10-150 | Virginia Tax

Tax Type

Communications Sales and Use Tax

Retail Sales and Use Tax

Description

Use of the true object test to determine the application of the retail sales and use tax.

Topic

Appropriateness of Audit Methodology

Collection of Tax

Date Issued

07-28-2010

July 28, 2010

Re: § 58.1-1821 Application: Retail Sales and Use Tax

Dear *****:

This is in response to your letter submitted on behalf of ***** (the "Taxpayer") in which you seek correction of the retail sales and use tax assessment issued for the period November 2005 through June 2007. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayer is in the business of providing non-residential communication services to business clients. The Taxpayer's services include voice, frame relay data, fax, access to the Internet and Voice Over Internet Protocol (VOIP). The Taxpayer contests the assessment of tax on its purchases of customer premises equipment (the "equipment") used in the provision of its services to its customers. The Taxpayer stakes it purchased the equipment exempt of the tax using a resale exemption certificate. The Taxpayer further states that it charged and collected the retail sales tax from its customers on the lease of the equipment.

The Taxpayer contends that its application of the tax on the lease of the equipment is proper, and disagrees with the use of the true object test in the audit to determine the application of the retail sales and use tax. The Taxpayer further contends that the assessment of tax on the purchase of the equipment is improper and inequitable. Finally, the Taxpayer asserts that the enactment of the Virginia Communications Sales and Use Tax Act (the "communications sales tax") renders the Department's use of the true object test in the audit moot for the portion of the audit period that occurred following the enactment of the tax.

The Taxpayer contends that the audit should be split into two separate periods November 2005 through December 2006 and January 2007 through June 2007. The Taxpayer asserts that the first period covers a time when communication services were not subject to the retail sales tax or any other applicable sales tax. The Taxpayer asserts that the second period covers a time when communication services, while still not subject to the retail sales tax, were subject to a corresponding communication sales tax.

DETERMINATION

Virginia Communications Sales Tax and Virginia Retail Sales and Use Tax

The communications sales tax was enacted by the 2006 Virginia General Assembly (2006 Acts of Assembly, Chapter 780), and restructures the state and local communications taxes and fees by replacing them with a centrally administered communications sales and use tax and a uniform statewide E-911 tax on landline telephone services. The communications sales tax became effective on January 1, 2007. See, Public Document (P.D.) 06-138 (11/1/06), Guidelines and Rules for the Virginia Communications Taxes.

Pursuant to Va. Code § 58.1-648, the communications sales tax is imposed upon customers of communications services at a rate of 5% of the sales price of the services. In accordance with Va. Code §§ 58.1-651 and 58.1-654, communications services providers are responsible for collecting and remitting the tax to the Department. Pursuant to P.D. 06-138, the communications sales tax does not apply to "[t]he sale or rental of tangible personal property and any sales tax resulting from the sale or rental of tangible personal property".

While the communications sales tax is administered similarly to the retail sales and use tax, the two taxes are completely separate and distinct from one another. The communications sales tax applies to sales of communications services by a communications services provider. The retail sales and use tax applies to transactions involving the sale of tangible personal property and taxable services. The application of one tax has no bearing on the application of the other.

Prior to the enactment of the communications sales tax, communications services were subject to various state and local communications fees and taxes. The application of those fees and taxes on the communications services had no bearing on the application of the retail sales and use tax to purchases and sales of tangible personal property made by communications service providers. Accordingly, it is unnecessary to separate the original audit period into the two periods as suggested by the Taxpayer.

True Object Test

Title 23 of the Virginia Administrative Code (VAC) 10-210-4040 A, states, "Charges for services generally are exempt from the retail sales and use tax. However, services provided in connection with sales of tangible personal property are taxable."

Title 23 VAC 10-210-4040 D provides, "In order to determine whether a particular transaction which involves both the rendering of a service and the provision of tangible personal property constitutes an exempt service or a taxable retail sale, the 'true object' of the transaction must be examined. If the object of the transaction is to secure a service and the tangible personal property which is transferred to the customer is not critical to the transaction, then the transaction may constitute an exempt service. However, if the object of the transaction is to secure the property which it produces, then the entire charge, including the charge for any services provided, is taxable."

Title 23 VAC 10-210-4040 E provides, "A service provider is the taxable user and consumer of all tangible personal property purchased for use in providing exempt services. If a supplier fails to collect the tax from a service provider, the provider shall remit use tax to the department as provided in 23 VAC 10-210-6030."

In this instance, the Taxpayer is providing communications services to its customers. The customers' primary object and concern is to obtain the communications services that the Taxpayer provides. The customers do not primarily enter into sales transactions with the Taxpayer for the purpose of leasing or purchasing the equipment at issue in the audit. Additionally, the Taxpayer does not lease the equipment at issue without providing its communications services to its customers. Accordingly, pursuant to Title 23 VAC 10-210-4040 D, tine true object of the transactions at issue is the provision of the communications services.

The equipment at issue is capitalized by the Taxpayer and listed in its accounting records as fixed assets. The equipment is used by the Taxpayer in the provision of its communications services to its customers. As a service provider, the Taxpayer is the taxable user and consumer of such equipment. Pursuant to Title 23 VAC 10-210-4040 E, the Taxpayer is liable for the sales tax at the time the equipment is purchased. If the tax is not paid at the time of purchase, the Taxpayer is required to remit the use tax to the Department as provided in Title 23 VAC 10-210-6030. Additionally, the enactment of the communications sales tax has no effect on the application of the true object test and its use in determining the correct application of the retail sales and use tax to transactions.

Ambiguity in Title 23 VAC 10-210-4040

The Taxpayer contends there are certain ambiguities in Title 23 VAC 10-210-4040 that should lead the Department to find in its favor. The Taxpayer contends that the conclusion given for the example in the regulation that relates to charges for a training program contradicts the regulation. The Taxpayer also contends that the regulation is ambiguous regarding the proper application of the tax when the tangible personal property involved is a "critical element."

Training Example

The Taxpayer believes that the conclusion drawn in the training program example included in Title 23 VAC 10-210-4040 D is contradictory to Title 23 VAC 10-210-4040 A. The Taxpayer focuses on the portion of the example that deals with the application of the retail sales and use tax on tapes and workbooks that are included in the transaction along with the sale of the training. The example concludes that "charges for training programs which include charges for required workbooks and tapes are exempt from the tax as charges for services since the object is to obtain the training services. However, separately stated charges for workbooks and stapes are subject to the tax."

Virginia Code § 58.1-609.5 1 provides, in pertinent part, that the retail sales and use tax does not apply to "[p]rofessional, insurance, or personal service transactions which involve sales as inconsequential elements for which no separate charges are made . . . ."

The training program described is an example of a professional service that is governed by Va. Code § 58.1-609.5 1 and listed as an exempt service in Title 23 VAC 10-210-4040 C. Pursuant to these references, the workbooks and tapes discussed in the example would be exempt of the tax as long as the cost of these items was included in the charge for the exempt service. The regulation provides that these items will be subject to the tax if they are listed separately from the charge for the exempt service. Accordingly, there is no contradiction between the example and Title 23 VAC 10-210-4040 A.

Critical Element

The Taxpayer also contends that the language in the regulation relating to the application of tax on tangible personal property considered a "critical element" of the transaction is ambiguous.

Title 23 VAC 10-210-4040 D provides, "if the object of the transaction is to secure a service and the tangible personal property which is transferred to the customer is not critical to the transaction, then the transaction may constitute an exempt service."

The Taxpayer asserts that this statement "can imply that in a situation where the nontaxable service and the property transferred are both critical elements, a different treatment may be proper - such are a nontaxable service coupled with a taxable rental of personal property." The Taxpayer contends that this is exactly what occurred in the training example referenced above.

Title 23 VAC 10-210-4040 D states, "In instances where both the services rendered and the property transferred are critical elements of a transaction, the degree of customization, uniqueness or specific services provided in connection with the product shall be considered in determining its appropriate tax status." Based on these factors, the regulation lists "data equipment services, including equipment," as exempt. The regulation further provides, "[t]he object of the exempt transactions is to obtain a service from the seller."

"The object of any transaction which includes the transmittal of information through electronic means is deemed to be a service since the object of the transaction is to obtain the service of electronic information transmittal and the tangible personal property included serves only as the medium for securing the service." Title 23 VAC 10-210-4040.

The regulation very clearly provides for how the tax should be applied in a situation where both the services rendered and the tangible personal property provided are deemed critical elements of the transaction. The regulation also speaks directly to the type of transaction at issue in this instance, and deems transactions for data communications services that include the provision of equipment as exempt services. Accordingly, as a service provider, the Taxpayer is liable for the tax to its vendors at the time it purchases the equipment used to provide the service to its customers. Should the vendor not collect the tax at the time of the sale, the Taxpayer is liable for use tax on the equipment and must accrue and remit the tax to the Department.

Equitable Treatment

The Taxpayer states that it has collected and remitted tax on the lease of the equipment at issue. As such, the Taxpayer asserts that the tax assessed on the equipment in the audit would unduly enrich the Department. The Taxpayer contends that it should be given a credit in the audit for the tax charged, collected and remitted on the lease of the equipment to its customers.

Title 23 VAC 10-210-3040 provides that a dealer may be issued a refund provided that the dealer shows that "the tax erroneously or illegally collect was paid by him and not passed on to the consumer, or the tax was collected from the consumer as tax and subsequently refunded to the consumer." The credits that the Taxpayer is requesting are akin to refunds that can be requested by taxpayers for taxes erroneously or illegally collected. In either instance, a taxpayer must demonstrate that the tax was paid to the Department and a refund is warranted.

The Taxpayer was not given a credit in the audit because the Taxpayer could not demonstrate that it had refunded its customers for the tax erroneously collected. However, I will give the Taxpayer the opportunity to provide documentation to support its contention that it has remitted tax as a result of its leases of the items of tangible personal property at issue. The documentation will be reviewed by the Department's audit staff. If it is determined that the Taxpayer collected and remitted tax on the equipment leases that are at issue in the audit, the Taxpayer will be given a credit against the audit assessment, not to exceed the tax assessed. The audit staff will contact the Taxpayer to discuss the type of documentation required. The Taxpayer will have 30 days from the date of such contact to provide the documentation to the audit staff. If the documentation is not received within the allotted time, the assessment will become immediately due and payable.

If the documentation review warrants an adjustment to the assessment, a revised
bill, with interest accrued to date, will be mailed to the Taxpayer following the adjustment. No further interest will accrue provided the outstanding assessment is paid within 30 days from the date of the bill. The Taxpayer should remit its payment to: Virginia Department of Taxation, Attention: ***** 600 E. Main Street, 15th Floor, Richmond, Virginia 23219. If you have any questions concerning payment of the assessment, you may contact ***** at *****.

The Code of Virginia sections and regulations 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 about this determination, you may contact ***** in the Department's Office of Tax Policy, ,Appeals and Rulings, at *****.

- - - - Sincerely,

- - - - Craig M. Burns
        Acting Tax Commissioner

AR/1-3152616017.P

Rulings of the Tax Commissioner