a lower tax rate of 0.575 percent directly to apportioned total revenue.
 
Future Years?
 
In future years, entities that do not sell real or tangible personal property in the ordinary course of business may choose the compensation deduction over the 70 percent method or the E-Z computation. The compensation deduction, detailed in Franchise Tax Rule 3.589, includes W-2 wages and cash compensation paid, net distributive income reported to natural persons and employee benefits provided. (Note: Internal Revenue Service Form 1099 wages cannot be included in the compensation deduction.)

Maryland Doesn't Need Combined Reporting!

In a recent Maryland Tax Court Case (W. L. Gore v. Comptroller of Treasury, Maryland Tax Court, No. 07-IN-OO-0084, No. 07-IN-OO-0085, and No. 07-IN-OO-0086, November 9, 2010), the Court held that two out-of-state subsidiary holding companies had substantial nexus with Maryland because they lacked economic substance on their own, and were unitary with their parent company which had nexus with Maryland.

No Economic Substance ("Separate Existence")

The two subsidiary holding companies held intellectual property and funds for a parent corporation located in Maryland.  The holding companies received royalty and interest income, and were found to be passive, non-operational entities that did not have a business existence separate and apart from the parent company. 

Unitary

The Court held that the subsidiaries depended on the parent company for their existence and there was a circular flow of money through royalties, dividends and loans.  The Court also believed the facts indicated functional integration and control through stock ownership, as well as common employees, directors and officers of the parent company. 

Combined Reporting Not Necessary

Maryland may not have combined reporting, but they will apply economic nexus provisions, and disallow intercompany transactions utilizing the “unitary” concept.  Therefore, Maryland is able to get to the same result using principles other than combined reporting.

So What?

If your company or client has holding companies or substantial intercompany transactions similar to those described above, you may want to analyze the facts to determine if the entities have economic substance that will be respected upon audit.  If not, other actions may be taken to mitigate the risk and exposure.  Please contact me for assistance.

Amazon.com New York Case Still Open for Victory?

On November 4, 2010, the Appellate Division of the Supreme Court of New York issued an opinion regarding Amazon.com, LLC.  The Court held that the New York affiliate nexus law does not violate the Equal Protection Clause, and is facially constitutional under the Due Process and Commerce Clauses.  With that said, the court has remanded the case to further explore whether the New York law violates the Due Process and Commerce Clauses as applied to Amazon.com, LLC and Overstock.com.

The Sutherland law firm has released an informative Legal Alert regarding this matter.

THOUGHTS?
Whether or not Amazon.com will prove that they lack Due Process and/or Commerce Clause nexus is yet to be seen; however, the opportunity still exists.

As far as other Internet retailers are concerned, I think there is a problem with New York's rule (North Carolina and Rhode Island as well). The problem is: in general, Internet retailers DO NOT choose affiliates based on the location of the affiliates to target a specific state. In other words, just because an affiliate is in New York, does not mean that the affiliate helps the Internet retailer create, enhance, or sustain a market in New York. Internet sales, unlike mail order sales, are not directed at one state. This is assuming the New York affiliate does not engage in any e-mail marketing, etc. or direct marketing to New York customers, and ONLY has a link on its website.

Hence, a New York resident affiliate with a link on its site to the Internet retailer is essentially providing electronic advertising or solicitation (depending on the situation, etc.) to the entire market across the country, and not to customers in any individual state.

Therefore, if all of the facts line-up, it may be possible to prove that the in-state affiliate is not creating substantial nexus for the Internet retailer.

Just some food for thought.

Amnesty and Voluntary Disclosure Agreements: What, When, and Why?

Amnesty Programs

Over the past two years, approximately 20 to 25 states have held amnesty programs or periods.

What is an Amnesty Program? An amnesty program is generally a time period established by a state to allow taxpayers who are delinquent on their taxes to come forward, and pay those taxes without penalties being imposed. Usually interest is still imposed, but sometimes it may be waived as well. Each state amnesty program is different or unique; meaning, they each contain their own set of rules, guidelines and qualifications. Amnesty programs usually pertain to certain tax periods, specific tax types, and taxpayers who meet certain criteria. In other words, "look before you leap."

Taxpayers who are eligible for an amnesty program, but don’t take advantage of the program, are often faced with harsh penalties if caught after the program has ended.

Voluntary Disclosure Agreements

When amnesty programs are not in effect, most states still have what they call “Voluntary Disclosure Agreement” (VDA) programs which allow taxpayers to come forward on an anonymous basis, limit the number of prior years required to be filed (usually 4), and pay taxes and interest. Under most VDA programs, penalties are waived, but not interest.

Remember, a voluntary disclosure agreement is only able to be utilized if the state has not already contacted the taxpayer (in most cases). If the state contacts the taxpayer first, technically, the state can make the taxpayer file returns for all previous years in which the company had nexus in the state. However, generally, the state does not require returns to be filed for all previous years. The number of years a state will require depends on the facts of each case. In addition, unlike a voluntary disclosure, there is no relief for interest and penalties.
 
If you believe your company or your client may have had nexus in a state for several years and has not filed, please contact me to determine if a voluntary disclosure agreement makes sense.

Washington Publishes Economic Nexus Online Video Tutorial

As I have stated previously, in June 2010, Washington adopted “economic nexus” for businesses that report under apportionable business and occupation tax classifications. For these classifications, your business does not need to have a physical presence to have nexus and be subject to Washington tax.

With the adoption of economic nexus, Washington also changed the way businesses apportion their taxable income between Washington and other states and countries.

For more info, check out Washington's website where they have added an online video tutorial.

Arizona "Surveying" Internet Retailers?

Arizona appears to be sending "surveys" or "nexus questionnaires" to companies.  The notice says they are conducting a survey of companies who have web-based sales within Arizona. They are looking for "some definite link, some minimum connection." Those terms are related to the Due Process Clause of the U.S. Constitution. It is the minimal threshold a company has to meet in order to have nexus. With that said, Due Process Clause nexus is not enough. A company must have "substantial nexus" as provided by the Commerce Clause of the U.S. Constitution.

The Notice mentions Arizona Transaction Privilege Tax Ruling 08-1. That ruling was issued on July 30, 2008. The ruling walks through how Arizona would determine if a remote retailer has nexus in Arizona.

Remote retailers would have substantial nexus in Arizona if they enter the state for any reason (solicitation, customer assistance, etc.).  Internet retailers with affiliates in Arizona would also have nexus if the affiliates significantly assist the Internet retailer's ability to establish and maintain a market in Arizona. In the words of the Ruling, the affiliates must "enhance" the Internet retailer's Arizona sales.

If you or your client receives a similar notice from Arizona, please contact me for assistance in determining the appropriate response.

Multistate Tax Commission (MTC) Releases Draft Model Sales and Use Tax Notice and Reporting Act

I reported in an earlier post on August 9, 2010, that the Multistate Tax Commission (MTC) was in the beginning stages of creating a Model Sales and Use Tax Notice and Reporting statute which follows Colorado's and Oklahoma's recent legislation.

Now, the MTC has released a draft of the Model Act as they work their way through the process.  The draft Act includes annual notice requirements to purchasers and the state.  It also includes provisions for assessment of penalties for noncompliance.

The question remains as to whether these requirements are Constitutional.  However, as the MTC works through this process, I would not be surprised to see other states adopt legislation similar to Colorado's or Oklahoma's.

If you are a remote retailer and do not currently collect sales tax in multiple states, you may want to analyze your notice requirements and proactively prepare.

The Nexus Wars: Fighting in an Ever Changing Landscape

Just a reminder, I will be speaking about state tax "nexus" at the Minnesota CPA Society's annual tax conference on November 16, 2010. 

If you follow this blog and can make it to the conference, that would be great!  I would enjoy the opportunity to meet you in person. 

As a primer on some of the topics I will be discussing, here is a little tidbit on "nexus questionnaires."

What is a “Nexus Questionnaire”?

Nexus Questionnaires are forms produced by states that are sent to businesses not currently filing income tax or sales tax returns to obtain information concerning the out-of-state company's business activities and to determine whether those activities subject the company to nexus (generally, for income tax or sales tax).

After the taxpayer responds, the state may follow-up with further examination or simply conclude that the out-of-state company has nexus and should file returns.

Have you or your client ever received a nexus questionnaire? How do you fill it out?

Generally speaking, the questions that are asked on a nexus questionnaire can be quite broad; meaning, the question as stated may make a taxpayer think he/she should answer “yes.” However, a more accurate answer may be “yes, but” . . . . In other words, if a taxpayer answers “yes” to a question without providing further explanation, it is easier for a state to conclude the taxpayer has nexus. Further explanation may provide a solid basis for concluding the taxpayer does NOT have nexus.

Alternative to Answering Questionnaire

Instead of, or in addition to, filling out the questionnaire, a taxpayer is recommended to provide a response in a letter that more accurately describes the taxpayer's activities.