Ohio: Governor Kasich signs executive order simplifying sales tax system
On July 9, 2013, Ohio Governor John Kasich signed Executive Order 2013-09K, which directed the state tax commissioner to apply for full membership in the Streamlined Sales and Use Tax Project (SSUTP). The SSUTP was created in 1999 by the National Governor’s Association and the National Conference of State Legislatures to simplify sales tax collection across state lines and to encourage “remote sellers” to collect and remit state sales taxes.
Since October of 2005, Ohio has had a more limited associate membership in the SSUTP because Ohio’s origin sourcing rules for interstate sales were in conflict with the rules provided by the Streamlined Sales and Use Tax Agreement (SSUTA). Recently, the SSUTA was amended to eliminate this conflict and make it possible for more states to become full members in the SSUTP.
In addition, under the proposed Marketplace Fairness Act being considered by Congress, states that have adopted the SSUTA may require all sellers to collect and remit sales and use taxes with respect to remote sales made to such state’s residents, provided the SSUTA includes certain minimum sales tax simplification requirements. Ohio’s full membership in the SSUTP should put Ohio in a position to collect Ohio sales taxes from such remote sellers if the Marketplace Fairness Act is passed by Congress. Nonetheless, Governor Kasich recently vetoed an item in the state budget that would have required out-of-state online sellers to collect sales tax from Ohio residents, preferring to wait to take such action when Congress passes the Marketplace Fairness Act or similar legislation.
Click here for the text of Executive Order 2013-09K.
Massachusetts: Parent/sub reverse-nexus sham transaction sniffed out by State Tax Board
In a recent decision issued by the Massachusetts Appellate Tax Board (the Board), it found that a parent corporation’s attempt to establish reverse nexus to Massachusetts through its subsidiary operating in Massachusetts was a sham transaction. Reverse nexus occurs where a parent company establishes nexus in a given state by creating the necessary presence in a state through interaction with its subsidiaries. Massachusetts recognizes the “sham transaction doctrine,” which gives the commissioner the authority “to disregard, for taxing purposes, transactions that have no economic substance or business purpose other than tax avoidance.”
In the decision, the parent company was an international conglomerate that owned hundreds of subsidiary companies. The taxpayer at issue was a subsidiary company of the parent that was the principal reporting corporation for a combined group of affiliated corporations. Each affiliated corporation in the group was also a subsidiary of the parent company. The group and its affiliated corporations, conducted business in Massachusetts. On the other hand, the parent company was based out of England. The parent wanted to offset its corporate losses by establishing a presence in Massachusetts via its subsidiary companies operating in Massachusetts. Accordingly, the parent company formulated a tax plan that would create a physical existence for the parent in Massachusetts. After extensive review of the tax plan, the Board ruled that the parent’s activities constituted a sham transaction that was motivated solely for tax avoidance and served no legitimate economic or business purpose. Thus, the parent did not have sufficient nexus with Massachusetts to be included in the subsidiary’s tax returns.
The Board’s review of several of the parent’s internal communications revealed the company’s “state tax planning project.” The Board expressed general concern with certain statements made in the company’s internal memos including a statement that the “state tax planning project” was “intended to have tax ramifications only” and the motivation behind the plan was to have the tax liability “reduced to nil.”
The core of the companies’ “state tax planning project” was to:
- Sublease office space from the subsidiary to the parent company;
- Transfer employees to create an in-state payroll for the parent;
- Have the parent purchase office furniture and equipment to be used in the leased space; and
- Have the parent charge the subsidiary company annual “administrative service fees.”
These documents and the resulting plan executed by the companies were scrutinized by the Board and ultimately the Board found several red flags indicating ulterior motives for the tax relief.
Examples of these “red flags” include:
- The lease: The lease was backdated and made no provisions for the employees’ work spaces. In addition, the lease payments fluctuated dramatically from $280,000 in the first year, to $24,000 in the second year, and $7,480 for the third year. After the initial three years, there were no renewals or additional payments.
- The employees: The employees continued to receive W-2s from the subsidiary and their payroll information indicated they were still paid by the subsidiary company.
- The office furniture and equipment: The office furniture did not change and even office locations of the parent’s new “employees” did not change with their transfer to working for the parent.
- The administrative service fees: These fees were sourced inconsistently with respect to other charges. The Board determined that this inconsistent treatment of the charges indicated they were completely tax driven and seemed to be just large enough each time to import the parent’s significant losses to the subsidiary.
The Board heatedly closed the opinion by stating that the memorandum reported the company’s “concern was merely to ‘get our foot in the door’ days before the end of the tax year and not be concerned with ‘refin[ing] the position’ with the actual details until the next fiscal year. Yet as the facts indicated, many of those details never materialized.”
This case was a perfect storm of bad facts making for a fairly easy determination that the transaction was a sham. However, the case also exemplifies the necessity for companies acting with tax relief motivations to tread carefully, plan in advance and ensure the transaction structure has economic substance. The sham transaction doctrine has been utilized by states with increasing frequency. Legitimate reorganizations that have economic substance ought to be respected, even if there are tax motivations. However, cases like this are textbook examples of the use of improper tax planning techniques.
Click here to read the Massachusetts Tax Board’s decision.
Minnesota: Amazon exits after passage of E-Fairness legislation
In the wake of the recent signing of Minnesota’s E-Fairness legislation by Governor Mark Dayton, Amazon.com recently announced that it was severing its ties with affiliates in Minnesota now that the state requires out-of-state businesses with affiliates in Minnesota to collect and remit sales taxes to the state. These affiliates, which were typically Minnesota bloggers, were paid by Amazon for any sales that clicked through the affiliate’s website to Amazon. Now, many of these affiliates will lose revenue or potentially go out of business because of Amazon’s departure. The law applies to sales and purchases made after June 30, 2013.
Many states have either passed or are considering passing laws like the one in Minnesota in an attempt to require out-of-state retailers to collect and remit to the state sales taxes. More of these moves are likely in the future for Amazon and for Amazon-type companies as states continue to pass bills requiring online retailers to collect and remit state sales taxes. Amazon has already taken similar action in states such as California, North Carolina, Colorado, and others because of legislation much like the Minnesota E-Fairness law.
According to Amazon, its biggest issue with these state laws is not the actual requirement to collect and remit sales taxes, but rather the different procedures each state may require for collecting and remitting sales taxes. Hoping to have uniform standards for collecting and remitting sales taxes across all states, Amazon has joined the call on Congress to pass the Marketplace Fairness Act. The Marketplace Fairness Act would enable states to require retailers, unless exempted, to collect and remit sales taxes for each state that they sell merchandise in. However, the Marketplace Fairness Act would require uniformity in the enabling states law, making collection and remission simpler for companies like Amazon. It is assumed that with the ability of states to require online retailers to collect and remit sales taxes to them, tax revenue will increase.
In Minnesota’s case, the Performance Marketing Association (PMA), a trade group that represents internet retailer affiliates, stated that the Minnesota bill will actually lose the state tax revenue rather than increase it. According to the PMA, this is based on the estimated 5,200 to 5,300 Amazon affiliates in Minnesota that pay around $35 million in state income taxes each year that will now likely stop functioning and pay nothing. Assuming Minnesota does not lose tax revenue because of the bill, the state’s Department of Revenue believes Minnesota will only collect another $5 million in tax revenue each year. Regardless of the immediate tax consequences, the passage of the bill is being considered a clear sign from Minnesota that they want Congress to pass the Marketplace Fairness Act to ensure states can collect sales taxes from out-of-state businesses.
More businesses, other than Amazon, may be affected by Minnesota’s new method of determining who is subject to its sales tax. This may agitate online retailers who do not want to undertake the administrative burdens of complying with varying sales tax laws, potentially leading them to avoid doing business in specific states. However, at the same time, this may help brick and mortar retailers who view laws of this type as “leveling the playing field,” since they are already required to collect sales taxes. Regardless, the impact on Minnesota affiliates is clear, as some have commented that they will lose out on at least hundreds of dollars a month because of Amazon’s departure from the state.
Click here to read the full text of Minnesota’s E-Fairness law.
For additional information regarding these subjects or any other multistate tax issues, please contact:
David M. Kall
Susan Millradt McGlone
Jeremy J. Schirra
Businesses must be vigilant and careful in managing their state and local tax liabilities and exposures. We understand this can be a daunting task. McDonald Hopkins Multistate Tax Services provides a broad range of state and local tax services including tax controversy, tax evaluation, tax planning, and tax policy. With professionals who have worked both inside and outside government agencies, our multistate tax team leverages its knowledge and experience to help clients control their complex multistate taxes.