Hiya, folks and welcome back to a whole new edition (in a whole new year) of the Texas Tax Roundup! January started the year off with a blast! Let’s see what happened!
Court Cases
Sales and Use Tax
Governmental Exemption
The Geo Group, Inc. v. Hegar, No. 07-22-00005-CV (Tex. App.-Amarillo Jan. 23, 2023, no pet. hist.)—The Seventh Court of Appeals held that a company that owns and operates correctional and detention facilities under contracts with the state of Texas and the United States was not entitled to a sales tax refund due to the company’s purchases being exempt, affirming the trial court’s decision to that effect.
The company had argued that the detention and rehabilitation services that it provided are a quintessential governmental function, making the company an “instrumentality” of the state and federal governments and thereby rendering the company’s purchases exempt from sales or use tax under 34 Tex. Admin. Code 3.322(c) (Exempt Organizations).
The court of appeals noted that “instrumentality” isn’t defined in the Texas Administrative Code and the Black’s Law Dictionary defines “instrumentality” as: “1. A thing used to achieve an end or purpose. 2. A means or agency through which a function of another entity is accomplished, such as a branch of a governing body.”[1] Finding the first definition to be too broad to serve any purpose (virtually any independent contractor employed by the government could be an instrumentality under this definition), the court of appeals determined that the second definition of “instrumentality”— relating the term to “a branch of a governing body”—was more in harmony with the exemption in question.
The court of appeals found that while the company housed federal detainees and was required to comply with specific government regulations, the company was a distinct entity engaged in commercial for-profit activities, wasn’t controlled by the federal or state or federal government and didn’t contract exclusively with the federal or state government. For all of these reasons, the court of appeals held that the company wasn’t an instrumentality of the federal or state government that was exempt from sales or use tax.
Collections
Tax Liens
Cao v. Hegar, No. 01-21-00444-CV (Tex. App.-Houston [1st Dist.] Jan. 10, 2023, no pet. hist.)—The First Court of Appeals upheld a trial court’s dismissal for lack of subject matter jurisdiction of a suit that taxpayers brought in Harris County for a declaration that a state tax lien improperly encumbered their homestead. The Comptroller had filed a plea to the jurisdiction contending that the trial court lacked jurisdiction because Tex. Tax Code § 111.0102 (Suit Challenging Collection Action) required that suits to challenge or avoid a state tax lien be brought in Travis County. The taxpayers argued that suits to remove encumbrances from title to real property or to quiet title to real property were required to be brought in the county where all or part of the property is located under Tex. Civ. Prac. & Rem. Code § 15.011 (Land). The court of appeals sided with the Comptroller.
Rules
Franchise Tax
34 Tex. Admin. Code § 3.591 (Margin: Apportionment)—The Comptroller proposes amendments to Rule 3.591, dealing with apportionment under the Texas franchise tax, in response to the Texas Supreme Court’s opinion in XM Radio Inc. v. Hegar, No. 20-0462 (Tex. March 25, 2022) (discussed in our blog post here). The Comptroller explains that the proposed amendments incorporate the Supreme Court’s holding that “the most natural reading of ‘service performed in this state’ supports locating the performance of the service at the place where the taxpayer’s personnel or equipment is physically doing useful work for the customer.”[2] Thus, the Comptroller’s proposed amendments would interpret the Court’s phrase “useful work for the customer” as “the work that the customer hired the taxable entity to perform” and as not including “activities that enable the taxable entity to do business in general or are not directly used in the provision of a service to the customer.”[3]
Sales and Use Tax
34 Tex. Admin. Code 3.334 (Local Sales and Use Taxes)—The Comptroller adopts amendments relating to the imposition of local sales and use taxes that was most recently proposed on September 23, 2022. As explained in our September edition, these changes primarily affect the sourcing of internet sales—under the amendments, internet sales not fulfilled at a place of business of the seller will be sourced to the location of the purchaser. The Comptroller rejected arguments that the adopted amendments would make compliance more difficult for small businesses or result in tax revenue losses to some jurisdictions, maintaining that these concerns do not affect the validity of the rule.[4] The Comptroller also disputed that the amendments represented a shift in local taxation from source-based to destination-based by arguing that the relevant statutes had never been source-based to begin with.[5] Bills have been filed with the Texas Legislature to reverse at least some of these changes.[6]
Notable Additions to the State Tax Automated Research (“STAR”) System
Franchise Tax
Research and Development Credits
STAR Accession No. 202301007L (Jan. 19, 2023)—In memo to Audit, Tax Policy states that taxpayers can’t amend out-of-statute reports to claim research and development credits and credit carryforwards. Tax Policy cites as support for this position the statute of limitations found in Tex. Tax Code § 111.107(a) (When Refund or Credit is Permitted): “Except as otherwise expressly provides . . . the comptroller may make a refund or issue a credit for the overpayment of a tax imposed by this title at any time before the expiration of the period during which the comptroller may assess a deficiency for the tax and not thereafter . . .” (emphasis added).
Sales and Use Tax
Credit Reporting Services
STAR Accession No. 202301006L (Jan. 17, 2023)—In this memo to Audit, Tax Policy states that its determination that credit ratings of legal entities are subject to sales and use tax as a credit reporting service, while credit ratings of debt obligations aren’t taxable, which Tax Policy first set out here, should not be applied until April 1, 2023.
Sale for Resale
Comptroller’s Decision No. 117,608, 117,661 (2022)—The ALJ denied a taxpayer’s claim for refund of sales or use tax paid for candy, plush animals, small toys, glassware, stand-alone consoles and video games, clothing, and other various prizes (collectively, “plush”) that could be won by Taxpayer’s customers from coin-operated machines. The taxpayer claimed that its purchases of plush were exempt from tax under the sale for resale exemption.[7] During the periods at issue, the sale for resale exemption did not apply to the sale of a taxable item to a purchaser who acquired the item for the purpose of performing a nontaxable service.[8] During those same periods, the provision of amusement services through coin-operated machines is exempt from sales or use tax.[9] Thus, the ALJ found that the purchases of plush didn’t qualify for the sale for resale exemption. Moreover, the ALJ rejected the taxpayer’s argument that the Texas Supreme Court’s decision in Combs v. Roark Amusement & Vending, L.P., 422 S.W.3d 632 (Tex. 2013), which dealt with a previous version of the statute, dictated an opposite result.[10]
Motor Vehicles Sales, Use, and Rental Tax
Seller-Financed Sales
Comptroller’s Decision No. 118,612 (2022)—The ALJ found that a dealer making seller-financed sales of motor vehicles owed motor vehicle sales tax on the total consideration received for motor vehicles when the dealer failed to apply for title and registration within 60 days after the date the motor vehicles were delivered to purchasers.[11] The ALJ rejected the argument the dealer’s subsequent repossession of certain vehicles affected the amount of tax due on those sales.[12]
[1] Citing Instrumentality, Black’s Law Dictionary 952 (11th ed. 2019).
[2] 48 Tex. Reg. 200 (Jan. 20, 2023) (quoting XM Radio Inc. at 12).
[3] 48 Tex. Reg. 200.
[4] 48 Tex. Reg. 394 (Jan. 27, 2023).
[5] 48 Tex. Reg. 394-95 (Jan. 27, 2023).
[6] H.B. 1465, 88th Leg., R.S. (filed Jan. 19, 2023); S.B. 333, 88th Leg., R.S. (filed Dec. 21, 2022); H.B. 432, 88th Leg., R.S. (filed Nov. 14, 2022).
[7] See Former Tex. Tax Code § 151.006 (“Sale for Resale”); Tex. Tax Code § 151.302 (Sales for Resale).
[8] Former Tex. Tax Code § 151.006(c) (effective Oct. 1, 2011, through June 9, 2019) (“A sale for resale does not include the sale of tangible personal property or a taxable service to a purchaser who acquires the property or service for the purpose of performing a service that is not taxed under this chapter . . . .”).
[9] Former Tex. Tax Code § 151.335(a).
[10] In Roark Amusement, the Texas Supreme Court had held that a coin-operated crane machine was a taxable amusement service and that the toys dispensed by the machine qualified for the sale-for-resale exemption because they were tangible personal property acquired for the purpose of being transferred to the customer as “an integral part of a taxable service.” Roark Amusement, 422 S.W.3d at 635. The Court had determined that the fact that coin-operated machines that provided an amusement service were exempt from tax under Former Tex. Tax Code § 151.355(a) didn’t change the fact they were in the first instance a taxable amusement service. Id. at 636-37.
After Roark Amusement, the Texas Legislature has amended the sale-for-resale exemption with the stated aim of eliminating the exemption with respect purchases transferred as part of a service that was not taxed. See, e.g., S.B. 1, 82d Leg., C.S. (2011); S.B. 1525, 86th Leg., R.S. (2019). The taxpayer in Comptroller’s Decision Nos. 117,608 and 117,661 apparently argued that the use of the phrase “not taxed” in Tex. Tax Code § 151.006(c) should have the same meaning as “taxable” as determined under Roark Amusement—in other words, “not taxed” should mean not capable of being taxed as an amusement service. The ALJ disagreed.
[11] A “seller-financed sale” is a retail sale completed by a motor vehicle dealer in which the seller collects all or part of the total consideration in periodic payments and retains a lien on the motor vehicle until all payments have been received. Tex. Tax Code § 152.001(15) (Definitions). A dealer who makes a seller-financed sale must apply to the appropriate county tax assessor-collector to title and register the motor vehicle by filing an application for Texas title and/or registration no later than the 45th day after the date the motor vehicle is delivered to the purchaser. Id. § 152.069(a) (Registration of Motor Vehicle Using Seller-Financing); 34 Tex. Admin. Code § 3.74(c)(1)(A) (Seller Responsibility). The dealer must collect and remit motor vehicle tax on the total consideration for the motor vehicle at the time the application for Texas title and/or registration is presented to the county tax assessor-collector or collect and remit the motor vehicle tax to the Comptroller as the payments are received. 34 Tex. Admin. Code § 3.74(c)(1)(B)(i), (ii). If the seller fails to apply for title and registration for a motor vehicle sold in a seller-financed sale by the 60th day after the date the motor vehicle is delivered to the purchaser, the seller is liable for all unpaid tax on the total consideration. See Tex. Tax Code § 152.047(f) (Collection of Tax on Seller-Financed Sale); 34 Tex. Admin. Code § 3.74(e)(5).
[12] Citing Tex. Tax Code § 152.047(f); Comptroller’s Decision No. 112,479 (2016); STAR Accession No. 9309L1257C04 (Sept. 10, 1993).
