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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