Tax Type
Retail Sales and Use Tax
Description
Medical, dental, and optical supplies, and drugs; Free samples of controlled drugs
Topic
Taxability of Persons and Transactions
Date Issued
03-31-1994
March 31, 1994
Re: §58.1-1821 Application: Retail Sales and Use Tax
Dear***************
This will reply to your letter of July 28, 1993 in which you seek correction of sales and use tax assessed to *************(the Taxpayer), as a result of an audit for the period February, 1990 through March, 1993.
FACTS
The Taxpayer is a pharmaceutical manufacturer of legend (controlled) drugs for sale to licensed physicians. As a result of the department's audit, the Taxpayer was assessed use tax on drug samples distributed to licensed physicians in Virginia by its sales representatives for promotional purposes. The Taxpayer protests the assessment and argues that the assessment of tax upon the distribution of samples of legend drugs to licensed physicians is contrary to the intent of the federal law governing the distribution of samples of controlled drugs and Va. Code §58.1-609.7(1). Further, the Taxpayer contends that the auditor's use of the sales factor method and cost price are erroneous measurements in computing the assessment. The Taxpayer requests waiver of penalty asserting that the assessment is invalid based on the aforementioned reasons and seeks a conference to discuss and clarify the issues raised.
DETERMINATION
The Prescription Drug Marketing Act of 1987 restricts the sale of samples of controlled drugs and permits a manufacturer to distribute such samples free of charge upon written request by a licensed physician or other health care provider. Va. Code §58.1-609.7(1) provides an exemption from the sales and use tax for "controlled drugs purchased by a licensed physician for use in his professional practice" (emphasis added). Under well established Virginia case law, exemptions from taxation are strictly construed, with any doubts resolved in favor of the taxing authority.
In this case, we are not dealing with the purchase of controlled drugs by a physician, but with the Taxpayer's distribution of samples to physicians and other health care providers for purposes other than resale. Va. Code §58.1-604, copy enclosed, imposes the use tax on the use or consumption of tangible personal property in Virginia. The term "use" is defined in Va. Code §58.1-602, copy enclosed, as "the exercise of any right or power over tangible personal property incident to the ownership thereof, except that it does not include the sale at retail of that property in the regular course of business." By providing samples to its salespersons in Virginia, the Taxpayer exercises a taxable use, incident to ownership, over the samples prior to their distribution to licensed physicians and other health care providers. Since no tax was paid to New Jersey and a taxable use occurs in Virginia, the use tax is due to Virginia. The imposition of the use tax in no way infringes upon the federal statute governing the distribution of the samples. The department has recently ruled on the tax treatment of drug samples in P.D. 94-78 (3/21/94), copy enclosed, where the facts are identical to those presented in this case. I am also enclosing P.D. 89-254 (9/21/89) which discusses drug samples and the application of the tax to sales of prescription drugs in Virginia.
The Taxpayer also contends that the auditor's methodology for calculating the assessment is erroneous. Since the Taxpayer maintained no state-by-state compilation of data regarding the distribution of samples, the auditor used a sales factor ratio based on Virginia sales relative to total sales nationally. This percentage was then applied to the general ledger sample account balances for each year of the audit. Based on the lack of more detailed information, the auditor did not err in using such an approach in computing the audit deficiency. The department will adjust the assessment if the Taxpayer can provide a better method or basis for calculating the tax within 30 days.
Furthermore, the Taxpayer disputes using cost price as a basis for the tax. Va. Code §58.1-602, copy enclosed, defines cost price as "the actual cost of an item or article of tangible personal property computed in the same manner as the sales price as defined in this section without any deductions therefrom on account of the cost of materials used, labor, or service costs, transportation charges, or any expenses whatsoever."
The "manufactured or fabricated" cost price consists of cost components associated with the manufacture of tangible personal property, such as overhead, materials, packaging, distribution and labor costs. As we are dealing here with finished goods that would otherwise be marketed, this manufactured cost price basis accurately reflects the true value of the products at the time they were used in Virginia.
Finally, VR 630-10-80 grants to the Tax Commissioner the discretion to waive penalty in instances where good cause exists for such waiver. Based on the Taxpayer's compliance regarding the other areas reviewed in the audit, I find basis for waiver of the penalty. Although a conference was requested, this may not be necessary in light of the fact that the issues discussed here are a matter of established policy.
The auditor will contact the Taxpayer to make any adjustments regarding the requested information. Shortly thereafter the department will issue a revised "Notice of Assessment" reflecting the waiver of penalty, any adjustments and interest accrued through the date of your letter of protest. The assessment should be paid within 30 days from receipt to avoid the accrual of additional interest charges and collection activity.
Sincerely,
Danny M. Payne
Acting Tax Commissioner
OTP/7152J
Rulings of the Tax Commissioner