Document Number
11-56
Tax Type
Retail Sales and Use Tax
Description
No proof that the transaction is isolated in nature and not a normal part of business
Topic
Appropriateness of Audit Methodology
Records/Returns/Payments
Tangible Personal Property
Date Issued
04-11-2011


April 11, 2011


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 July 2003 through June 2006. I apologize for the delay in responding to your appeal.

FACTS


The Taxpayer provides information technology services to federal, state and local governments, as well as to industry clients. The Taxpayer contests the assessment of tax on tangible personal property purchased pursuant to a contract with an agency of the federal government. The Taxpayer maintains the contract was for the sale of tangible personal property to the federal government agency, and the purchase of the tangible personal property at issue is exempt of the tax pursuant to the resale exemption. In the alternative, the Taxpayer asserts that there are inadequacies in the Department's statistical auditing procedures.

DETERMINATION


Furniture Purchase

The Taxpayer maintains that the seven transactions at issue relate to a single order placed by the federal government pursuant to an indeterminate purpose contract. The Taxpayer states that the order directed the Taxpayer to acquire office furniture, and the Taxpayer enjoyed the resale exemption with respect to these transactions. The Taxpayer disagrees with the audit findings that the furniture was purchased pursuant to a real property construction contract. The Taxpayer maintains that pursuant to Title 23 of the Virginia Administrative Code (VAC)10-210-693, the true object of the statement of work (SOW) associated with the contested transactions, should be considered because the contract at issue is an indeterminate purpose contract.
    • Title 23 VAC 10-210-693 D states:
    • Tax treatment of government contracts executed prior to July 1, 2006. With respect to mixed contracts between government entities and contractors executed prior to July 1, 2006, the true object test shall be applied to the underlying contract without regard to the individual orders issued prior to July 1, 2006, in furtherance of the overall contract.
    • With respect to indeterminate purpose contracts and basic ordering agreements executed prior to July 1, 2006, the true object test shall be applied to each individual order. If the true object of the individual order constitutes a sale of tangible personal property, the sale is treated as an exempt sale for resale to a government entity. The contractor may purchase tangible personal property exempt of tax as a sale for resale using a resale exemption certificate. If the true object of the individual order is the provision of a tax-exempt service, the contractor is the user and consumer of all tangible personal property used in providing the service as well as all tangible personal property that is transferred to the government entity.
    • Virginia Code § 58.1-610 A states:
    • Any person who contracts orally, in writing, or by purchase order, to perform construction, reconstruction, installation, repair, or any other service with respect to real estate or fixtures thereon, and in connection therewith to furnish tangible personal property, shall be deemed to have purchased such tangible personal property for use or consumption. Any sale, distribution, or lease to or storage for such person shall be deemed a sale, distribution, or lease to or storage for the ultimate consumer and not for resale, and the dealer making the sale, distribution, or lease to or storage for such person shall be obligated to collect the tax to the extent required by this chapter.
    • Title 23 VAC 10-210-410 J states:
    • Generally, purchases of tangible personal property by contractors in connection with real property contracts with the governments of Virginia or the United States or political subdivisions thereof, are sales to such contractors for their own use or consumption and contractors are subject to the tax on such transactions. This applies regardless of whether title to such property passes directly to the governmental entity upon purchase by the contractor or if the contractor is reimbursed directly by the government entity for the cost of such property.

In this instance, the Taxpayer has not provided a copy of the indeterminate purpose contract at issue. Accordingly, the order, SOW and proposed contract line item number ("CLIN") provided will be used to determine the application of the tax on the purchases at issue.

The order states, in part, "'The contractor shall complete all necessary work to complete the Space Revitalization Construction Build-out and design for the *****. All work shall be in accordance with the Statement of Work and the contractor's proposal, dated April 12, 2004. The aforementioned Statement of Work and the contractor's proposal are hereby incorporated by reference into this document with the same force and effect as if included in full text ...." The Taxpayer is listed as the contractor on the order at issue. Pursuant to the terms stated on the order, the Taxpayer is the contractor with respect to the order, the SOW and the proposed CLIN.

The SOW is for consolidation programs for certain agencies of the federal government. The objective under the SOW is to consolidate certain federal agencies and to provide space for multiple activities of several task forces operated by these federal agencies. Under the specific terms of the SOW, the contractor is to oversee a commercial lease for the consolidation activities and expand an existing database. Additionally, the contractor is charged with facility management and space revitalization under the SOW.

With respect to facility management, Section 3.2.1.3 of the SOW states:
    • The Contractor shall coordinate as appropriate with other contractors, the Government, and the landlord to assure adequate space planning, building modification, reconfiguration, adequate lighting, electrical, telecommunications services, and proper ventilation for the facility. The Contractor shall provide the Government with floor plans as they are developed and notification when space is permanently allocated or reconfigured.

With respect to space revitalization, Section 3.2.1.4 of the SOW states:
    • The Contractor will provide the necessary support to fully design, engineer, build out, integrate, and operate a facility that incorporates data-center operations, call/communications center, analytical operations, and executive, administration and programmatic support spaces."

The proposed CLIN states that the Taxpayer "shall provide services in support of [the federal agency] and multiple agencies to meet the consolidation requirements of the customer ...." The proposed CLIN requires services with respect to consolidation program management, build out, and facility management. Pursuant to Table A of the proposed CLIN, space revitalization accounts for 66 percent of the total contract value. The table in the proposed CLIN that provides a break down of the costs associated with space revitalization indicates construction build out of tenant space accounts for 51 percent of the total tenant build out construction management and design cost, wiring for 35 percent of that cost, and 6 percent for construction design. The cost for furniture accounts for 4 percent of the total proposed cost.

Based upon my review of these documents, the Taxpayer is required to provide real property construction services to agencies of the federal government. While the Taxpayer may perform numerous tasks under the order, SOW and proposed CLIN, the underlying objective is the reconstruction of the leased property such that it can be utilized for the purpose intended by the federal government. Neither the argument presented nor the documents provided by the Taxpayer in its appeal refute the finding by the audit staff that the furniture at issue was purchased with respect to real property construction. Accordingly, the Taxpayer is liable for the purchases at issue pursuant to Va. Code § 58.1-610, Title 23 VAC 10-210-410 and Title 23 VAC 10-210-693 H.

Sampling Procedures

In the alternative, the Taxpayer asserts that if the transaction is deemed to be subject to the tax, there are inadequacies in the statistical auditing procedures that resulted in an artificially inflated assessment. The Taxpayer maintains that the sampling errors include listing transactions in the wrong stratum, and the projection of sampling results when a stratum includes fewer than three transactions. The Taxpayer contends that California requires three transactions within a stratum in order for the results to be projected. The Taxpayer also questions whether a representative statistical sample of a government contractor can exist when so many of the transactions within the sample relate to a single task order or where a single transaction represents over 78 percent of the value of all errors identified by the auditor.

Sampling is an audit technique of significant value that is widely used in both the public and private sectors for all types of audits where a detailed audit would not prove beneficial either to the auditor or the client. When sampling techniques are properly applied, the final results are usually within a narrow percentage range of the actual amount that would have been determined by a detailed audit. The purpose of the audit sample is to determine a factor for errors within a representative selected period. Once the error factor is determined, the factor is extrapolated over the entire audit period. The purpose of the projection is to account for likely similar transactions on which Virginia tax has not been paid. Likewise, this same methodology is used when considering transactions on which Virginia tax has been overpaid.

Stratification Error

The Taxpayer contends that a transaction in the contested audit in the amount of $2,399.51 was incorrectly included in Stratum 2. Invoices were listed in Stratum 2 of the audit based upon total invoice amounts that fell between $3,000.00 and $15,000.00. In this instance, the invoice at issue was listed in Stratum 2 because the total invoice amount of $5,774.51 fell into the range associated with this stratum. The figure stated by the Taxpayer represents the taxable amount of the invoice at issue. The invoice at issue was correctly listed in Stratum 2, based upon the total amount of the invoice. Accordingly, no change in Stratum 2 is warranted.

Distorted Liability

The Taxpayer contends that two of the four strata contained fewer than three errors; therefore, the sample results for those strata are unrepresentative of the audit period as a whole. Relying on § 1308.05 of the California Board of Equalization's Sales and Use Tax Audit Manual (the "audit manual"), the Taxpayer maintains that the error sample cannot be projected over the entire audit because the sample is too small. A portion of this section of the audit manual highlighted by the Taxpayer states, "For a stratified random sample, a minimum of three (3) errors per stratum is required before the errors in the sample may be projected."

In this instance a systematic stratified sampling method was utilized in the audit to determine the error. Systematic sampling utilizes a fixed interval between selections, the first interval having a random start. The Taxpayer contends that the results of the systematic stratified sampling method are erroneous based upon California audit guidelines regarding a stratified random sample. Pursuant to Va. Code § 58.1-205, the Taxpayer has the burden of proving that the sample is incorrect and has produced a distorted liability. Based upon the information presented, the Taxpayer has not proven that the sample is incorrect or that it has produced a distorted liability. Instead, the Taxpayer has only proven that the procedure utilized by the Department does not follow guidelines established by another state. I find that the sampling method, the results obtained and the projection of such errors are proper.

Unusual Contract/Order/Transaction Skews the Sample

The Taxpayer maintains that the sample is unrepresentative because seven of the twelve errors and 100 percent of the errors in the "contested" audit all relate to the order at issue. The Taxpayer notes that for other contracts/orders reviewed during the performance of the audit, the true object of every other contract/order reviewed was the sale of tangible personal property to the government. The Taxpayer maintains that the order at issue is an anomaly, and the related transactions are too random to be projected across the audit period. Additionally, the Taxpayer maintains that the sample is distorted due to one large transaction for the purchase of furniture for resale to the federal government under the order at issue.

Upon review of the audit report and the information presented, I find no basis to invalidate the sample. For an item to be removed from the audit sample, the Taxpayer must prove that the transaction is isolated in nature and not a normal part of the Taxpayer's business activity. While the Taxpayer claims the order at issue and the associated transactions are not typical, this claim does not, by itself, render the sample inaccurate. It is likely that there are other orders and transactions similar to the ones at issue in periods outside the sample. Removing the order or the transaction at issue from the sample period would skew the sample and nullify its validity.

CONCLUSION


Based on the foregoing, the assessment is correct. A revised bill, with interest accrued to date, will be mailed shortly to the Taxpayer. 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, 600 E. Main Street, 23rd Floor, Richmond, Virginia 23219, Attn: *****. If the Taxpayer has any questions concerning payment of the assessment, 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
                  Tax Commissioner



AR/1-3464606380.P


Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46