Tax Type
Retail Sales and Use Tax
Description
Royalties; Audit sample techniques; Audit penalties
Topic
Collection of Delinquent Tax
Royalties
Taxability of Persons and Transactions
Date Issued
10-08-1991
October 8, 1991
Re: §58.1-1821 Application: Retail Sales and Use Tax
Dear****************
This will reply to your letter of December 19, 1990 in which you seek correction of sales and use tax assessments for**************("the Taxpayer").
FACTS
The Taxpayer is engaged in the provision of various computer services. An audit of the Taxpayer for the period March, 1986 through February, 1989 produced assessments for the Taxpayer's failure to remit the sales and use tax on various purchases and leases of tangible personal property.
The Taxpayer contests the assessment of tax on royalty payments made for the use of computer software and the inclusion of certain invoices in the audit sample. The Taxpayer further requests waiver of penalty.
DETERMINATION
I will separately address below the issues raised by the Taxpayer:
Royalties
The Taxpayer's vendor provides the Taxpayer with computer programs on disks and tapes. The Taxpayer places the programs on its mainframe computer and then charges fees to its customers for electronic access to the programs. A percentage of the fees charged to customers are paid as royalties to the owners of the software. The Taxpayer contends that the royalties are exempt as no taxable use of the software occurs and the software constitutes intangible personal property.
I cannot agree that the royalties at issue in this case are not subject to the sales and use tax. The department has consistently held that royalties paid for the use of prewritten programs provided on disks and tapes are subject to the tax. See Ruling of the Tax Commissioner dated March 30, 1983, copy attached. Moreover, similar transactions were held taxable in the Taxpayer's prior audit and the identical issue addressed in an April 22, 1988 letter to the Taxpayer by the department's Technical Services Section. The letter also included copies of several rulings, P.D 87-97 (3/27/87) and P.D. 87-209 (9/15/87), previously issued by the department clarifying the application of the sales and use tax to various transactions involving computer software and explaining that prewritten computer programs were subject to the sales and use tax as tangible personal property. Therefore, I do not find basis for the removal of the royalties from the audit.
Sampling
The Taxpayer contests the error ratio used in computing the tax as invoices from two vendors represented annual billings for maintenance contracts and catch-up billings for prior months' maintenance services. While the Taxpayer asserts that the transactions in question are isolated and unique, it does not provide any evidence to substantiate its claim.
The courts have consistently held that a tax assessment issued by the proper authorities is prima facie correct and valid and that the burden of proof is upon the taxpayer to prove otherwise. As such, a taxpayer must demonstrate that the sample used is not representative of the audit period or that it is flawed in some other manner to invalidate the sample. For an item to be removed from the audit sample, the Taxpayer must show that the transaction was isolated in nature and not a normal part of the Taxpayer's operation. For instance, I could agree to remove the contested transactions if they were the only maintenance contracts or catch-up billings received by the Taxpayer during the entire audit period. However, such information has not been presented in this case. Based on these facts, the nature of the Taxpayer's computer services business and the large volume of purchases made during the audit period, I am not persuaded that the nature of these billings alone are sufficient to remove these purchases from the total purchases to which the error factor was applied.
As such, I do not find basis at this time to conclude that the sample is invalid; however, I will allow the Taxpayer 45 days to provide more specific information to the department's Technical Services Section concerning its claims. Alternatively, the Taxpayer may provide a separate schedule of all of the Taxpayer's purchases of maintenance contracts and services during the audit period. The items in question would then be removed from the sample and treated separately in the audit.
Penalty
Va. Code §58.1-613 requires that a separate certificate of registration be issued for each business location. Where taxes are reported separately, audits and compliance ratios must similarly be separate for each location. As such, the auditor properly computed separate compliance ratios for the Taxpayer's various divisions. In addition, the auditor properly computed separate sales tax and use tax compliance ratios and correctly did not include the sales tax paid to vendors in determining the use tax compliance.
The Taxpayer's use tax compliance ratio of 50% is not deemed acceptable for a third generation audit and the Taxpayer has not presented any exceptional mitigating circumstances to warrant waiver of the penalty in this case. Therefore, the penalty was properly applied in this case.
Based on all of the foregoing, I do not find basis for correction of the assessments at this time. However, the Taxpayer may present additional information to the department within the time period stated above for further consideration of its claims.
Sincerely,
W. H. Forst
Tax Commissioner
TPD/481OL
Rulings of the Tax Commissioner