Tax Type
Corporation Income Tax
Description
Remote seller-related entity has retail stores in Virginia
Topic
Nexus
Taxable Transactions
Date Issued
09-11-2008
September 11, 2008
Re: Request for Ruling: Corporate Income Tax
Dear *****:
This will reply to your letter in which you request a ruling concerning corporate income tax nexus on behalf of your client (the "Taxpayer").
FACTS
The Taxpayer, a corporation headquartered outside Virginia, makes sales into Virginia through mail order and via the Internet. The Taxpayer does not have property or employees in Virginia. Orders are received and approved or rejected outside Virginia. The Taxpayer is currently registered to collect and remit Virginia sales and use tax.
The products are shipped to customers via common carrier or third party contract carriers. The contract carriers are independent contractors that make deliveries for multiple principals. When delivering goods for the Taxpayer, the contract carriers may, in some cases, unpack a purchased item at a customer's home, provide minor set up, inspect the product, and remove packing materials.
The Taxpayer is related to an entity (Stores), a corporation headquartered outside Virginia, that has retail stores located in Virginia that sell many of the same products as the Taxpayer. On occasion, as a service to Stores' customers, a retail store may allow returns of items purchased from the Taxpayer. The Taxpayer's website does not advertise that returns are accepted at retail stores, and instead instructs them to ship such merchandise directly to its distribution center located outside Virginia.
Based on the facts presented, the Taxpayer requests a ruling that it does not have nexus with Virginia for purposes of corporate income tax.
RULING
Virginia Code § 58.1-400 imposes income tax "on the Virginia taxable income for each taxable year of every corporation organized under the laws of the Commonwealth and every foreign corporation having income from Virginia sources." Generally, a corporation will have income from Virginia sources if there is sufficient business activity within Virginia to make any one or more of the applicable apportionment factors positive. The existence of positive Virginia apportionment factors clearly establishes income from Virginia sources.
Public Law (P.L.) 86-272, codified at 15 U.S.C. §§ 381-384, however, prohibits a state from imposing a net income tax where the only contacts with a state are a narrowly defined set of activities constituting solicitation of orders for sales of tangible personal property. The Department limits the scope of P.L. 86-272 to only those activities that constitute solicitation, are ancillary to solicitation, or are de minimis in nature. See Wisconsin Department of Revenue v. William Wrigley, Jr., Co., 505 U.S. 214 (1992).
Delivery
In Commonwealth v. National Private Truck Council, 253 Va. 74, 480 S.E.2d 500 (1997), the Virginia Supreme Court (the "Court") overturned the Department's policy that deliveries into Virginia using one's own trucks exceeded the protection afforded by P. L. 86272. The Court held that Congress did not identify any manner of delivery to qualify for immunity under P.L. 86-272. Because P.L. 86-272 does not specify common carrier, contract or private carrier, or any other particular method of delivery to qualify for protection, the Court ruled that Virginia could not add qualifications or conditions for immunity from state taxation. The Court conceded, however, that the term "delivery" could be "disputed in a particular factual situation." See National Private Truck, 253 Va. at 77.
In the instant case, delivery services are provided by unrelated third party contract carriers. The Taxpayer asserts that these unrelated contract carriers are independent contractors that provide similar services to other unrelated entities. As such, the Taxpayer believes that the activities conducted by the contract carriers would not create corporate income tax for the Taxpayer.
15 U.S.C. § 381 (c) prohibits the taxation of a corporation if an independent contractor's "activities on behalf of such person in such state consist solely of making sales, or soliciting orders for sales of tangible personal property." If an independent contractor represents more than one principal, and holds himself out as such, he can "make" a sale (solicit and accept an order) and maintain an office in the state without subjecting his principal to tax. With these two exceptions, any activities conducted by the independent contractor on behalf of the principal (in other words, as an agent with the capacity to act for the principal) will subject the principal to taxation in the state to the same extent as if the activity had been conducted by an employee of the principal. See Public Document (P.D.) 92-177 (9/10/1992).
In this case, the delivery companies unpack merchandise, provide minor setup services, inspect purchased property for quality and damage, and remove packaging materials. Depending on the manner in which these activities are carried out, they could be considered to go beyond the making of sales in Virginia. For example, consideration would have to given to whether unpacking and setting up the product is necessary to complete the sale, the complexity of the set up procedures, the extent of the inspection process, and the ability of the customer to dispose of the packing materials. Consideration may also be given to rates charged by the contract carriers for deliveries, including product set up versus rates for delivery only. If the activities of the contract carriers go beyond the making of sales, such activities could exceed the protection afforded the Taxpayer under P.L. 86272.
Merchandise Returns
The Taxpayer believes that it should not have Virginia corporate income tax nexus based on the activities of Stores. Stores operates retail stores and its activities are separate from the Taxpayer. The two entities are managed separately, each having their own employees, and operating under distinct distribution and marketing strategies.
The Taxpayer cites a number of court cases in other states that have held that activities of affiliates do not create substantial nexus for sales and use tax purposes. Further, the Taxpayer believes its facts are distinguishable from the taxpayer in Reader's Digest Ass'n, Inc. v. Franchise Tax Board., 94 CaI.App.4th 1240, 115 CaI.Rptr.2d 53 (2001), in which the California Court of Appeals ruled that Reader's Digest had nexus for income tax purposes as a result of continuous solicitation activities performed by a wholly owned subsidiary. The case essentially hinged on whether the Reader's Digest's subsidiary was an independent contractor.
15 U.S.C. § 381(d)(1) sets forth a three-part test, all three of which must be met, in order for an agent to be considered an independent contractor. The agent must (1) represent two or more principals, (2) be in fact independent from the principals, and (3) hold himself out to the general public as such.
In this case, the Taxpayer's relationship with Stores is such that there is direct or indirect common ownership so that the two entities are included in the same corporate family. Under such circumstances, the issue then becomes whether the agent (Stores) is "independent" from the principal (the Taxpayer) it represents.
The few courts and administrative bodies that have considered the P.L. 86-272 definition have looked to the common law definition of an independent contractor. The Oregon Supreme Court applied the common law definition in a case involving an Indiana manufacturer's use of an Oregon corporation's salesmen in the state as they related to Oregon's authority to assess income tax pursuant to P.L. 86-272. See Herff Jones Co. v. State Tax Commission, 247 Ore. 404 (1967).
Although the courts in Virginia have not applied the common law definition in a case involving P.L. 86-272, Virginia courts have ascribed to the common law definition in a number of cases. In its analysis as, to what is an independent contractor, the Court stated, "It is not the actual exercise of control, but the right to control - that is to say, the potential power of control. . ." See The Texas Company, et al, v. M. Ziegler. Administrator. Etc., 177 Va. 557, 14 S.E.2d 704 (1941). The Court found that a corporation's right to control may be determined by a necessity of obedience to orders or instructions, if given. In this case, the Court determined that a corporation's distributor (an unrelated corporation) was not an independent contractor. Thus, according to the Court, the mere potential of an entity to control an agent disqualifies the agent as an independent contractor even if the agent is an unrelated corporation. In a case where a corporation is performing services for a related entity, there is a strong presumption that the right or potential of control is present at minimum, and that actual control in all likelihood exists as well.
Although the Taxpayer does not directly perform activities that would exceed the protections afforded by P.L. 86-272, the facts presented indicate Stores does accept returns of merchandise from customers who purchase items through mail order or over the Internet. Under the policy, as described by the Taxpayer, Stores will accept returns from unrelated parties as well as the Taxpayer so long as the returned merchandise is carried by the retail store. When merchandise sold by the Taxpayer, but not carried by Stores, is returned to a retail store, such merchandise is sent to the Taxpayer's customer service center located outside Virginia where a refund is issued by the Taxpayer.
According to the Taxpayer, Stores' return policy is aimed at ingratiating Stores' customers and maximizing customer satisfaction. The Department finds Stores arrangement with the Taxpayer to be consistent with many retail sellers that sell both through mail order or Internet businesses, and brick and mortar locations. Such polices do not just benefit the brick and mortar stores, however, as customers regard for the mail order or Internet seller is also enhanced by the availability of a place to return merchandise locally. Thus, the Taxpayer benefits from Stores policy even if its website does not advertise that merchandise may be returned to Stores' locations.
In addition, Stores provides an additional service not provided to unrelated third parties. Stores provides a local shipping point for the Taxpayer's returned merchandise not carried in the retail store. Stores does not provide similar services to unrelated third parties. Again, this is typical of brick and mortar stores where more services are provided to related entities than unrelated third parties.
The Department has typically found that such internal business policies and accounting practices are a function of a corporate family of businesses acting in its own best interest and the desirability of portraying the public image of a seamless entity. The Taxpayer has provided no information to refute the Taxpayers' potential to control the activities of the Stores. As such, I conclude that Stores' return policy, when conducted in Virginia on behalf of the Taxpayer, would exceed the protection of P.L. 86-272.
De minimis exception
Notwithstanding the above analysis, Title 23 of the Virginia Administrative Code (VAC) 10-120-90 G exempts activities that are de minimis in nature. Under this regulation, consideration is given to the nature, continuity, frequency and regularity of the unprotected activities in Virginia, compared to the nature, continuity, frequency and regularity of such activities outside Virginia. Pursuant to Wrigley, all nonancillary activities are examined to determine if, when considered together, they create more than a de minimis connection to Virginia. Without a full examination of the activities conducted in Virginia by Stores or the third party contract carriers, a determination cannot be made as to whether such activities discussed in the preceding sections would be a de minimis connection with Virginia.
This ruling is based on the facts presented as summarized above. Any change in facts or the introduction of new facts may lead to a different result.
The Code of Virginia section and public document cited are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions regarding this ruling, you may contact ***** in the Office of Tax Policy, Appeals and Rulings, at *****.
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- Sincerely,
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- Janie E. Bowen
Tax Commissioner
- Janie E. Bowen
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AR/1-2271562441.o
Rulings of the Tax Commissioner