Laws, Regulations & Annotations
Business Taxes Law Guide – Revision 2013
Sales And Use Tax Court Decisions
Taxpayer, a record company, purchased master tapes and records from recording artists outside of California and used the masters to produce copies of the recordings. Taxpayer also made duplicate masters and leased them to record clubs to produce copies. Taxpayer contended that: (a) its contracts with recording artists were service contracts, not sales; (b) it was entitled to produce evidence at trial that some masters were never used in California; and (c) the duplicate masters were exempt from tax because they were leased in the same form as acquired.
The court of appeal held in favor of the Board, finding that the true object of the contracts with the recording artists was for the production of the master tapes and records, not for the services of the artists. The court also held that the trial court properly refused to allow the taxpayer to introduce evidence that some masters had never been used in California, since the taxpayer had not raised that issue in its claim before the Board. The court further held that the duplicate masters and original masters were different items of tangible property, and taxpayer could not lease the duplicates tax-free as leases of property in the same form as acquired, since it produced the duplicates from the original masters. A & M Records, Inc. v. State Board of Equalization (1988) 204 Cal.App.3d 358.
Prior to 1965, plaintiff assembled and erected steel towers for a public utility from components furnished by the utility, and also erected wooden poles furnished by the utility. Section 6016.5, effective September 17, 1965, declared that for purposes of sales and use tax law, "tangible personal property" does not include telephone and telegraph lines, electrical transmission and distribution lines, and the poles, towers, or conduits by which they are supported. Prior to that date the Board had considered such items as tangible personal property for sales and use tax purposes. In this case the Board contended that plaintiff provided labor for the fabrication of tangible personal property and that charges for this labor were subject to sales tax. The court overruled the Board, holding that plaintiff was a construction contractor constructing structures on land, and the structures, because of their relatively permanent nature, constituted realty rather than tangible personal property. A. S. Schulman Electrical Co. v. State Board of Equalization (1975) 49 Cal.App.3d 180.
Plaintiff was a lessor of mobile office trailers whose usual practice was to pay sales tax reimbursement on the purchase price of the trailers and then to lease the trailers tax-free as permitted by Section 6006(g)(5) of the Revenue and Taxation Code. Plaintiff, however, failed to pay tax or tax reimbursement on the purchase of 100 of its trailers and also failed to collect use tax on these trailers based on the lease payments. When this was discovered during audit, plaintiff offered to pay tax computed on the purchase price together with interest and penalties due, but the Board determined in accordance with Regulation 1660(c)(2) that plaintiff, having failed to pay tax or tax reimbursement at the time the trailers were first placed in lease service, was required to pay an amount equal to the use taxes that should have been collected with the lease payments.
Plaintiff paid and sued for refund on the basis that the provision in the Board's Regulation 1660(c)(2) was not authorized by the statute and that plaintiff should be permitted to pay tax measured by purchase price. The court of appeal upheld the Board, finding that the Board's construction of the statute as expressed in the regulation is implicit in and required by the statute and that the propriety of the interpretation was indicated by the failure of the Legislature to dictate a contrary interpretation in any of the five amendments to the statute enacted after the adoption of the Board's regulation. Action Trailer Sales, Inc. v. State Board of Equalization (1975) 54 Cal.App.3d 125.
The Board assessed sales and use taxes against taxpayer, an aerospace company, on supplies and materials taxpayer obtained to perform a contract with the United States for research and development of space and military systems. For accounting and billing purposes, taxpayer charged materials to "indirect costs" included in "overhead", and allocated the overhead materials to specific contracts by multiple accounting methods. Taxpayer purchased the items pursuant to resale certificates given to the vendors, and no sales tax was paid at the time of purchase. Taxpayer's contract with the federal government contained a clause specifying when title to the overhead materials passed to the federal government. Based on an interpretation of a Board-issued general bulletin, and, later, a revision of Regulation 1618, the Board determined that taxpayer was liable for tax on the purchase of certain categories of overhead materials. Regulation 1618 requires proof of allocation of overhead material to a specific contract in order for title to such materials to vest in the government. Taxpayer asserted that the Board's interpretation was improper and that Regulation 1618 was invalid.
The court found Regulation 1618 to be arbitrary and in conflict with the court's holding in Lockheed Aircraft Corp. v. State Board of Equalization (1978) 81 Cal.App.3d 257, that title to property acquired for the performance of a contract with the federal government vests in the government in accordance with the title provisions of the contract. While Regulation 1618 states that title passes to the federal government in accordance with the terms of the contract, other provisions of the regulation ignore the contract. The court concluded that taxpayer's resale of overhead materials to the federal government pursuant to the contracts was exempt from sales tax under Revenue and Taxation Code Section 6381. Further, since taxpayer's use of the materials occurred after title passed to the government under the title clauses in the contracts, such use was exempt from use tax. Aerospace Corporation v. State Board of Equalization (1990) 218 Cal.App.3d 1300.
Plaintiff paid the tax assessed but did not pay the accrued interest, and filed a claim for refund. The Board denied the claim because the full amount of tax and interest had not been paid, and plaintiff then filed a suit for refund. The California Supreme Court concluded that the interest which had accrued on the delinquent tax was not part of the tax within the meaning of California Constitution Article XIII, Section 32, or Revenue and Taxation Code section 6931, so that payment of accrued interest on the tax deficiency was not a prerequisite to either an administrative claim for refund or a subsequent court action for refund of taxes. Agnew v. State Board of Equalization (1999) 21 Cal.4th 310.
Following substantial litigation in trial court and on appeal, Plaintiff Agnew and the Board stipulated to a judgment by which Agnew would receive a refund of 90%of the tax he paid arising from a certain transaction. Agnew then moved for an award of costs and attorney's fees, which the Board opposed. Revenue and Taxation Code ("RTC") section 7156 provides that, in a tax refund action, if the refund claimant is considered the prevailing party under that statute, the claimant may be awarded "reasonable litigation costs"—including reasonable attorney fees—if the trial court determines that the state's position was "not substantially justified." In its opinion, the court of appeal supported the Board on the most important legal issues regarding RTC section 7156: (1) the standard of review of the trial court's ruling on "substantial justification" is whether the trial court abused its discretion in reaching its decision, not a de novo review as Agnew had asserted; (2) a "substantially justified" position is one that is justified to a degree that would satisfy a reasonable person, or has a reasonable basis both in law and fact; and (3) the trial court did not abuse its discretion in ruling that the Board's position in this case was substantially justified. As a result, Agnew could have no recovery under RTC section 7156 of the approximately $400,000 claimed for attorney fees and costs.
The court of appeal, however, reversed the trial court's ruling that RTC section 7156 precluded an award of costs under the provisions of the Code of Civil Procedure ("CCP"). Because CCP sections 1028 and 1032 apply "[n]otwithstanding any other provision of law" and "[e]xcept as otherwise expressly provided by statute," and because RTC section 7156 does not contain an express provision disallowing a prevailing taxpayer from recovering costs except under its provisions, the court concluded that RTC section 7156 complemented, but did not supplant, the provisions of the CCP. The court remanded the case to the trial court to determine an appropriate award of costs to Agnew as the prevailing party under CCP section 1032, subdivision (b), as possibly augmented by an award of expert witness fees under CCP section 998 in the court's discretion. Agnew v. State Board of Equalization (2005) 134 Cal.App.4th 899.
An Indian Tribe operated a hotel on tribal property. It did not report and pay use tax with respect to its sales of tangible personal property to non-tribal purchasers. The Board issued an assessment for that tax and advised the Tribe that if it failed to pay the assessment within one month, the Tribe's alcoholic beverage license would be suspended. The Tribe filed suit in federal court for declaratory relief. The Board contended that the action was barred by the State's Eleventh Amendment sovereign immunity, but the court held that the Tribe's action in federal court was permitted under the doctrine of Ex Parte Young. Agua Caliente Band of Cahuilla Indians v. Hardin (9th Cir. 2000) 223 F.3d 1041.
The Board, in accordance with Sales and Use Tax Regulation 1599, had asserted tax on the sale of foreign coins on the basis that Section 6355 of the Revenue and Taxation Code exempted from tax as "bulk" sales only those sales in which the face value of the coins was $1,000 or more in United States money at the existing rate of exchange for currency, whether made of paper or metal. Section 6355 provides that a "bulk" sale shall be deemed to have occurred if the amount of coins sold in the transaction totals, in face amount, the sum of $1,000 or more, or its equivalent. The court of appeal upheld the trial court in finding portions of the regulation void because they constituted too narrow an interpretation of the statute. Where the market value of the foreign coins amounts to $1,000 or more in United States money, the transaction must be considered an exempt bulk sale. Alan Van Vliet Enterprises, Inc. v. State Board of Equalization (1977) 65 Cal.App.3d 964.
Plaintiff, an insurance company acting as surety for persons required to post security for payment of sales and use taxes, sought a refund of certain penalties paid by it on its bonds. Plaintiff contended that it was entitled to duplicate notice of tax determinations issued against its principals, so that it could make payment of the tax before the determinations became final and penalties were added thereto. The court, in affirming the judgment of the trial court, held that there is no constitutional compulsion for the state to give a duplicate notice to the surety; notice to the taxpayer is sufficient. Nor was this a situation requiring notice to the surety under Civil Code Section 2808, because the surety could have acquired notice of default from its principal through the exercise of due diligence. Lastly, the court held that when the Board requires Section 6701 bonds to be written so as to include the payment of penalty assessments in addition to principal and interest, the Board is not in violation of Civil Code Section 2773. Civil Code Section 2773 prohibits agreements to indemnify wrongdoers. The indemnity here was for the benefit of the State under a reasonable procedure to secure payment of revenue. American Fidelity Fire Insurance Co. v. State Board of Equalization (1973) 34 Cal.App.3d 51.
The Court of Appeal held that an administrative rule by the Board of Equalization that menus purchased for use in a hospital's dietary department do not qualify for the sales tax exemption for food products was valid and applied to the action, instituted five years after enactment of the rule. The court further held that the ruling was not an administrative interpretation in conflict with the legislative intent behind Revenue and Taxation Code section 6363.6. American Hospital Supply Corp. v. State Board of Equalization (1985) 169 Cal.App.3d 1088 [disapproved in part in Yamaha Corp. of America v. State Board of Equalization (1998) 19 Cal.4th 1)].
The Board filed a claim for the principal amount of tax and pre-petition interest in debtor's Chapter 11 bankruptcy. The claim also included post-confirmation interest, but did not include post-petition, pre-confirmation interest and penalties. The debtor satisfied the requirements of his confirmed reorganization plan, which did not include the post-petition, pre-confirmation interest and penalties. The Board issued an assessment for such amounts, and thereafter recorded a lien against the debtor who initiated an adversary proceeding challenging the Board's assessment and collection efforts. The debtor was personally liable for the tax debt because it was excepted from discharge by 11 U.S.C. section 523(a)(1)(A). The court held that post-petition interest on a tax debt excepted from discharge is also excepted from discharge and is recoverable against the debtor personally and thus upheld the Board's assessment. In re Artisan Woodworkers (Ward v. Board of Equalization) (9th Cir. 2000) 204 F.3d 888.
Taxpayer, which manufactured and sold soft drinks to vending machine owners and lessees who had a fixed place of business, challenged the Board's application of Regulation 1574 to the sale of soft drinks from the vending machines. Regulation 1574 provides that a person who sells tangible personal property to vending machine operators and does not notify the Board of the name and address of each operator and who fails to furnish a valid resale certificate will be regarded as the retailer of the property sold through the vending machines, and thus will be required to pay tax on such retail sales. Revenue and Taxation Code Section 6015 permits the Board, when necessary for the efficient administration of sales and use tax law, to regard dealers, distributors, supervisors, or employers as retailers.
The court of appeal held in favor of the Board, finding that Regulation 1574 was valid, and was validly applied to the sales of soft drinks from the vending machines. The court found that the treatment of vending machine sales on a classwide basis was justified, and that there was sufficient evidence that administrative efficiency necessitated Regulation 1574. In addition, the court found that the regulation was not unduly burdensome, and that the application of the regulation to taxpayer was not inconsistent with the definition of "retailer" in Section 6015.
Taxpayer also argued that its purchase of reusable bottles was not subject to the use tax, since it resold the bottles to its customers, and neither the initial filling of new bottles nor the refilling of returned, reusable bottles constituted an intervening non-sales use. The court disagreed. The reusable bottles were returned to taxpayer more than 50 percent of the time; were, on average, reused four times; and bore taxpayer's franchised trademark, as well as the words "return for deposit." Assuming that taxpayer correctly characterized the transaction as a sale of returnable bottles, the court found that the use tax was still due, since taxpayer's primary purpose in purchasing the returnable bottles was not to resell them, but to fill them with the product in preparation for selling it. Finally, the court found that returnable bottles did not fall within the exemption provided for specified containers in Revenue and Taxation Code Section 6364(c). Associated Beverage Company, Inc. v. Board of Equalization (1990) 224 Cal.App.3d 192.
Taxpayer purchased catalogs to include in each video game system and cartridge sold to customers. These catalogs described taxpayer's other video game cartridges available for purchase. The Board assessed use tax on the purchase prices of the catalogs. Taxpayer argued that it purchased the catalogs for resale as marketing aids under Regulation 1670(c). The Court of Appeal held that taxpayer was barred from contending the catalogs were purchased for resale when that issue was not raised in taxpayer's claim for refund. The court also held that the evidence supported the trial court's finding that the catalogs were advertisements for taxpayer's own use and benefit, and were not sold with the cartridges as marketing aids. Accordingly, the court held in favor of the Board. Atari, Inc. v. State Board of Equalization (1985) 170 Cal.App.3d 665.