Business
Activity Taxes
In September, 2005, a lobby group representing
several major corporations, including Citigroup
and Nike, urged Congress to pass a bill aimed
at clarifying when companies face corporate
taxes for remote sales from other states. Although
the resulting bill, known as BATSA, was introduced
several times into the Congress, by 2009 it
had yet to reach the statute book.
The
measure, known as the 'The Business Activity
Tax Simplification Act,' which was discussed
at a House Judiciary administrative law subcommittee
hearing, sought to resolve the issue of states
seeking to collect business activity taxes from
businesses headquartered in other states by
setting out specific guidelines for when an
out-of-state business may be charged a tax for
doing business in a state.
Over
the past several years, a growing number of
states have sought to collect business activity
taxes from businesses in other states. The problem
is that different states use different standards
for determining what constitutes sufficient
contacts with a state to justify taxation. According
to the bill's sponsor Rep. Bob Goodlatte (R.-Va),
this resulted in businesses being deterred from
expanding their presence in other states for
fear of exposure to further taxation, and it
is becoming a growing concern for internet-based
companies in particular.
"Just
because a website can be accessed by consumers
in a certain state, doesn’t mean that state
should be able to collect taxes from the website
owner. This legislation focuses on allowing
the Internet and the commerce that it facilitates
to expand, by eliminating excessive taxes that
harm on-line growth," Mr. Goodlatte stated when
the legislation was introduced to the House
earlier that year.
The
proposals were attacked by the National Governors
Association and other state and local government
officials, who fear the bill would put a "major
strain" on state treasuries, depriving them
of some $8 billion in revenues.
However,
Mr Goodlatte cited numerous other examples of
"aggressive state actions" and positions against
out-of-state companies. For example some states
take the position that a business whose trucks
pass through the state just a handful of times
per year without picking up or delivering goods
has sufficient connections with the state to
justify imposing business activity taxes on
that company. Other states believe that merely
listing a phone number in a local phone book
in that state is a sufficient connection to
justify taxation.
Mr.
Goodlatte says that his legislation would benefit
both states and business by eliminating grey
areas and by establishing "bright lines" regarding
what constitutes a physical presence.
"This
legislation will ensure that businesses are
not subject to double taxation at the state
level, which will ultimately facilitate the
continued growth of e-commerce, job creation
and the overall strength of the American economy,"
he declared.
In
July 2007, Senators Mike Crapo (R-Idaho) and
Charles E. Schumer (D-New York) tried again,
introducing a new BATSA bill following the Supreme
Court’s refusal the week prior to hear
two cases relating to multiple layers of tax
on multi-state businesses.
At
issue was whether companies, in addition to
being taxed in the state where they are physically
located, should also be subject to business
activity taxes where they solicit business or
have customers, even if they do not have employees
or a physical location in the state.
The
Schumer-Crapo legislation would have codified
the physical presence standard, which is common
practice for the imposition of sales and use
taxes but not for income taxes.
“Businesses
should not be punished with double taxation
simply because their products reach beyond state
borders,” stated Schumer. “At a
minimum, this is a huge administrative burden.
In the worst case scenario, these differing
state tax treatments will drive businesses to
states with more favorable laws. Either way,
the effect on commerce is debilitating.”
Crapo
added: “This effort by a large number
of states to impose business activity taxes
based on economic presence has the potential
to open a Pandora’s Box of negative implications
for businesses. Without clarification by Congress,
states will be free to enact revenue-raising
nexus legislation and policies that, by definition,
will not and cannot take into account the national
impact of such activities.”
The
Senators said that in recent years, states which
impose taxes based on economic presence have
caused widespread litigation and stifled commerce.
With a dizzying maze of state and local tax
rules – some enacted by legislatures and
others imposed by state revenue authorities
and upheld by state courts – simplification
is desperately needed, they added.
According
to Crapo and Schumer, the legislation will have
positive benefits for companies big and small.
For smaller businesses facing different taxing
standards in different states, BATSA would eliminate
costly litigation and administrative issues.
For larger companies that have customers throughout
the country, the legislation creates clarity
and reduces the likelihood of double taxation.
For the states, the bill creates a uniform taxing
standard that permits them to compete on a level
playing field for business activity and jobs,
while establishing a predictable and relatively
easily discernable tax base.
On June 18, 2007, the Supreme Court had denied
certiorari in two cases which challenged the
constitutionality of taxing companies with no
physical presence in a state. In addition to
ignoring the tax imbalance, Crapo and Schumer
argued that the court’s inaction has emboldened
at least one state to introduce new legislation
that would allow it to levy taxes based on economic
presence – and other states could follow
suit if Congress doesn’t act.
“In
short, this is no longer a theoretical discussion,”
Schumer stated. “I believe that Congress
has a duty to prevent some states from impeding
the free flow and development of interstate
commerce and to prevent double taxation.”
The
Schumer-Crapo legislation would update current
law by codifying the physical presence standard,
requiring a business to have a physical presence,
such as employees or property, in the state
before it can be subject to state business activity
taxes. The bill establishes a bright-line standard
that will eliminate any confusion for both state
tax administrators and businesses as to the
circumstances under which businesses are subject
to state business activity tax (BAT).
Under
BATSA, mere economic activity – such as
in-state customers – would be insufficient
for a state to impose income and other business
activity taxes on out of state businesses. Firm
guidance on what activities can be conducted
within a state that will trigger that state’s
taxing power is expected to provide certainty
for tax administrators and business, reduce
multiple taxation of the same income, and reduce
compliance and enforcement costs for states
and businesses alike.
In December 2007, the US Treasury Department
released a study on business taxation and global
competitiveness, suggesting, as one of three
proposed approaches to improve the competitiveness
of the US Business Tax System in the 21st Century,
that Business Income Tax System should be replaced
entirely with a Business Activity Tax (BAT)
According
to the Treasury: "The BAT tax base would
be gross receipts from sales of goods and services
minus purchases of goods and services (including
purchases of capital items) from other businesses.
Wages and other forms of employee compensation
(such as fringe benefits) would not be deductible."
Alternative
proposed approaches included broadening the
business tax base and lowering the statutory
tax rate/providing expensing, and adressing
issues with specific areas of the business tax
system, including: multiple taxation of corporate
profits; corporate capital gains and dividends
received deduction; tax bias favoring debt finance;
taxation of international income; treatment
of losses; and book-tax conformity.
In
February 2008, the House Committee on Small
Business held a hearing examining the impact
of business activity taxes, which found that
while US small businesses regularly sell their
products and services around the globe, increasing
numbers are finding it difficult to do business
within their own country because of the levy.
The congressional panel, chaired by Congresswoman
Nydia M. Velázquez, explored the issue
with an eye towards balancing the needs of entrepreneurs
with the fiscal interests of states.
“We
are seeing cases where entrepreneurs are charged
a USD400 BAT for less than USD100 of total sales
in a state. Not only does that have a chilling
effect on small firms, it hurts the national
economy,” observed Velázquez.
The
hearing heard that in an effort to support an
eroding tax base, many states are aggressively
levying BATs on firms located outside their
borders. As entrepreneurs look across state
lines to grow their businesses — an obvious
move in the internet age — they are finding
BATs to be inordinately burdensome and difficult
to anticipate.
Several
witnesses noted that entrepreneurs are often
unaware that they are subject to these taxes
until they receive the bill from a state. Furthermore,
small businesses already spend more than a billion
hours per year on tax compliance. Because they
lack the large tax departments of their big
business counterparts, challenging an incorrect
assessment can prove prohibitively costly and
time consuming.
“Unlike
large corporations, most small businesses operate
on very tight margins. Any additional expenses
— particularly unexpected ones —
can have a devastating impact on their solvency,”
added Velázquez.
During
the hearing, members considered ways to provide
small firms with greater certainty in the face
of the current economic downturn. One of the
options reviewed was having a single standard
for state-imposed business activity taxes. This
would allow businesses to determine with more
accuracy when they are subject to a BAT and
how much they would have to pay.
“When
it comes to business activity taxes, the status
quo is obviously not working,” noted Velázquez.
“The success of entrepreneurs is predicated
on their ability to plan. Ensuring clarity in
the tax code promotes the well-being of small
businesses and that of our nation’s economy.”
In June, 2009, the United States Supreme Court
handed victory to the state of Massachusetts
in a case where its right to charge business
activity tax was challenged.
The
US Supreme Court stated in a decision issued
on June 21 that it would not hear an appeal
by Capital One Bank against a Massachusetts
revenue authority decision to tax the company
based on the amount of business it conducted
in the state, regardless of the fact that the
company had no ‘physical presence.’
Capital
One had attempted to argued that because it
didn’t have a physical presence in the
state, it was entitled to dispute a USD1.76m
tax bill for providing credit card services
and an additional USD159,000 charge for the
provision of banking services within the state’s
borders. However, the Massachusetts Supreme
Court found that the company nevertheless had
a “substantial nexus” in the state,
and that this could be used as the basis for
taxation.
"By
issuing credit cards with the 'Capital One'
logo to Massachusetts customers, the Capital
banks essentially were guaranteeing payment
to merchants of the amounts charged by those
customers, if approved," said the US Supreme
Court.
"The
Capital banks bore the risk of a cardholder's
non-payment. In the event of such non-payment,
the Capital banks worked with collection agencies
and Massachusetts attorneys to collect delinquent
accounts, which included the filing of civil
actions on behalf of the Capital banks in Massachusetts
courts,” the decision said.
Toys
R Us subsidiary Geoffrey, Inc., was also challenging
the tax law.
The
case highlights an increasingly hazardous area
of tax law for companies doing business outside
of their state of incorporation – especially
for e-commerce firms selling goods and services
over the internet - with state tax authorities
increasingly keen to tax companies with no physical
presence in the state.
The
Securities Industry and Financial Markets Association
(SIFMA) commented that the Supreme Court’s
decision not to hear the Capital One case was
“disappointing” and part of a “disturbing
trend” by state taxing authorities and
legislatures to impose taxes on out-of-state
businesses based on in-state marketing activities
“without providing clarity or certainty
as to whether and to what extent operations
will create a tax liability in various states.”
“Without
a bright-line test, investment will be discouraged,
litigation costs will rise, and compliance burdens
for institutions will increase,” SIFMA
cautioned.
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