Tax Type
BPOL Tax
Description
Taxpayer's contract meets the FAR definitions of IR&D
Topic
Clarification
Local Taxes Discussion
Date Issued
05-16-2005
May 16, 2005
Re: Appeal of Assessment: Final- Local Determination
Taxpayer: *****
Locality Assessing Tax: *****
Business, Professional and Occupational License 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 upholding an audit assessment of Business, Professional and Occupational License ("BPOL") taxes made by the Commissioner of Revenue for the ***** (the "City") for tax years 2002 and 2003.
The following determination is based on the facts presented to the Department as summarized below. The Code of Virginia sections, regulations and public documents cited are available on-line in the Tax Policy Library section of the Department's web site, located at www.tax.virginia.gov.
FACTS
The Taxpayer is a multistate provider of electronic engineering and research services to government, private and international entities. While the Taxpayer's corporate headquarters are in ***** ("State A"), it provides most of its services at customer locations. The Taxpayer manages and controls its operations from offices in several states, including ***** ("State B"), ***** ("State C"). These offices include laboratories and test facilities that "reflect state-of-the-art technology and mirror both commercial and defense operational environments." You represent that the Taxpayer's primary business in the City is "providing applied research and development services to the U.S. government" as a defense contractor.
The Taxpayer opened an office in the City in September 2002. You state that this office performed administrative functions in preparation for a shift of some contract management functions from States B and C to the City in June 2003. You indicate that prior to June 2003, the Taxpayer's contracts with entities in the City were directed and controlled from its offices in State B and State C.
The City classified the Taxpayer as a commercial service and assessed the Taxpayer as such for purposes of the BPOL tax in tax years 2002 and 2003. The Taxpayer appeals the assessment on three grounds:
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- 1. The Taxpayer contends that because its business was directed and controlled from its offices in State B and State C during all of tax year 2002 and through May 31 of tax year 2003, it was not subject to the City's BPOL tax during that period.
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- 2. The Taxpayer also contends that its proper classification should be a provider of research and development services under the provisions of Va. Code § 58.1-3706 D, rather than a commercial service.
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- 3. In its final local determination, the City states that a qualified federal appropriation must be associated with a specific research unit in the federal government. The Taxpayer disagrees and maintains the funding it receives satisfies the standard established in Va. Code § 58.1-3706 D.
- 3. In its final local determination, the City states that a qualified federal appropriation must be associated with a specific research unit in the federal government. The Taxpayer disagrees and maintains the funding it receives satisfies the standard established in Va. Code § 58.1-3706 D.
ANALYSIS
Situs and Definite Place of Business
The BPOL tax is a local option tax that may be imposed by jurisdictions on "businesses, trades, professions, occupations and callings and upon the persons, firms and corporations engaged therein within the county, city or town . . . ." See Va. Code § 58.1-3703. [Emphasis added.] It is a business's situs and business activity within a given jurisdiction that give rise to local BPOL tax liability. Furthermore, Va. Code § 58.1-3703.1 A 3 a provides that whenever the license tax is measured by gross receipts, "the gross receipts included in the taxable measure shall be only those gross receipts attributed to the exercise of a privilege subject to licensure at a definite place of business within [the] jurisdiction." A definite pace of business is defined in Va. Code § 58.1-3700.1 as "an office or a location at which occurs a regular and continuous course of dealing for thirty consecutive days or more."
The general rule for determining situs of taxpayers engaged in business and personal services, including research, is found in Va. Code § 58.1-3703.1 A 3 a (4):
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- The gross receipts from the performance of services shall be attributed to the definite place of business at which the services are performed or, if not performed at any definite place of business, then to the definite place of business from which the services are directed or controlled.
Offices provided to the Taxpayer by its client may constitute a definite place of business for the Taxpayer. As noted in Public Document (P.D.) 99-236 (8/16/1999), "A definite place of business for a person engaged in business may include a location leased or otherwise obtained from another person on a temporary or seasonal basis and real property leased to another."
The determination of whether a taxpayer has a definite place of business in a locality is dependent on the facts and circumstances of each case. Factors indicating that an entity has a definite place of business in a locality include the maintenance of a business phone, a phone directory listing, a mailing address, facilities for meeting with customers and retention of business records at a place in the locality. See P.D. 98-204 (12/7/1998). In the present case, the Taxpayer clearly established a definite place of business in September 2002, when it opened an office in the City. As such, it was required to purchase a business license for tax years 2002 and 2003. From the facts provided, it is possible that the Taxpayer's presence in the City prior to the establishment of the office in September 2002 constituted a definite place of business. This is a determination that must be made by the local commissioner of the revenue.
Research and Development
The Taxpayer also contends that it should be classified as a provider of research and development services under the provisions of Va. Code § 58.1-3706 D 1 and assessed accordingly. Virginia Code § 58.1-3706 provides a general classification system 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 § 58.1-3706 D 1 establishes a special classification for certain research and development activities:
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- 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.]
The language in the City ***** Code § 18-100.2 (hereinafter, "the City ordinance"), offering a special classification and license tax rate to those entities receiving federal appropriations for research and development services as defined in the Federal Acquisition Regulation ("FAR") § 31.205-18(a), is identical to that in Va. Code § 58.1-3706 D 1.
Section 31.205-18(a) is the definition section of the FAR titled "Independent Research and Development ("IR&D") and Bid and Proposal costs." This section defines independent research and development as "a contractors IR&D cost that consists of projects falling within the four following areas: (1) basic research, (2) applied research, (3) development, and (4) systems and other concept formulation studies." Relevant to the case at hand are the following definitions of these terms:
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- "Basic research" means that research directed toward increasing knowledge in science. The primary aim of basic research is a fuller knowledge or understanding of the subject under study, rather than any practical application of that knowledge. See FAR § 2.101.
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- "Applied research" means that effort which (1) normally follows basic research, but may not be severable from the related basic research, (2) attempts to determine and exploit the potential of scientific discoveries or improvements in technology, materials, processes, methods, devices, or techniques, and (3) attempts to advance the state of the art. Applied research does not include efforts whose principal aim is design, development, or test of specific items or services to be considered for sale; these efforts are within the definition of the term "development," defined in this subsection.
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- "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. Development includes the functions of design engineering, prototyping, and engineering testing. Development excludes
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(1) Subcontracted technical effort which is for the sole purpose of developing an additional source for an existing product, or
(2) Development effort for manufacturing or production materials, systems, processes, methods, equipment, tools, and techniques not intended for sale.
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- "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. Development includes the functions of design engineering, prototyping, and engineering testing. Development excludes
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- "Systems and other concept formulation studies" means analyses and study efforts either related to specific IR&D efforts or directed toward identifying desirable new systems, equipment or components, or modifications and improvements to existing systems, equipment, or components.
In denying the Taxpayer the special classification in Va. Code § 58.1-3706 D 1, the City noted, "although some of the functions that are relevant in the processes of research and development may be accomplished by [the Taxpayer], their main purpose involves engineering, technical, logistical, and program management services necessary to support government functions." The City contends that because the Taxpayer is not engaged in basic research or development as defined in FAR § 31.20518(a), the special classification provided in Va. Code § 58.1-3706 D 1 and in the City ordinance does not apply to the Taxpayer. FAR § 31.205-18(a), however, clearly includes all of the above defined aspects of research and development, with the two exceptions isolated under the definition of "Development," as "allowable costs" to be included in federal contracts.
It is clear from the evidence provided that the Taxpayer is involved in applied research and systems 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 § 58.13706 D 1 and in the City's ordinance. The Taxpayer is engaged in both applied research and "systems and other concept formulation studies," as a prime contractor for the federal government. The Taxpayer's research "attempts to determine and exploit the potential of scientific discoveries or improvements in technology, materials, processes, methods, devices, or techniques . . . ." Finally, the principal efforts of the Taxpayer's research are not directed toward the creation of products to be considered for sale.
Funding
In order to qualify for the special classification, a taxpayer must provide the local assessing official with documentation of the fact that it is "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." It is incumbent upon the Taxpayer to furnish the City with documentation substantiating any qualified funding received from the federal government for its research and development activity as the prime or principal contractor and to segregate such funding from other gross receipts. Such evidence must be provided for each contract and each tax year at issue. See P.D. 04-20 (6/1/2004) for further discussion.
The City maintains that because the monies received by the Taxpayer were not appropriated through federal research agencies, they did not qualify for the special BPOL tax treatment in Va. Code § 58.1-3706 D 1. This section does not specify the agencies from which such appropriations must be made. It merely states that the monies must be "identifiable federal appropriations for research and development services . . . ." As long as the Taxpayer's contract meets the FAR definitions of IR&D and receives funding from identifiable federal appropriations for research, these monies are subject to the special classification and tax rate in Va. Code § 58.1-3706 D 1.
DETERMINATION
The Taxpayer clearly established situs in the City with the opening of its office in the City in September 2002, and was therefore liable for the BPOL tax during license tax years 2002 and 2003. Whether the activities of the Taxpayer in the City prior to the establishment of the office were licensable is a matter to be decided by the local commissioner of the revenue.
The City erred in stating that the Taxpayer must be engaged in basic research in order to qualify for the special treatment as a primary contractor as defined in FAR § 31.205-18(a). All costs associated with basic research, applied research, development, and systems and other concept formulation studies fall under the definition of "independent research and development." For BPOL tax purposes, to the extent that these activities are funded by identifiable federal appropriations, they fall under the special classification provided in Va. Code § 58.1-3706 D 1.
I am returning this matter to the City for a reconsideration of the Taxpayer's classification under the provisions of Va. Code § 58.1-3706 D 1. The Taxpayer clearly is engaged in the business of research. The question that must be addressed is whether its research activities are supported by clearly identified federal funds appropriated for the research. These appropriations may come from any federal agency's budget.
If you have any questions regarding this determination, you may contact ***** in the Department's Office of Policy and Administration, Appeals and Rulings, at *****.
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- Sincerely,
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Kenneth W. Thorson
Tax Commissioner
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AR/51975H
Rulings of the Tax Commissioner