Magazine Publishers Beware of the New Washington B&O Tax Law

As previously discussed in our blog post dated May 24, 2010, several states have taken the position that the Quill nexus standard applies only to sales and use tax.  State courts in New Jersey (Lanco, Inc. v. Director, Division of Taxation, 188 N.J. 380, 908 A.2d 176 (2006)), West Virginia (Tax Commissioner v. MBNA America Bank, 220 W.Va. 163, 640 S.E.2d 226 (2006)), and South Carolina (Geoffrey, Inc. v. South Carolina Tax Commission, 313 S.C. 15, 437 S.E.2d 13 (1993) (cert denied, 114 S.Ct. 550 (1993)) have held that economic presence (i.e., sales to the state without a physical presence in the state) is sufficient to establish nexus for state income tax.   As written in the May 24 blog post, there are other decisions (e.g. Commonwealth Edison v. Montana, 453 U.S. 609, 101 S.Ct. 2946 (1981)) that apply the Quill/Bellas Hess physical presence test to taxes other than sales tax.

By legislation, other states have adopted a gross receipts tax based on economic presence.  The Ohio Commercial Activity Tax, the Michigan Business Tax and the Texas Margin Tax are examples.  Recently, the State of Washington amended its B&O Tax, which is a gross receipts tax, with regard to the “service classification,” to require an economic nexus standard, based upon the level of service revenues to Washington.  Washington has taken an expansive view of businesses subject to the service revenue classification, which now includes businesses that publish periodicals or magazines with respect to the advertising income that such publications derive.  Since the nexus standard is quite low, this is likely to be a “sleeping dog” for most publishers.

Perhaps the limiting feature for national publications is the fact that the sourcing provisions of the new law would source advertising revenues to Washington for B&O purposes only on the basis of where the purchase orders for such advertisements were issued.  Sourcing is not based on traditional apportionment factors such as payroll and property costs.

Publishers who do not have a physical presence in Washington would have a potential constitutional challenge to the new statute.  In particular, as discussed in the prior blog post, Quill/Bellas Hess should be read to apply to gross receipts taxes, so (we would argue) that the physical presence test of Quill/Bellas Hess should apply.  Indeed, in Tyler Pipe Industries, Inc. v. Washington State Department of Revenue, 483 U.S. 232, 107 S.Ct. 2810 (1987), the U.S. Supreme Court found that the B&O Tax could be imposed on an out-of-state company because it had sales representatives operating in Washington and therefore was making a market in Washington.  While the Court did not cite to Quill or its predecessor Bellas Hess, it did cite as support for its holding National Geographic Society v. California Board of Equalization, 430 U.S. 551 (1977), which in turn relied on Bellas Hess.  Sales representatives under Quill and Bellas Hess create a physical presence.  Thus, if a publisher does not have sales representatives who operate in Washington, it should consider a potential constitutional challenge to any imposition of B&O tax on its advertising revenues.

Maine Adopts Finnigan for Determining Sales Sourced to Maine for Corporate Income Tax

Maine is a unitary state for purposes of the corporate income tax. As is true for other states (e.g., California, Illinois and South Carolina), Maine adopted the Joyce approach for sourcing of sales by entities within a unitary group that did not have nexus with Maine under PL 86-272. See Appeal of Joyce, Inc., No. 66-SBE-070 (Cal. SBE, Nov. 23, 1966). This means that Maine-destination sales by an entity without nexus would not be included in the numerator of the sales apportionment factor.

However, in recently adopted legislation, P.L. 2010, c. 571, § GG, which is effective for tax years beginning on or after January 1, 2010, Maine adopted the Finnigan approach, which was first announced by the California Board of Equalization in 1988. See Appeal of Finnigan Corporation, No. 88-SBE-022 (Cal. SBE, Aug. 25, 1988) (Finnigan I); Opin. on Pet. for Rhrg., No. 88-SBE-022-A (Cal. SBE, Jan. 24, 1990) (Finnigan II). Finnigan rejected Joyce and provided that sales by a member of a unitary group to California are included in the numerator of the combined group’s sales apportionment factor even though the entity does not have nexus with California. It is noteworthy that California later renounced the Finnigan approach and has resorted back to the Joyce approach. See Appeal of Huffy Corporation , No. 99-SBE-005 (Cal. SBE, Apr. 22, 1999). See also FTB Reg. 25106.5. What makes this result particularly severe for unitary businesses is that Maine uses only the single apportionment factor of sales.

There is an argument that Finnigan is inconsistent with Public Law 86-272 because the State is taxing a non-taxable entity. That argument, however, was rejected in Disney Enterprises, Inc. v. Tax Appeals Tribunal of the State of New York, 888 N.E.2d 1029 (N.Y. 2008), which stated that inclusion of sales in the numerator did not tax the subsidiaries but simply was a method of calculating the tax. Given the differences between the New York law and the Maine law, however, the argument that Maine’s new approach is inconsistent with Public Law 86-272 may have some force, depending on the facts and circumstances of the taxpayer.