Document Number
04-20
Tax Type
BPOL Tax
Description
Blanket Purchase Agreement; Research and Development
Topic
Accounting Periods and Methods
Appropriateness of Audit Methodology
Date Issued
06-01-2004

June 2, 2004



Re: Appeal of Assessment: Final Local Determination
Taxpayer: *****
Locality Assessing Tax: *****
Business, Professional and Occupational License (BPOL) Tax

Dear **********:

This final state determination is issued upon the application for correction filed by
you on behalf of ********* (the "Taxpayer") with the Department of Taxation. You appeal a final local determination concerning a request for a partial refund of BPOL taxes paid in tax years 1998, 1999, 2000 and 2001 to the ********* (the "Town").

The local license tax and fee are imposed and administered by local officials. Code of Virginia § 58.1-3703.1(A)(5) authorizes the Department to issue determinations on taxpayer appeals of certain BPOL tax assessments. On appeal, a BPOL tax assessment is deemed prima facie correct. In other words, the local assessment will stand unless the taxpayer proves that it is incorrect.

The following determination is based on the facts presented to the Department as summarized below. This determination addresses the question of whether or not the Taxpayer is entitled to a partial refund of taxes assessed in tax years 1998, 1999, 2000 and 2001, in the total amount of *****.

Copies of the Code of Virginia sections, regulations and public documents cited are available on-line in the Tax Policy Library section of the Department of Taxation's web site, located at www.tax.state.va.us.
FACTS

The Taxpayer describes itself as a provider of information technology services that specializes in "enterprise financial management systems, enterprise network solutions, and software engineering and integration in meeting requirements for government budget software, education technology infrastructure, systems management and document management." It services clients from many sectors, but primarily federal defense agencies and public school systems.

The Taxpayer and the federal General Services Administration (GSA) entered into a contract, known as a "Blanket Purchase Agreement" (BPA), which sets forth the working arrangements the Taxpayer has with the federal government to provide products and services via federal supply schedules "to various programs within federal agencies with whom the Taxpayer has contracts." The Taxpayer also provides services and products to municipal agencies on a contract bid basis. The Taxpayer states that these contracts include the provision of computer hardware and software.

The Taxpayer represents that it enters into "bilateral contracts" with vendors in order to meet the specific requirements of the various contracts it has with individual government agencies. The Taxpayer purchases the products from the vendors and resells them to the governmental entities at a markup.

A portion of the Taxpayer's business conducted under its federal contracts is classified as research and development by the federal government. The Taxpayer contends that its business activity should be classified as research and development for purposes of the BPOL tax.

The Taxpayer filed amended returns that would result in a partial refund for BPOL taxes paid to the Town in tax years 1998, 1999, 2000 and 2001. The Taxpayer contends that it neglected to claim the deduction for certain receipts attributed to computer hardware and software sold to federal and state entities as provided in Va. Code § 58.1-3732(B)(1). The Taxpayer also made adjustments to the original tax imposed to reflect the special rate of three cents per $100 of gross receipts for its research and development activities, as provided for in Va. Code § 58.1-3706(D)(1).

In support of its refund request to the Town, the Taxpayer supplied a refund summary that segregated its aggregate gross receipts for each tax year in question into the categories of "consulting," "R&D Federal Contractor," and "Exempt COG" (cost of goods). Other documentation to support the refund request included a binder containing various requests for proposal (RFP), lists of costs of goods associated with various contracts and face pages of various contract awards.

The Town engaged an independent auditor to investigate the Taxpayer's claim, and upon reviewing the results of the audit, rejected the Taxpayer's request for a partial refund. The Town found that "while substantial documentation had been provided relating to the cost of goods, the documentation provided no specific information to computer hardware or software that [the Taxpayer] was contractually obligated to purchase as a part of an original contract obligation." [Emphasis in the original.] The Town found that the BPA authorizing the Taxpayer as a supplier to one governmental agency contains the disclaimer that the BPA "does not constitute the obligation of any funds." The disclaimer in this BPA further states, "the Government is obligated only to the individually specified orders issued under the context of this BPA." [Emphasis added.] The Taxpayer did not provide documentation of such orders as they pertained to the purchase of computer hardware and software for resale to governmental entities. The Town also found insufficient documentation to support the request to reclassify the Taxpayer's business activity as "research and development" subject to the special tax rate pursuant to Va. Code § 58.1-3706(D)(1).

The Taxpayer appeals the Town's denial of its request for refund.
ANALYSIS

Deductions and Special Limitations on Gross

The BPOL tax is a privilege tax, levied upon businesses, trades, professions, occupations and callings and upon the persons, firms and corporations for the privilege of doing business within a given jurisdiction. Generally, the tax is measured by gross receipts attributable to the exercise of a licensable privilege at a definite place of business. The term "gross receipts" is defined as "the whole, entire, total receipts, without deduction." See Va. Code § 58.1-3700.1. Virginia Code § 58.1-3732 provides certain deductions and exclusions from gross receipts. The deductions include:
    • Any amount paid for computer hardware and software that are sold to a United States federal or state government entity provided that such property was purchased within two years of the sale to said entity by the original purchaser who shall have been contractually obligated at the time of purchase to resell such property to a state or federal government entity. This deduction shall not occur until the time of resale and shall apply to only the original cost of the property and not to its resale price, and the deduction shall not apply to any of the tangible personal property which was the subject of the original resale contract if it is not resold to a state or federal government entity in accordance with the original contract obligation. Virginia Code § 58.1-3732(B)(1) [Emphasis added.]

The Taxpayer represents itself as providing customized turnkey solutions from "system design to actual hardware and software procurement and application development through ongoing system and maintenance support." The documentation the Taxpayer presented to the Town did not isolate the portion of its activity that involved the purchase and resale of computer hardware and software to governmental entities. The BPA the Taxpayer claims as its authorization to purchase computer hardware and software is not contract specific. Rather, it is a general agreement that the federal government enters into with various contractors that obviates the necessity of soliciting bids on every item in a contract. Entities that are parties to such agreements then may enter into various contracts for specific projects using the authorization provided in the BPA. The deduction available under Va. Code § 58.1­3732(B)(1) applies to individual contracts, not to blanket agreements. It is apparent from the various RFPs the Taxpayer submitted in support of its appeal that each contract specifies what is required of the contractor. The Taxpayer did not provide copies of the actual contracts substantiating its claim to either the local commissioner of the revenue or to the Department.

While it is clear that computer hardware and software were included in the various contracts, the Taxpayer has not segregated receipts from such items for identification as deductible for purposes of the BPOL tax. Moreover, in order to claim the deduction, a taxpayer may only deduct the original cost of the equipment. In this case, it is not evident that such items were sold to the government as a part of an original contract. The Taxpayer has presented copious documentation of "cost of goods," which it states represents the original cost of goods. The actual costs related to computer hardware and software, however, have not been clearly segregated for identification, nor have they been tied to evidence of a written contract agreement obligating the Taxpayer to purchase such goods. While the Taxpayer states that the listing represents the original cost of goods, it is not clear if the Taxpayer is claiming the deduction for the original cost of the equipment, rather than the price at which it sold the equipment to the government. A sample agreement between the Taxpayer and one of the vendors from whom it purchases the equipment specifically stipulates the markup that the Taxpayer receives in its sales of such equipment to the government.

Finally, under Va. Code § 58.1-3732(B)(1), the purchaser claiming the deduction must "have been contractually obligated at the time of purchase to resell such property to a state or federal government entity." Absent any documentation that clarifies this direct contractual obligation, I must concur with the finding of the Town in terms of the federal contracts.

Likewise, the Taxpayer has submitted no documentary evidence regarding the obligation to purchase computer hardware or software in its contracts with municipalities.1

Moreover, the RFP from one jurisdiction defines the scope of the RFP as seeking offers to provide "value-added computer repair and maintenance support and desktop support services to include hardware and software installations, moves, adds, and changes as well as project-specific desktop support of personal computers, associated peripherals and communications equipment." While a sample bid refers to the status of any property purchased under the contract as belonging to the client upon completion of the contract, no clear segregation of such equipment from lists delineating "cost of goods" has been presented in the Taxpayer's appeal.

The Virginia Supreme Court has held that a tax assessment made by the proper authorities is presumed to be correct and it is the taxpayer's burden to prove that the assessment is erroneous. See County of Henrico v. Management Recruiters of Richmond, Inc., 221 Va. 1004, 1010 (1981). In this case, I find that the evidence presented is not sufficient to support the Taxpayer's refund request based on the deduction under Va. Code § 58.1-3732(B)(1).

Research and Development.

Virginia Code § 58.1-3706 provides a general classification scheme for the BPOL tax, with attendant maximum tax rates in four major categories: contracting; retail sales; financial real estate and professional services; and repair, personal and business services and all other services not specifically listed or excepted. Virginia Code § 58.1­3706(D)(1) establishes a special classification for certain research and development activities:
    • Any person, firm, or corporation designated as the principal or prime contractor receiving identifiable federal appropriations for research and development services as defined in § 31.205-18(a) of the Federal Acquisition Regulation in the areas of (i) computer and electronic systems, (ii) computer software, (iii) applied sciences, (iv) economic and social sciences, and (v) electronic and physical sciences shall be subject to a license tax rate not to exceed three cents per $100 of such federal funds received in payment of such contracts upon documentation provided by such person, firm or corporation to the local commissioner of revenue or finance officer confirming the applicability of this subsection. [Emphasis added.]

Section 31.205-18(a) is the definition section of the Federal Acquisition Regulation (FAR) titled "Independent Research and Development and Bid and Proposal costs." This section defines research and development services as including: (1) basic research, (2) applied research, (3) development, and (4) systems and other formulation concept studies.
    • "Applied research" means attempts to determine and exploit the potential of scientific discoveries or improvements in technology, materials, processes, methods, devices, or techniques, and attempts to advance the state of the art.
    • "Development" means the systematic use, under whatever name, of scientific and technical knowledge in the design, development, test, or evaluation of a potential new product or service (or of an improvement in an existing product or service) for the purpose of meeting specific performance requirements or objectives.
    • "Systems and other concept formulation studies" means analyses and study efforts either related to specific R&D efforts or directed toward identifying desirable new systems, equipment or components, or modifications and improvements to existing systems, equipment, or components.

It is clear from the description of the Taxpayer's business that it is involved in research and development activities that meet the criteria for the special BPOL classification subject to a gross receipts tax of three cents per $100, as provided in Va. Code § 58.1-3706(D)(1). What is not clear from the Taxpayer's documentation is the percentage of its activities that is eligible for this tax rate. In fact, the Taxpayer states that some of its "federal work contains no R&D whatsoever and should continue being taxed at the rate of $0.22 per $100.00."

Virginia Code § 58.1-3706(D)(1) is quite specific requiring that the Taxpayer provide the local assessing officer with "identifiable federal appropriations for research and development services as defined in § 31.205-18(a) of the Federal Acquisition Regulation" in order to qualify for this special BPOL tax rate. Based on a review of the documentation presented in the Taxpayer's initial appeal to the Town and its subsequent appeal to the Tax Commissioner, the Taxpayer has failed to provide either party with the "identifiable appropriations" that would qualify its research and development contracts for the special classification provided in Va. Code § 58.1­3706(D)(1). Instead, the Taxpayer provided a sample page from the U.S. Budget Appendix that pertained to an unrelated agency, various RFP's that included activities other than R&D, face sheets of contracts identifying the Taxpayer as prime contractor, and summary sheets of R&D monies that did not provide the link to specific contracts, awards and extensions. Again, in an appeal of an assessment, it is incumbent upon the Taxpayer to provide clear evidence of error. Without such evidence, the assessment is presumed correct.
DETERMINATION

From the evidence provided, it is clear that the Taxpayer is providing information services to both federal and state entities. As such, the Town has appropriately classified the Taxpayer as a business service.

The Taxpayer has argued that portions of its contracts with federal and state entities involve the sale of computer hardware and software to governmental entities and, therefore, such sales should be deducted from its gross receipts. Based on the evidence provided, and for the reasons noted above, I find that the Town was correct in denying the Taxpayer the deduction pursuant to Va. Code § 58.1-3732(B)(1) for computer hardware and software sold to government entities. I am, however, returning this appeal to the Town with instructions to the Taxpayer to furnish the Town with substantiation regarding federal and municipal contracts obligating the Taxpayer to purchase specific computer hardware and software. The Taxpayer must tie records indicating that the hardware or software was purchased within two years of its sale to the federal or municipal government. Furthermore, the deduction may only be taken for the original cost of the equipment, not its resale price; therefore, this evidence also needs to be supplied. Finally, because several tax years are in dispute, and the deduction may only be applied to the tax year in which the equipment was sold to the governmental entity, this too needs to be substantiated. In summary, such substantiation must include:
    • 1. Individual contracts specifically obligating the Taxpayer to purchase the exempt computer equipment, the original cost of such equipment and the date of purchase by the governmental entity. These items must be separately lined out and separately aggregated from other terms of the contract.
      2. A summary of the original purchases by contract, and by year of governmental purchase so the deduction can be attributed to the proper year for BPOL tax purposes.
      3. A summary sheet similar to that initially provided by the Taxpayer, aggregating the original costs of qualifying materials in each contract by year. (This summary sheet would be substantiated by items (1) and (2).

Some of the Taxpayer's activities meet the federal definition of "research and development" as set forth in FAR § 31.205-18(a). These activities should be taxed at the BPOL tax rate of three cents per $100, if the Taxpayer received qualified funding from the federal government. It is incumbent upon the Taxpayer to furnish the Town with documentation substantiating any qualified funding received from the federal government for its research and development activity and to segregate such funding from other gross receipts. Such evidence must be provided for each contract and each tax year in dispute. The method of assembling this information for the Town should be similar to that outlined above.

I am also returning this portion of the appeal to the Town with instructions to the Taxpayer to furnish the Town with substantiation of funding appropriated for its research and development activities for the federal government as defined in FAR § 31.205­18(a). Such activities must be exclusive of the general business services the Taxpayer provides to the federal government in the areas of procurement and other support activities.

If the Taxpayer is unable to furnish the Town with the required information within 45 days from the date of this letter in a format that can substantiate its request for a partial refund pursuant to the provisions of Va. Code §§ 58.1-3732(B)(1) and 58.1­3706(D)(1), the Town's final local determination stands.

If you have any questions regarding this determination, you may contact ********** in the Department's Office of Policy and Administration, Appeals and Rulings, at ***********.

                • Sincerely,


                • Kenneth W. Thorson
                  Tax Commissioner

AR/46398H

1A question has arisen as to whether a municipal jurisdiction comes under the umbrella of a "state entity" for purposes of Va. Code § 58.1-3732(B)(1). In Public Document (P.D) 00-131 (07/07/00), the Tax Commissioner found: "in Article X § 6 [of the Virginia Constitution], the Commonwealth and 'political subdivisions thereof' are treated in the same fashion, as they are elsewhere in the Code. Therefore it is apparent that unless otherwise specified, 'state governmental entities,’ do include political subdivisions."


Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46