PA Tax Law News -- September 2012

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IN THIS ISSUE:  Online Advertising  l  PA Sales Tax Prepayment Option  l  State & Local Tax Seminars  l  PA School Districts Seek to Increase Property Taxes  l  Florida Domicile Upheld  l  Nonresident Limited Partners Lose Entire Investments  l  Credits for Annuities Sustained  l  Tax Collectors Must be Adequately Compensated  l  Contribution to Construction Costs  l  Act 55 Charitable Exemption Standards  l  A Digital Deal You Can’t Refuse  l  Religious Camp Exemptions

 

Online Advertising, Including Click-Thru, Does Not Establish PA Nexus

by James L. Fritz

 

With Pennsylvania’s September 1 deadline approaching for the commencement of sales tax collection by online vendors having in-state affiliates or PA-based website sales agents, the Department of Revenue issued a letter ruling on August 28 clarifying the line between online solicitation and mere advertising.  The ruling indicates that simply having ads on a PA website does not equate to in-state solicitation by a representative that would create nexus for the advertiser.

Furthermore, nexus is not created even if the ad includes a link to the website of the seller, so long as the host of the click-thru ad is not compensated on the basis of sales generated.  If compensation is based on a percentage of sales generated, the seller will have nexus and be required to collect PA sales tax.

In a press release issued August 30, Secretary of Revenue Dan Meuser was quoted as saying, “We are very pleased with the response we received from e-commerce companies so far.”  With multiple sources reporting that Amazon.com is complying, it would appear that Pennsylvania’s mainstreet retailers may  have a more even playing field for the prime fall selling season.

PA Sales Tax Prepayment Option Effective In October

by James L. Fritz

 

As noted in our last newsletter, vendors having PA sales tax liability of at least $25,000 and less than $100,000 during the 3rd quarter of 2011 will have an alternative prepayment option, starting with the prepayment due October 22.  In lieu of remitting 50% of the tax liability for the same month of the previous year, qualifying vendors may base the prepayment on 50% of the tax liability for the current month.  Vendors who remitted $100,000 or more in the 3rd quarter of 2011 must continue to remit 50% of the tax for the same month in the prior year.

State & Local Tax Seminars - Sign Up TODAY

This Fall, the McNees SALT group will offer two opportunities for clients and friends to catch up on significant SALT developments.

On November 7, a full-day seminar will be offered at the Eden Resort in Lancaster, PA.  The morning sessions will cover Pennsylvania legislative, judicial and administrative developments.  The afternoon sessions will include a review of multistate nexus rules, multistate treatment of cloud computing and pointers for evaluating possible local real estate assessment appeals.

On November 13, a morning-only session in State College, PA will cover Pennsylvania legislative, judicial and administrative highlights.

Additional information and registration forms may be accessed on the event page here.

PA School Districts Seek to Increase Property Taxes of Selected Businesses

by Timothy J. Horstmann

 

A new and growing trend in the field of property tax assessment continued this summer, as school districts in the eastern part of the state filed what could be a record number of appeals of selected property owners’ tax assessments.  Montgomery County was an especially popular location for school district-initiated appeals, along with Northampton, Delaware, Chester and Schuylkill Counties.

 

The growth in the filing of such appeals may partially be the result of increasing efforts by property tax consultants to sell their services to taxing authorities.  The combination of cuts in state school subsidies, rising pension obligations, and new restrictions on the ability to raise millage rates has made school districts more receptive to such offers.  Often working on a contingency fee basis, consultants will offer to review a district’s tax rolls, identify high-value parcels that may be under-assessed, and make recommendations on appeals, all without charging any up-front fees.  For many cash-strapped schools, the offer may be too good to resist.

 

In an effort to prevent some of these appeals, in October 2011, State Senator David Argall introduced legislation which would prohibit a taxing authority from initiating such an appeal if the basis for the appeal was a recent sale of the property.  The proposed legislation, Senate Bill 1309, has since been amended to permit such appeals where the aggregate additional tax revenue to be gained from the appeal exceeds $10,000.  Thus the bill would not protect many commercial and industrial property owners.  The bill was assigned to the Senate Finance Committee in June 2012, with no further action taken to date.

 

While some property owners may be familiar with the requirements for initiating an appeal of their tax assessment, an appeal initiated by the school district presents unique challenges.  Property owners targeted by these appeals will face a number of difficult questions.  For instance, does a property owner need an appraisal at the hearing?  What can property owners expect from the school district by way of evidence at these hearings?  Are these targeted appeals even appropriate under the law given the statutory prohibition of “spot assessments”?

 

If your property has been challenged, please contact Bert Goodman, Randy Varner, Tim Horstmann or another member of the McNees State and Local Tax group to discuss how to defend against a tax increase.

 

Florida Domicile Upheld

by James L. Fritz

 

A man who maintained homes in both Pennsylvania and Florida was domiciled in Florida and, thereby, was not subject to local Earned Income Taxes imposed by North Union Township and Laurel Highlands School District in Fayette County.  Southwest Regional Tax Bureau v. Kania, No. 2038 C.D. 2011, Commonwealth Court, July 26, 2012.

 

Mr. Kania has owned a home in Pennsylvania for 46 years and one in Florida since 1982.  In 1998 he changed his domicile from Pennsylvania to Florida.  In response to suit for collection of the local Pennsylvania Earned Income Tax, he testified to the following:

 

  • With wife, spends 55% of time in Florida, 35% in Pennsylvania and 10% traveling
  • Registered and voted in Florida since 1998
  • Two vehicles registered in Florida
  • Florida drivers license
  • Bank accounts in Florida
  • Uses Florida address on tax filings
  • Works from Florida (address on business cards) for PA-based accounting firm
  • Resigned from various Pennsylvania boards
  • Serves on various Florida boards
  • Pennsylvania Personal Income Tax returns erroneously listed local residence code

The Commonwealth Court ruled that this testimony and certain corroborating documents were adequate to support the lower court’s finding that Mr. Kania changed his domicile from Pennsylvania to Florida before the tax years at issue.

Members of the McNees State and Local Tax group can advise taxpayers desiring to document a change of domicile for PA state or local tax purposes.

Nonresident Limited Partners Lose Entire Investments but Still Subjected to Large PA Tax Bills

by James L. Fritz

 

On August 16, the Commonwealth Court upheld its perplexing January 2012 decisions that nonresident limited partners who lost their entire investments in a partnership owning Pennsylvania real estate, and who apparently had no tax benefit from their shares of the partnership’s operating losses over a period of years, could somehow be subject to substantial amounts of Pennsylvania Personal Income Tax on their shares of the partnership’s “gain” on forgiveness of indebtedness resulting from foreclosure on a non-recourse mortgage.  Robert J. Marshall, Jr., et al. v. Commonwealth, No. 933 F.R. 2008; Thomas Shaker v. Commonwealth, No. 932 F.R. 2008; John K. Houssels, Jr. v. Commonwealth,  No. 757 F.R. 2008; Ernest & Beverly Wirth v. Commonwealth, No. 424 F.R. 2008.  [One of the January 2012 decisions is reported at Robert J. Marshall, Jr. v. Commonwealth, 413 A.2d 67 (Pa. Cmwlth. 2012).]

 

The underlying real estate was purchased by the partnership for $360 million, of which $308 million was financed with the non-recourse mortgage.  Under the terms of the loan, interest was imposed at 14.55% and, if not paid, was deferred and compounded.  At the time of foreclosure, the total owed was $2.6 billion - $308 million of principal and $2.32 billion of accrued interest.  According to the lone dissenting opinion in these cases: 

 

There is nothing in the record to suggest that the property was worth anywhere near $2.6 billion, or for that matter, that even the original purchase price could have been recovered.

We would have to fill more than one entire newsletter to walk readers through the court’s full analysis.  Instead, we will simply note that these cases probably will be appealed to the Pennsylvania Supreme Court and point out a few of the issues of general concern which presumably will be further addressed by the Supreme Court.

First, the Commonwealth Court’s decision leaves in place a substantial disparity in treatment of the partnership’s nonresident investors as compared to the investors who resided in Pennsylvania, and this disparity seems to result from an apparent inconsistency between the court’s analysis of the Commonwealth’s constitutional ability to tax the nonresident investors and its ability to tax the nonresident investors’ particular gains and losses.

Analytically, the partners here had two taxable events.  One was their proportionate share of the deemed gain on forgiveness of indebtedness resulting from the foreclosure.  A second was each partner’s loss on liquidation of the partnership, which here occurred in the same tax year as the foreclosure.

The Pennsylvania resident partners were permitted to offset the gain on foreclosure with the loss on liquidation.  However, the nonresident partners were not permitted to recognize the loss on liquidation for Pennsylvania tax purposes.  The court’s explanation for this was that intangible assets, such as a limited partnership interest, are deemed to reside where the holder is domiciled, with the result that any gain or loss respecting the disposition of a limited partnership interest owned by a nonresident is not sourced to Pennsylvania.  The disparity, therefore, in the eyes of the court, resulted from constitutional limitations on Pennsylvania’s ability to impose extra-territorial taxation.

This, however, seems to clash directly with the court’s conclusion that the nonresident investors in these cases could constitutionally be subjected to tax on the partnership’s income precisely because they held the limited partnership interests.  The court held that Due Process was not violated in treating the nonresident taxpayers as being taxable in Pennsylvania because they had intentionally invested in a partnership whose only investment was Pennsylvania real estate.  While the court certainly cited to relevant precedent in reaching its disparate conclusions, one would think that our country’s founders might cringe if they knew their founding principles had been applied in such manner as to justify a state’s imposition of hundreds of thousands of dollars of income tax on nonresident investors while allowing other investors to escape such tax where the only factual distinction is that they were residents of the state.  The result in this case seems to turn the principles underlying the United States Constitution on their head.

A second issue which hopefully will be addressed by the Pennsylvania Supreme Court is the fundamental question of what constitutes “income” for Pennsylvania Personal Income Tax purposes.  In these cases, the taxpayers lost their investments.

Inasmuch as the indebtedness eliminated in foreclosure was nonrecourse, the investors really received no benefit from the forgiveness.  They had no obligation to pay the debt to begin with and they received no distribution in cash or otherwise as a result of the foreclosure.  Furthermore, the partnership itself never made a profit on operations and lost its only significant asset in foreclosure.  The bank which made the loan to the partnership assumed virtually the entire risk that it would never collect what it was owed.  The bank relied entirely on the value of the real estate and, although the record before the court does not seem to clearly address the issue, it would appear that the real estate was not worth anything near the value which the bank allowed to accrue before it foreclosed.

In common sense terms, how can an investor be subject to “income” tax when he or she lost their entire investment and received no other benefit as a result of their investment?  Could the Legislature ever have intended to impose tax in this circumstance?  As noted by the dissent in these cases, there is prior precedent suggesting an approach more focused on economic realities.  It will be interesting to see whether the Pennsylvania Supreme Court, which in many past tax cases has rejected “technical” arguments by taxpayers, will follow the technical approach taken by the Commonwealth Court majority or will look for a “substance over form” approach which reaches for a more common sense result.

The third issue we wish to highlight is the “tax benefit rule.”  The Commonwealth Court has ruled that the taxpayers in these cases are not entitled to relief under this rule. The writer of this article has found the guidance provided by the Department of Revenue respecting the scope and application of this rule in the Pennsylvania context to be confusing.  The Commonwealth Court’s ruling in these cases does little to clarify the confusion - if anything, the court’s application of the rule adds to the complexity.

In very general terms, it seems to the writer of this article that the tax benefit rule is a rule which addresses inequities resulting from artificial constructs utilized in computing tax on the annual basis.  For example, a taxpayer may take a depreciation deduction for an asset which has not depreciated at all in value.  In other cases, there may be some diminution in value but the depreciation deduction may be more than that amount.  When an asset is sold, it may generate a “profit” solely because its basis was reduced by depreciation for tax purposes - not because the asset has sold for more than the taxpayer paid for it.  If the taxpayer realized some “benefit” from the depreciation deduction he or she took (e.g., offsetting other income), then it seems fair to tax the artificial gain on the sale of the asset which was depreciated for tax purposes.  However, if the taxpayer received no benefit from the depreciation deductions and the asset is sold for less than was paid for it, common sense suggests there is no actual gain which should be taxed.

In these cases, if the taxpayers had benefitted from partnership losses recorded on an accrual basis, then they should, perhaps, have been taxed on the “gain” experienced when the partnership’s sole asset was foreclosed.  However, the cases here suggest that the taxpayers realized no “benefit” from the interest and other deductions generated by the partnership.  Furthermore, at the partnership level, only a small fraction of interest deductions actually offset operating receipts.  Inasmuch as they lost their investments and otherwise actually realized no real gain on the foreclosure, why would the taxpayers be taxed on their partnership’s relief from paying the accrued interest?  Shouldn’t the courts apply some sort of “tax benefit rule” here to reach a more logical result?

The Commonwealth Court actually rejected eleven distinct objections (“exceptions”) lodged by the taxpayers against the court’s original, January 2012 decision.  Any reader desiring to review copies of the Commonwealth Court’s decisions in these cases may contact a member of the McNees SALT group.  We look forward to reporting the Pennsylvania Supreme Court’s decision when it is rendered.

Credits for Annuities Sustained

by James L. Fritz

 

An equal division (3-3) of the Pennsylvania Supreme Court has resulted in the affirmance of a 2010 Commonwealth Court decision allowing credit against premiums tax liability for Pennsylvania Life and Health Insurance Guaranty Association assessments paid by companies selling fixed premium annuities.  Allstate life Insurance Co. v. Commonwealth, No. 68 MAP 2010, August 2, 2012, affirming 992 A.2d 910 (Pa. Cmwlth. 2010).  Suspended Justice Orie Melvin did not participate in the case.

 

The statute indicates that all assessments were intended to be recoverable, either by increasing premiums or (where premiums are fixed) by taking credit against the issuer’s Pennsylvania premiums tax.  The statute provided for the creditable portion of an assessment to be determined by applying a fraction whose denominator included all premiums and the numerator included fixed premiums.  However, only the statutory language addressing the denominator included annuity premiums.  The numerator language referenced only premiums from “life or health and accident” policies.  Finding the omission of annuity premiums to be inconsistent with other sections of the statute and with legislative intent, the justices supporting the result below considered the statute ambiguous and ruled that annuities must be considered in order to effectuate the express purpose of the assessment and credit statute.

 

The three justices supporting the Commonwealth Court’s decision did not specifically discuss the lower court’s determination that a separate fraction must be applied to the annuity portion of the Guaranty Assn. assessments.  However, this aspect of the decision below was implicitly sustained.

 

Three other justices would have reversed the Commonwealth Court, on the basis that the plain language of the numerator provision was not ambiguous and must be enforced to exclude annuities from the numerator (thereby assuring zero credit for assessments made against annuities).

 

Civil Unions - Inheritance Tax

The Commonwealth Court has ruled that a New Jersey Civil Union is not the equivalent of a marriage for PA Inheritance Tax purposes.  Estate of Sharon Warnack, 47 A.3d 160 (Pa. Cmwlth. 2012).

 

Tax Collectors Must be Adequately Compensated - School Board Powers are Limited

by James L. Fritz

Local school districts seeking to starve-out local tax collectors in favor of a centralized collection system have been rebuffed by the Pennsylvania Supreme Court and told that fundamental changes to the local tax collection system must be made by the State Legislature.  Telly, et al. v. Pennridge School District, et al., Nos. 68, 69 MAP 2011, August 20, 2012.

Two school districts reduced tax collector compensation by 69% and 79% respectively.  The tax collectors appealed, asserting that they could not provide statutorily-mandated services at the new pay levels.  One tax collector testified that she collected $25 million of taxes on 5,500 tax bills in prior year and was compensated $12,876.  The new pay level would have been $3,860.  The tax collector testified that her costs exceeded that amount.  Others testified to similar effect.

The school districts presented testimony that their taxes could be collected more cost effectively through a bank lockbox system or a commercial tax collection agency.

The Bucks County Court of Common Pleas ruled in favor of the tax collectors, finding that although boards of school directors are authorized to set tax collector compensation, the amount fixed must be reasonable.  The court noted that school districts have only the powers provided by state statute and that the Legislature would not have intended for school districts to use their power to set tax collector compensation as a means to eliminate the tax collector system which was, itself, established by action of the Legislature.

The Commonwealth Court reversed, holding that the school boards had acted within the broad discretion afforded by the statutory delegation of authority to set tax collector compensation.

The Pennsylvania Supreme Court overruled the Commonwealth Court, providing an ultimate resolution favorable to the tax collectors.  The Court, like the original trial court, noted that Pennsylvania’s local school boards have no inherent governmental powers and may only take such actions as are authorized by the Pennsylvania Constitution or are explicitly or impliedly authorized by statutes enacted by the General Assembly.  The Court ruled that the actions of the school boards in this case exceeded their authority because “the compensation rates were so low as to deprive the Tax Collectors of the ability to perform the duties of their elected positions ….”

While this case relates, in the first instance, to a question that only indirectly impacts Pennsylvania taxpayers, it does demonstrate that tax-related statutes cannot be interpreted solely on the basis of their language.  Rather, the proper application of tax laws often requires an understanding of the fundamental relationships between the branches and agencies of state and local governments, and a balancing of various related considerations.

Contribution to Construction Costs Supports Charitable Exemption

by James L. Fritz

 

In June, the Commonwealth Court addressed another issue of interest to nonprofit entities seeking charitable exemptions from Pennsylvania Sales & Use Taxes and local real estate taxes - whether a substantial contribution to construction costs may help satisfy the requirement that a charitable institution “donate or render gratuitously” a substantial portion of its services, and may help “relieve the government of some of its burden.”  Panther Valley School District v. Carbon County Board of Assessment, No. 1840 C.D. 2011, June 22, 2012.

 

In this case, an organization sought exemption for its recently-constructed, low-income housing facility for the elderly.  The county’s assessment appeals board approved exemption, which was upheld on appeal to the Carbon County Court of Common Pleas.

 

On further appeal, a three-judge panel of the Commonwealth Court relied extensively on the trial court’s analysis of certain issues specific to federally-subsidized housing.  Of more general interest to the charitable community, however, was the court’s treatment of contributed construction costs under the second and fourth elements of the so-called “HUP Test.”  In Hospital Utilization Project v. Commonwealth, 507 Pa. 1, 487 A.2d 1306 (1985) (HUP) - a sales tax case - the Pennsylvania Supreme Court held that an organization seeking charitable exemption from any Pennsylvania tax must satisfy Article VIII, Section 2(a)(v) of the Pennsylvania Constitution and synthesized the following five requirements from prior cases:

 

    (1)    Advance a charitable purpose;

    (2)    Donate or render gratuitously a substantial portion of its services;

    (3)    Benefit a substantial and indefinite class of persons who are legitimate subjects of charity;

    (4)    Relieve the government of some of its burden; and

    (5)    Operate entirely free from private profit motive.

 

In this case, the school district argued that a one-time $600,000 contribution to construction costs could not be equated to a donation of a substantial portion of the organization’s services, in satisfaction of the second element of the HUP Test.  The court disagreed:

 


The services offered by CHC begin with, and could not be provided absent, the construction of the housing facility for low-income senior citizens.  CHC contributed a significant portion of these construction costs.

 

The court further held that the contribution to construction costs also helped to satisfy the fourth prong of the HUP Test because, absent the contribution, the government would have been forced to pay for construction of such a facility.

 

The author of this article once faced a trial judge who didn’t seem to understand the significance of building fund contributions.  It is good to see a Pennsylvania appellate court recognize that such contributions provide a continuing subsidy to services provided from the facility constructed with such funds.

 

Act 55 Charitable Exemption Standards Undermined Further

 

by James L. Fritz

 

The usefulness of the objective Charitable Exemption Standards set out in Act 55 of 1997, the Purely Public Charity Act, seems to have been further undermined by a recent Commonwealth Court decision.  As discussed in our May newsletter, the Pennsylvania Supreme Court finally settled the question of whether the Act 55 standards trump prior court decisions interpreting Article VIII, Section 2(a)(v) of the Pennsylvania Constitution - providing for charitable tax exemptions. 

In Mesivtah Eitz Chaim of Bobos, Inc. v. Pike County Board of Assessment Appeals, ___ Pa. ___, 44 A.3d 3 (2012), our Supreme Court held, as presaged in earlier cases, that an applicant for Charitable Exemption must prove compliance with the Court’s “HUP Test” (see discussion in accompanying article on “Contribution to Construction Costs …”) before addressing the more objective tests in Act 55.  Now, in Appeal of Dunwoody Village, No. 1311 C.D. 2011, July 9, 2012, the Commonwealth Court has interpreted some of the HUP Test factors to establish more strict requirements than those set out in Act 55.

Although Act 55 was intended to provide more definitive, objective standards that would both be consistent with past court decisions and provide more helpful guidance to potentially exempt organizations and local governments, the trend now seems to be back to Pre-HUP days when exemptions were determined on a case-by-case basis under very generally described criteria leaving much to the imagination (or at least to the thought processes of the members of the highest court to deal with a particular exemption claim).

In some respects, the Dunwoody Village decision is unremarkable.  The continuing care retirement community did not advance a charitable purpose because it charged substantial entrance and periodic fees, and catered primarily to well-heeled seniors - not to elderly persons in general.  Similarly, serving well-heeled seniors does not constitute service to an “indefinite class of persons who are legitimate subjects of charity.”  Serving zero Medicaid patients and a small number of subsidized Medicare patients did not significantly “relieve the government of some of its burden.”  And, because a significant component (18-24%) of executive compensation was based on financial or marketplace performance, the institution failed to “operate entirely free from private profit motive.”

 

More troubling, however, was the court’s conclusion that the institution failed to “donate or render gratuitously a substantial portion of its services” even though it provided “uncompensated services” (i.e., the subsidy of costs) representing almost 7.5% of the total cost of services.  This exceeded one of the Act 55 provisions treating as “substantial” any subsidy equal to or greater than 5% of the institution’s costs.  Instead of the objective test from Act 55, the court applied a “totality of the circumstances” test.  Because the institution charged significant entrance fees and monthly fees, and had no Medicaid residents, the court ruled that “[i]t does not appear from the facts that [the institution] makes a bona fide effort to service primarily those who cannot afford the usual fee.”

 

The court’s holding could be read to call into question whether a general subsidy of operations exceeding 5% of costs, in any circumstances, is sufficient to satisfy the HUP Test.

 

It seems more likely to the author of this article that the court somewhat allowed the institution’s failure to serve a “class of persons who are legitimate subjects of charity” to color its ruling on what degree of service subsidy will be considered “substantial.”  In any event, the court’s reliance on the nebulous “totality of the circumstances test” certainly encourages all sorts of subjective, standardless attacks on the exempt status of Pennsylvania charities.

 

In addition, in a footnote, the court intimated that the institution’s provision of retirement and savings plans to its employees - which the court did not view as “excessive by themselves”  - were an element supporting the conclusion that the institution “does not expend all its revenue in furtherance of a charitable purpose.”  One therefore must wonder, at least rhetorically, whether the provision of similar benefits to government employees can be considered an expenditure of public funds for public purposes, as opposed to the diversion of public funds to private benefit.

 

A Digital Deal You Can’t Refuse - But What About the Tax?

by Randy L. Varner 
 

Many individuals now use services like Facebook and Twitter as their primary tool to keep in touch with friends and family, as well as to keep up on news, sports and weather.  It would be fair to compare these social network sites to a 21st Century version of a colonial town square.  Even the term “posting” takes one back to colonial days when pamphlets and broadsides would be posted so that citizens could find out the news of the day.  It is not difficult to imagine merchants of the time posting offers for dry goods, wagon wheels and the like in public places. 

 

So too, in our 21st Century town square, merchants have taken to posting offers on social network sites.  These postings often take the form of group “deals of the day” in which vouchers or coupons are sold by a marketing company which are redeemable for a particular merchant’s goods or services, assuming enough people purchase the vouchers. 

 

For instance, I may agree to purchase a voucher redeemable for $100 worth of widgets at Joe’s Widget Shop for $75.  If enough people join me and the deal goes live, my transaction with the online marketer is completed and I have my $75 for $100 voucher to use at Joe’s Widget Shop. While the seller of the wagon wheel in 1750 Philadelphia didn’t have to worry about collecting sales tax (and if he did, it would have been an easy calculation), the sellers of these vouchers--and ultimately the merchants of the goods and services accepting the vouchers--do.  So, there are two sales tax issues that arise from these coupons: (1) whether the initial sale of the coupon is subject to sales tax; and (2) assuming the good or service covered by the coupon is subject to tax, how does the merchant determine the sales price of the transaction?

The Initial Sale of the Voucher

Recall that the initial sale of the voucher is not made by the merchant itself; rather, it is done by a third-party marketer who will keep a portion of the revenue as a fee.  In most states, including Pennsylvania, this would not be a taxable transaction because it is not a sale of tangible personal property or an enumerated service subject to sales tax.  In essence, when I buy the voucher I am exchanging $75 in cash for $100 in credit—which is not a taxable transaction.  When I redeem my voucher at Joe’s Widget Shop, however, there will be a taxable event.

 

Redeeming the Voucher

The analysis with respect to the redemption of the voucher is much more difficult.  Let us imagine that I am at the cash register at Joe’s Widget Shop and I have chosen $100 worth of his widgets to purchase with my $75 for $100 voucher.  Joe will have to collect sales tax on the transaction—but how much?  What is the actual purchase price?  Should he collect it on $75 or $100…or some other amount?

 

A survey of states that have issued guidance shows that they take one of two approaches: (1) treating the transaction like a typical coupon or discount transaction resulting in charging tax on $75, the amount of the voucher; or (2) treating the transaction like a gift certificate transaction in which tax would be calculated on the full $100.

 

In examining the first approach, the voucher would simply represent a discounted price ($75) from the retail price ($100), and sales tax would be paid on the discounted price ($75), plus any additional consideration paid at the time of transaction.  By way of illustration:

 

(a)  If I picked out exactly $100 worth of widgets at retail price, Joe would calculate my sales tax on $75; and

 

(b)  If I actually picked out $150 worth of widgets at retail price, I would owe Joe $50 above my voucher amount at the time of the transaction.  Joe would calculate my sales tax on $125 (the voucher amount of $75 plus the additional $50).

 

It is important to note that some states require that the amount the customer paid for the voucher be listed on the face of the voucher or the retailer otherwise be aware of the amount the customer paid.  In those states, absent those requirements, tax is required to be calculated on the full retail price.With respect to the second approach, in states that subscribe to the “gift certificate” method, the sales tax calculation is simply performed on the retail price.  In effect, these states view the voucher as simply a credit to the total bill, one that does not affect the sales tax calculation.

 

Because there is not yet any guidance, it is not clear which approach Pennsylvania would use.  Currently, with respect to “discounts,” Pennsylvania law provides the following:

 

(2) Discounts.  Amounts representing on-the-spot cash discounts, employee discounts, volume discounts, store discounts such as “buy one, get one free,” wholesaler’s or trade discounts, rebates and store or manufacturer’s coupons shall establish a new purchase price if both the item and the coupon are described on the invoice or cash register tape.

 

61 Pa. Code § 33.2(b)(2) (emphasis supplied).

 

Therefore, my voucher for Joe’s Widget Shop, if not expressly covered by the regulation’s list of discounts, is certainly analogous to the items mentioned.  Thus, a strong argument can be made that if Joe describes the widgets and the voucher on the invoice or cash register tape, sales tax should be calculated on $75.  This argument is strengthened by the fact that at no time did I pay anyone over $75.  Yes, I received $100 worth of widgets for my $75 voucher, but this is unlike a gift certificate or gift card situation where a third party vendor or Joe himself would have received $100.

 

That is not to say, however, that Pennsylvania would not take the “gift certificate” approach, other states have, and maintain that sales tax should be calculated on the full $100.  In light of the regulation, however, that would seem to be a weaker argument.

 

As merchants and marketers become more creative with efforts to reach consumers in the digital age, sales tax issues like the ones in this article will continue to arise as new types of arrangements and transactions are developed.  Unfortunately for those on the front lines, tax guidance on these developments will be sparse until states “catch up” to the ever changing commercial landscape.  Until formal guidance is issued by states, taxpayers will be forced to analogize the new arrangements to existing authority.  Hopefully states will recognize this difficulty and not penalize those who have acted in good faith to try to do the right thing.

 

Religious Camp Exemptions Continue Under Attack

by James L. Fritz

 

In our May newsletter, we discussed the Pennsylvania Supreme Court’s decision upholding denial of real estate exemption to a religious camp.  Mesivtah Eitz Chaim of Bobov, Inc. v. Pike County Board of Assessment Appeals, ___ Pa. ___, 44 A.3d 3 (2012).  While the lower courts had applied some surprising interpretations to the court-developed “HUP Test” (see discussion of test in “Contribution to Construction Cost …” article), the Supreme Court limited its review to the question of whether statutory charitable exemption tests in Act 55 of 1997, the “Purely Public Charity Act,” trumped the court’s HUP Test.  Not surprisingly, the court held that its own, constitutionally-based test prevailed over the statute.  Immediately after the Mesivtah decision, the Commonwealth Court issued another decision denying exemption to another church-related camp.  Camp Hachshara Moshava of New York v. Wayne County Board for the Assessment and Revision of Taxes, 47 A.3d 1271 (Pa. Cmwlth. 2012).

 

In Moshava, the Commonwealth Court affirmed a county court ruling sustaining the assessment board’s denial of charitable exemption to a camp providing social, recreational and educational activities for special needs children.

 

Surprisingly, the court cited to its own unpublished panel decision in the Mesivtah case which was affirmed by the Pennsylvania Supreme Court.  Such unpublished decisions are not binding precedent.  Although they may be cited for persuasive value, it is unusual to do so.  Among the points cited was the remarkable assertion that the camp did not relieve a governmental burden because its facilities were used by the campers and children of staff and not by the local community at large.  By this standard, most colleges and institutions for the sick and infirm would fail the relief of government burden test because the institutions primarily serve persons from outside the local community.

 

With respect to Camp Moshava, the court further held that no governmental burden was relieved because the camp failed to show that its services relieve any specific burden imposed by the MH/MR Act.  The court also stated:

 

Camp Moshava has failed to demonstrate that the government is obligated to provide social, recreational or educational activities for special needs children at summer camp ….

 

It seems an unbelievably narrow position to say that an organization may qualify for charitable exemption only if it can show that it provides services that are very narrowly and specifically provided for in a state statute.

 

As the courts in this case addressed only one element of the HUP Test, it may be that this camp would have failed to qualify for exemption in any event.  However, the analysis applied in this and other recent cases makes it seem that the Commonwealth Court, if not others, is going out of its way to apply unusually stringent criteria in charitable exemption cases.  Organizations seeking exemption anew or defending their existing exempt status should consult carefully with counsel and make every effort to anticipate and prepare to meet the tight tests which they may face in the courts.


© 2012 McNees Wallace & Nurick LLC
PA TAX LAW NEWS is presented with the understanding that the publisher does not render specific legal, accounting or other professional service to the reader. Due to the rapidly changing nature of the law, information contained in this publication may become outdated. Anyone using this material must always research original sources of authority and update this information to ensure accuracy and applicability to specific legal matters. In no event will the authors, the reviewers or the publisher be liable for any damage, whether direct, indirect or consequential, claimed to result from the use of this material.

 

Published In: Business Organization Updates, General Business Updates, Communications & Media Updates, Residential Real Estate Updates, Tax Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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