Tax Type
Corporation Income Tax
Description
Payroll factor; Compensation other than salaries
Topic
Allocation and Apportionment
Royalties
Date Issued
12-26-1996
December 26.1996
Re: §58.1-1821 Application: Corporate Income Taxes
Dear**************
This will respond to your letter in which you seek correction of assessments of additional corporate income taxes to****************(the "Taxpayer") for the taxable years ended September 30,1992, 1993 and 1994 (the "1991", "1992", and " 1993" taxable years, respectively) .
FACTS
The Taxpayer was field audited, and numerous adjustments were made. You protested several of these adjustments, which will be addressed separately.
DETERMINATION
Foreign Source Income
The Taxpayer included amounts characterized as "Technical Assistance Fees" and "Licensing Agreements" in the Virginia foreign source income (FSI) subtraction. The department's auditor concluded that these amounts did not qualify as foreign source income pursuant to Code of Virginia §58.1-302, and consequently reduced the amount of the subtraction. You protest the auditor's conclusion, contending that these amounts are properly reportable as royalties, and hence are eligible for the Virginia FSI subtraction .
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- Code of Virginia § 58.1-302 defines foreign source income, in pertinent part, as:
Rents, royalties, license, and technical fees from property located or services performed without the United States or from any interest in such property, including rents, royalties, or fees for the use of or the privilege of using without the United States any patents, copyrights, secret processes and formulas, good will, trademarks, trade brands, franchises, and other like properties.
- Code of Virginia § 58.1-302 defines foreign source income, in pertinent part, as:
In the instant case, the Taxpayer has provided copies of the technical assistance contracts to the department. The contracts specified the licensing of "know-how" and technology to the licensees, as well as assistance in implementing that expertise. This expertise clearly falls within the purview of "other like property" referred to in Code of Virginia §58.1-302, and thus any fees received in conjunction with its implementation constitute "technical fees" eligible for the Virginia FSI subtraction.
When services which constitute technical fees eligible for the Virginia foreign source income subtraction are actually performed, those services must be performed outside the United States and classified as income from without the United States under the federal sourcing rules. See P.D. 94-88, (3125194), copy enclosed. One of the two contracts reviewed by the department specifically stated that the Taxpayer would provide a two week training course at its facility in the United States. This contract further provided that "this technical assistance will be provided via correspondence, telephone or in person conferences at [the Taxpayer's facility in the U.S.] or at [the licensee's facility outside the U.S.]." The other contract contained a similar provision. The information obtained during the audit field work is insufficient to determine what portion of the amounts characterized as "Technical Assistance Fees" are attributable to services performed outside the United States. Consequently, if you can provide sufficient documentation to determine the proper portion of these fees which were derived for services outside the United States, within ninety days, such portion will be included in the Virginia FSI subtraction.
The amounts characterized as "Licensing Agreements" were received in exchange for licenses to "utilize the inventions protected by the patent or patents" specified in the agreement. These amounts, therefore, clearly represent foreign source income as defined in Code of Virginia §58.1-302. Consequently, the auditor's adjustment regarding these amounts will be reversed.
Payroll Factor
The Taxpayer computed its payroll factor for the 1991, 1992 and 1993 taxable years utilizing the total wages reported for unemployment insurance tax purposes. The auditor noted that these reported wages were less than the amount in a column labeled "gross wages." At the time of the audit, the Taxpayer explained that the difference was attributable to 401 (k) plan adjustments. The auditor concluded that these amounts were compensation which was required to be included in the payroll factor computations. Subsequently, the Taxpayer stated that the difference was not due to 401 (k) plan adjustments, but instead was due to tax exempt relocation, tuition, and miscellaneous payments, previously reported deferred compensation payments, and Flexible Spending Account amounts for medical and dependent care. The Taxpayer contends that, regardless of the misstatement during the audit, the wages reported for unemployment insurance tax purposes constitute the proper basis for payroll factor calculations.
Virginia Regulation (VR) 630-3-302, effective January 1, 1985, copy enclosed, states in pertinent part:
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the term "compensation," as used in computing the payroll factor under Va. Code §58.1-412, means all remuneration or wages for employment as defined in l.R.C. §3121(a) except that compensation includes the excess of wages over the contribution base defined in l.R.C. § 3121(a)(1).
Pursuant to this regulation, all amounts paid to employees are considered compensation unless specifically exempted in IRC §3121(a), and consequently must be included in the payroll factor. A review of the evidence provided indicates that the difference was solely attributable to items exempted by IRC §3121(a). The column labeled "gross wages" was intended to capture all payments to employees through the payroll system, and not merely those which qualified under the statutory definition of "compensation." The auditor's reliance on this column, therefore, was incorrect, and the payroll factor will be adjusted to reflect the factor as originally filed.
ACRS Subtraction
The department's auditor disallowed the ACRS subtraction on the Taxpayer's 1992 Virginia corporate income tax return. The auditor concluded that legislative changes delayed excess cost recovery for the 1991 through 1993 taxable years, and consequently no subtraction was allowed on the 1992 return. You protest this conclusion, contending that the adjustment should only encompass that portion of the ACRS subtraction not attributable to the carryover from 1990.
The 1992 Virginia General Assembly passed legislation (1992 Acts of Assembly, chapters 296 and 320), effective for taxable years beginning on or after January 1, 1992, which delayed taxable year 1991 through 1993 excess cost recovery (ACRS) subtractions. Any carryover from ACRS subtractions for taxable years 1988 through 1990, however, may be utilized when filing for the 1991 through 1993 taxable years. This provision was included in the filing instructions for the 1992 Virginia corporate income tax return.
The ACRS subtraction claimed by the Taxpayer on its 1992 Virginia corporate income tax return was comprised solely of the carryover from 1991. A review of the 1991 ACRS carryover computation indicated that exactly one-half was attributable to the 1990 ACRS carryover, with the remaining one-half attributable to the 1991 recovery percentage which was in effect when the 1991 Virginia corporate income tax return was filed. The auditor's adjustment, therefore, will be corrected to allow the 1990 ACRS carryover as a subtraction on the Taxpayer's 1992 return.
Conclusion
Accordingly, the audit report has been revised in accordance with the determination herein and on the enclosed schedules. A refund based on this revised audit report will be issued in due course. If the requested information regarding the sourcing of technical assistance fees is received within ninety days, the department will make further revisions to the audit report if appropriate and issue another refund accordingly. Pleas e send the requested information to******Office of Tax Policy, P.O. Box 1880, Richmond, Virginia 23218-1880. If you should have any additional questions, you may contact***********directly at*************.
Sincerely,
Danny M. Payne
Tax Commissioner
Rulings of the Tax Commissioner