Rulings of the Tax Commissioner

April 8, 2019

Re:  § 58.1-1821 Application:  Retail Sales and Use Tax

Dear *****:

This will reply to your letter in which you seek correction of the retail sales and use tax assessment issued to ***** (the “Taxpayer”) for the audit period of May 2010 through March 2014. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayer is a contractor with its major customer being the United States Navy. As a government contractor, the Taxpayer is involved in a variety of activities including, but not limited to, ship repair, sales of equipment to the government, services to governmental facilities, and other land-based activities both here and abroad. As a result of the Department’s retail sales and use tax audit, an assessment was issued for untaxed sales and purchases. The auditor applied penalty because the Taxpayer’s use tax compliance ratio did not meet the acceptable threshold to avoid penalty. The Taxpayer contests various transactions as set forth below.

DETERMINATION

Certificate of Exemption

The sales held taxable in the audit and the result of the extrapolation are four separate sales to one commercial customer.  Although the Taxpayer had on file a resale exemption certificate, Form ST-10, from the customer, the auditor rendered the resale exemption certificate incomplete and invalid because (i) the certificate was not dated, (ii) the name and address of the supplier (i.e., the Taxpayer) was blank, and (iii) the customer was registered for consumer use tax and not for the retail sales and use tax.  The Taxpayer contests the tax assessed on such sales, maintaining that the exemption certificate contained adequate information and that the Taxpayer accepted the certificate in good faith. The Taxpayer requests that the sales to the customer be removed from the audit.

Title 23 of the Virginia Administrative Code (VAC) 10-210-280 addresses the proper use of giving and receiving certificates of exemption and Subsection A of this regulation provides the following:

All sales, leases and rentals of tangible personal property are subject to the tax until the contrary is established. The burden of proving that the tax does not apply rests with the dealer unless he takes, in good faith from the purchaser or lessee, a certificate of exemption indicating that the property is exempt under the law. The certificate will remain in effect except upon notice from the Department of Taxation that it is no longer acceptable. However, a certificate that is incomplete, invalid, infirm or inconsistent on its face is never acceptable, either before or after notice.

Public Document 11-8 (1/20/11) discusses the good faith acceptance of exemption certificates.  It states that sellers cannot accept incomplete exemption certificates in good faith.  In cases where a taxpayer accepts an exemption certificate that is incomplete or the certificate is obtained during or after an audit, the claim for exemption is subject to greater scrutiny by the Department. The exemption certificate will be accepted only if the Department can confirm that the customer's use of the certificate was valid and proper for the specific sales transaction reviewed in the audit. For example, an undated exemption certificate does not allow an auditor to determine if the seller properly accepted the certificate prior to or at the time of an exempt sale.  Thus, there is no evidence that the certificate was accepted in good faith by the seller.

In this instance, the resale exemption certificate received by the Taxpayer did not include the Taxpayer’s name or a date. The Taxpayer later provided a complete resale exemption certificate from the customer. Upon further review, the customer is registered with the Department for consumer use tax as a provider of computer systems design services and is not in the business of retail sales. Because the certificate was incomplete and not accepted in good faith at the time of sale and is not valid for the specific sales transactions reviewed in the audit, I find no basis to remove the sales to this customer from the audit.

Rebate

The supplier offered a trade-up program in which the Taxpayer would receive a cash rebate on the trade-in of old equipment for new equipment. In this instance, the Taxpayer accrued and paid the use tax on the total purchase price of the new equipment. Upon trading in the old equipment, the Taxpayer was issued a rebate check for the three pieces of equipment traded in. The auditor assessed sales tax on the rebate amounts as miscellaneous asset sales. The Taxpayer asserts that this transaction is not a sale of assets, but is a rebate received for trading-up the old equipment for the new equipment. The Taxpayer requests that these transactions be removed from the audit.  

Virginia Code § 58.1-602 defines the term “sales price” as follows:

“Sales price” means the total amount for which tangible personal property or services are sold, including any services that are a part of the sale, valued in money, whether paid in money or otherwise, and includes any amount for which credit is given to the purchaser, consumer, or lessee by the dealer, without any deduction therefrom on account of the cost of the property sold, the cost of materials used, labor or service costs, losses or any other expense whatsoever.

This statute goes further to provide items that shall not be included in “sale price” and provides, “where used articles are taken in trade, or in a series of trades as a credit or part payment on the sale of new or used articles, the tax levied by this chapter shall be paid on the net difference between the sales price of the new or used articles and the credit for the used articles.”

In this instance, the trade-in of the old equipment did not occur simultaneously with the purchase of the new equipment. Further, the cash rebate is a form of payment from the supplier for the old equipment and did not affect the purchase price of the new equipment. Based on these facts and the documentation provided, I find that the rebate resulting from the trade-in would not reduce the “sales price” of the new equipment in accordance with the definition of “sales price” set forth in Virginia Code § 58.1-602. Therefore, the cash rebate on the old equipment is subject to the retail sales and use tax. Accordingly, the assessment is correct.

Untaxed Purchases

The Taxpayer was assessed sales tax on a number of untaxed purchases, which the Taxpayer claims were purchases for resale, tangible personal property delivered outside of Virginia, or had the Virginia sales tax paid at the time of purchase. The Taxpayer has provided additional documentation to support its position.
 
Based on the additional information provided, purchased items contained on line items 1, 19, 30, and 32 were shipped to locations outside of Virginia and will be removed from the audit sample.

Line 39 represents the rental of a motor vehicle in Dubai, United Arab Emirates (UAE). This information was extracted from the purchase order, as the Taxpayer did not have an invoice for this transaction. Because the Taxpayer was unable to provide an invoice for this transaction, the Taxpayer provides as an example an invoice from the same company for a motor vehicle rental in East Africa during the same period. Based on the fact that the transaction in question occurred outside the United States, and the property in question never entered the United States, I will agree to remove this transaction from the audit.

The Taxpayer asserts that the purchases contained on lines items 7, 22, 44, and 46 were purchases of rivets, washers, and various steel products that were incorporated into various products for resale and should be exempt purchases for resale. While documents provided by the Taxpayer indicate that these items were charged to various jobs numbers, the auditor states that he did not review any description of the jobs and was unable to determine if the items in question were resold. For this reason, I am unable to remove these items based on the information provided.

The Taxpayer provides documentation that the sales tax was paid on line item 55. Accordingly, this item will be removed from the audit.

Audit Penalty

In calculating the use tax compliance on this fifth generation audit, the auditor used the Alternative Method for Calculating Use Tax Compliance to include sales taxes paid to vendors. Under the Alternative Method, the use tax compliance ratio did not meet the acceptable threshold of 85% for waiver of audit penalty. The Taxpayer believes the auditor did not include all sales tax paid to vendors in computing the Taxpayer’s use tax compliance because the penalty is based upon a compliance percentage using the sample versus the entire population. The Taxpayer recalculated the use tax compliance under the Alternative Method using the entire population and claims that the use tax compliance ratio meets the acceptable level for waiver of penalty. 

Title 23 of VAC 10-210-2032 provides for the mandatory application of a penalty to an audit assessment based on the level of compliance exhibited by the taxpayer. Penalty is generally applied to use tax on a third or subsequent audit unless the compliance ratio meets or exceeds 85%. The use tax compliance on this, the fifth generation audit of the Taxpayer, was 81%, below the acceptable 85% threshold.  

The auditor used a percentage of tax paid to vendors in computing the compliance ratio because the total tax paid to vendors was not available. If the compliance ratio computed under the Taxpayer’s alternative method meets or exceeds the established threshold (in this case 85%), the penalty will not apply. The use tax compliance ratio will be recomputed based on the revisions to the audit set forth above. If the recomputed use tax compliance ratio meets the 85% threshold, the penalty will be abated. If the recomputed use tax compliance ratio does not meet the 85% threshold, the auditor will schedule a time to verify the Taxpayer’s use tax compliance calculations under the alternative method.

CONCLUSION

The audit will be revised in accordance with this determination. Upon completion of the audit revisions, a revised assessment will be sent to the Taxpayer. The Taxpayer should remit payment to: Department of Taxation, Attention: *****, 600 East Main Street, 15th Floor, Richmond, Virginia 23219.

The Code of Virginia sections, regulations and public document cited are available on-line at www.tax.virginia.gov in the Laws, Rules and Decisions section of the Department’s website.  If you should have any questions concerning this determination, please contact ***** in the Office of Tax Policy, Appeals and Rulings, at *****.

Sincerely,

Craig M. Burns
Tax Commissioner