Tax Type
Corporation Income Tax
Description
Sales Factor; Financial Products
Topic
Allocation and Apportionment
Date Issued
08-24-1992
August 24, 1992
Re: Application Under Va. Code §58.1-1821
Dear***************
This will reply to your letter dated July 25, 1991 in which you contest certain audit adjustments made to *************and subsidiaries (the "Taxpayer") for taxable years 1986 and 1987.
FACTS
The taxpayer sells financial products in almost all states, utilizing either its own sales representatives, independent contractors, or direct marketing.
The taxpayer computes its sales apportionment numerator for each state based solely upon the residence of each financial product purchaser. For instance, if a financial product is sold in Nebraska, the Nebraska sales numerator includes the income amount. Correspondingly, this income is excluded from the Virginia sales numerator.
Upon audit, the taxpayer's Virginia sales numerator was significantly increased, by an adjustment to include sales based upon the "cost of performance" standard in Va. Code §58.1-416. Lacking complete information, the auditor recomputed the Virginia sales numerator utilizing property and payroll apportionment factors in estimating the cost of performance. The taxpayer contests this adjustment, asserting that sales receipts should be included in the sales numerator of the state in which the product purchaser resides.
RULING
Income Producing Activity: The taxpayer asserts as its primary argument that the income producing activity at issue is only the actual act of selling its product, and that therefore, revenue should have the same situs as the purchaser of the product.
"Income producing activity" is the act or acts in which the taxpayer directly engages for the ultimate purpose of producing an apportionable sale. See Virginia Regulation (VR) 630-3-416. Although the act of the sale is the sine qua non of revenue generation, it is clear that in this instance, sales could not take place without the Virginia based headquarters support. The background research necessary for a sale occurs almost entirely at the headquarters, along with administrative and other duties important in revenue generating activities. Therefore, the income producing activity occurs both within and without Virginia for each non Virginia sale.
Cost of Performance: The Virginia sales factor numerator includes intangible property sales, if a greater proportion of income producing activity occurs in Virginia than in any other state, based on costs of performance. See VR 630-3-416.
There are two primary cost classes associated with the taxpayer's product sales. First, there is commission expense, as well as the costs of conducting seminars and publishing brochures, all of which are incurred in the agents' resident states. Second, there are overhead costs, consisting primarily of the following: annual depreciation of property, salary and administrative costs at the headquarters, advertising, and other overhead costs. Most costs in the second category are incurred in Virginia.
You have submitted supplemental data listing commission expense on a state-by-state basis. Commission expenses exceed the overhead costs (total assets, rents, and other wages) included in the taxpayer's apportionment factors on an annual basis. Therefore, the non Virginia cost of performance appears to exceed the Virginia cost.
Finding: The taxpayer generally has the burden of proof in a Va. Code §58.1-1821 application. In light of the facts available during the audit, it appears that the auditor properly utilized the property and payroll factors to approximate the sales factor. However, based upon the data submitted with your Va. Code §58.1-1821 application, I find that the cost of performance without Virginia exceeds the cost of performance within Virginia. Accordingly, the 1986 and 1987 taxable year audit reports will be revised in accordance with this letter, and the balance owed, if any, will be reflected in a revised bill.
Sincerely,
W. H. Forst
Tax Commissioner
Rulings of the Tax Commissioner