1 THE CALIFORNIA STATE BOARD OF EQUALIZATION 2 450 N STREET 3 SACRAMENTO, CALIFORNIA 4 5 6 7 8 REPORTER'S TRANSCRIPT 9 JANUARY 27, 2010 10 11 SALES AND USE TAX APPEAL HEARING 12 APPEAL OF 13 JOHN HENRY DARRAL STEINHAUER 14 NO. 458651, 459600 (KH) 15 AGAINST PROPOSED ASSESSMENT OF 16 SALES AND USE TAX 17 18 19 20 21 22 23 24 25 Reported by: Juli Price Jackson 26 CSR No. 5214 27 28 1 1 2 P R E S E N T 3 For the Board Betty Yee of Equalization: Chair 4 Jerome E. Horton 5 Vice-Chair 6 Bill Leonard Member 7 Michelle Steel 8 Member 9 Marcy Jo Mandel Appearing for John 10 Chiang, State Controller (per Government Code 11 Section 7.9) 12 Diane G. Olson, 13 Chief Board Proceedings 14 Division 15 For Board of David Levine 16 Equalization Staff: Staff Counsel 17 18 For Department: Scott Lambert 19 Hearing Representative 20 Kevin Hanks 21 Chief, Headquarters Operations Division 22 23 Robert Tucker Tax Counsel 24 25 For Petitioner: Jesse W. McClellan 26 Representative 27 28 ---oOo--- 2 1 450 N STREET 2 SACRAMENTO, CALIFORNIA 3 JANUARY 27, 2010 4 ---oOo--- 5 MS. YEE: Good morning. We will call this 6 session of the Board of Equalization meeting to order. 7 Ms. Olson, our first item, please? 8 MS. OLSON: Good morning, Madam Chair and 9 Members. For this morning's meeting we have one sales 10 and use tax case, item C4, John Henry Darral Steinhauer. 11 Please come forward. Board Proceedings has 12 received contribution disclosure forms for this 13 morning's hearings from the parties, agents and 14 participants. All forms were properly completed and 15 signed. No disqualifying contributions were disclosed. 16 Ten minutes is allocated for the taxpayer's 17 opening presentation, followed by ten minutes for the 18 Department's presentation, and five minutes is allocated 19 to the taxpayer for rebuttal. 20 Ms. Yee? 21 MS. YEE: Thank you very much. 22 I guess, Members, our first case is C4, John 23 Henry Darral Steinhauer. 24 And let me have Mr. Levine introduce the 25 matter. 26 MR. LEVINE: Good morning, Madam Chair, 27 Members. The issues in this -- in these petition and 28 claims for refund are whether Petitioner's established 3 1 that the sales for which he did not take resale 2 certificates were, in fact, for resale. 3 I have just a comment on exhibits we just 4 received. 5 MS. YEE: Yes. 6 MR. LEVINE: I do not recall having seen a 7 letter that Mr. McClellan has just submitted. 8 Apparently he had an anonymous request for opinion that 9 was issued to him. 10 It looks like it may be the facts of this 11 taxpayer, or similar. The letter advises him that it's 12 not 6596, can't rely on it. 13 I note that this is one of the dangers of 14 writing anonymously. Even if it's wrong, you cannot 15 rely on it. 16 And I wanted -- I just glanced at this because 17 I have had not a chance to read it, but I just want to 18 comment. It has an attachment of pictures of 19 cabinet-type items, which I think are probably the items 20 in question or similar to the items in question, 21 depending on whether it's for this taxpayer. And the 22 author concluded that they were fixtures. 23 I just want to comment. Something that's -- 24 you look at when it's installed and you say it's a 25 fixture, cabinets are fixtures. That's not disputed. 26 But sometimes, even when you say that is a 27 fixture, it's going to be a fixture, under the 28 regulation with the 10 percent rule, which I think 4 1 they'll argue about, so, I'm not going to go into much 2 detail, whether it's a fixture at the time of 3 installation depends on how much fabrication is done by 4 the contractor as part of the installation. 5 And I do not know if that's covered in this 6 letter because it may not have been part of the facts. 7 These items are fixtures when they're installed, no 8 doubt about it. 9 MS. YEE: Okay, very well. 10 Thank you, Mr. Levine. 11 MS. STEEL: Can I ask Mr. Levine just one 12 thing? 13 MS. YEE: Yes. 14 MS. STEEL: If it's not reliable and, you know, 15 they cannot use it, then why we even sending this kind 16 of letters out when they request? 17 MR. LEVINE: Quite frankly -- 18 MS. STEEL: Maybe we should not do it. 19 MR. LEVINE: -- quite frankly, it's a courtesy. 20 We do it for free. We warn them that they 21 can't. 22 We've tried in the past -- I don't know if 23 they -- I know when I was doing these, when we got an 24 anonymous letter, we required them -- the last few years 25 I was doing this -- we required them to assure us that 26 they did not have a current administrative matter 27 because we couldn't check who they were asking about. 28 And we always warned them, "You can't rely on it." 5 1 And when I talked to people, they would -- 2 representatives, and I'd say, "You know, you're not 3 going to be able to rely on the opinion. We'll give it 4 to you." 5 They said, "My client won't let me disclose." 6 "Okay, but the risk is you may rely on 7 something and we may change -- we may find it's wrong." 8 And you're right, it's a problem. But it's a 9 matter of courtesy that we try and help the 10 representatives who ask us for these opinions and give 11 us guidance. 12 And the opinions, certainly from the Legal 13 Department, are not going to be wrong very often. We do 14 our best to make them right. 15 But I believe that the opinion section probably 16 still has an extra layer of review on letters that 17 qualify under 6596 that are not given to anonymous 18 letters -- for the very reason that the State can lose 19 money if we're wrong. 20 MS. YEE: Thank you, Mr. Levine. 21 Good morning, Mr. McClellan, welcome back. 22 MR. MC CLELLAN: Good morning. 23 MS. YEE: If you'll formally introduce 24 yourself? 25 And you have ten minutes. 26 MR. MC CLELLAN: Thank you, Madam Chair and 27 Members of the Board. 28 My name is Jesse McClellan with A. S. T. C. 6 1 And I'm the representative of the taxpayer today. 2 This case has not been formally heard since 3 after the audit. We were hired after the audit. And we 4 were provided an opportunity to contest the issues at 5 the District level. But at that time we did not have 6 any of the documentation that we have today. Since then 7 I have been provided original copies of all of the 8 contracts that this taxpayer has. 9 The issue in this case surrounds the items that 10 were sold to construction contractors for subsequent 11 installation. 12 As you will see as I go through these exhibits 13 that I've provided today, this issue was actually 14 recently addressed in an audit that I was personally 15 involved with this same issue. In that case the 16 District initially had assessed a liability in the 17 amount of $632,000, overlooking the fact that what that 18 taxpayer was selling was, in fact, fixtures to 19 construction contractors for installation. 20 Regulation 1521 specifically states that 21 contractors are retailers of fixtures and tax applies to 22 their sale of the fixture. 23 Now if you were to hold their supplier liable 24 for tax on the sale to that contractor, what you would 25 effectively do is create a double taxation. 26 Now there's -- there's more details that go 27 into that analysis. But what I'd like to make clear is 28 that this issue was resolved specifically with David 7 1 Hofer of the Sacramento District office in a recent 2 audit, which I'll go through with you now -- through the 3 exhibits. 4 If you look at page 1 of 14 -- let me back up 5 for one second. 6 The staff's assertion is that, well, what we're 7 dealing with here are cabinets. And pursuant to 8 Regulation 1521 and the 90/10 rule that Mr. Levine 9 mentioned briefly, after a contractor acquires a 10 cabinet, they potentially could exert a sufficient 11 amount of labor and, perhaps fabrication, to the cabinet 12 to render it being considered a material. 13 Now I disagree with the notion that at the time 14 of this taxpayer's sale that's relevant because at the 15 time of this taxpayer's sale what matters is what's 16 being sold at that time, not what the contractor may 17 subsequently do after the sale to change the nature of 18 that product. But really the focus of this discussion 19 is to point out the fact that this taxpayer sells other 20 items that aren't considered cabinets and, therefore, 21 the subsequent labor or fabrication that may or may not 22 occur simply does not matter. 23 After these items are installed, regardless of 24 the extent of the work that the contractor exerts, it's 25 still going to be considered a fixture. That's the 26 purpose of the legal opinion that was submitted. 27 That legal opinion was requested for a separate 28 client back in 2004 -- well before this client ever came 8 1 to us. 2 Exhibit No. 1 is a printout from the internet 3 that describes this taxpayer's business activities. I'd 4 like to draw your attention to "About Ben Funk Company." 5 It states, 6 "We build quality custom cabinets for new homes 7 and remodels, entertainment centers, media 8 centers, laundry and garage." 9 Exhibit 2 is a copy of drawings from one of the 10 contracts that were provided. And what it shows is an 11 entertainment center, desks, shelves, things of that 12 nature. 13 And as you'll see in Exhibit 3, the areas that 14 I highlighted and, in particular, on page 5 of 14, 15 you'll see "media built-in," that's highlighted. It's 16 considered a fixture. Wine storage is considered a 17 fixture. Bookcases is considered a fixture. Partition 18 is considered a fixture. A built-in desk is considered 19 a fixture. And a media center with bookshelves is 20 considered a fixture. All of these are items that this 21 taxpayer sells in addition to cabinets. 22 Now, I've dealt with these items with other 23 taxpayers subsequent to this and it's been the staff's 24 consistent position that the cabinet 90/10 rule is 25 intended for cabinets only, it's not to apply to other 26 items. 27 So, again, it doesn't matter what the contract 28 does subsequent to the sale -- I'm sorry, what the 9 1 contractor does subsequent to the sale. It's a fixture. 2 Now Exhibit 4 is a copy of the report of field 3 audit. I've redacted the taxpayer's name just because I 4 didn't want it to be used at a public hearing. But, as 5 you see, this was issued April 28, 2009. The permit 6 number is still there. So, of course, the Board can 7 reference it. 8 This is the reaudit report and this is the 9 report that was issued subsequent to the initial audit 10 of this taxpayer. 11 And it occurred to me after that initial audit 12 was completed that this particular taxpayer was 13 supplying fixtures, as is the taxpayer in this case, to 14 construction contractors for installation into a home. 15 Now presumably the Department is going to say, 16 "Well, we don't have any proof that these items were 17 installed into a home." 18 Well, the proof is contained in the contracts 19 themselves as was the case here. There was no resale 20 certificates accepted by this particular taxpayer 21 whatsoever. 22 The evidence that proved that these items were 23 installed by the contractor and, therefore, a resale 24 occurring upon installation, were the contracts 25 themselves showing that they're being installed into a 26 particular lot number. 27 If you go back to Exhibit 2, you'll see that 28 there is a reference on that particular page -- and 10 1 there's more conclusive documentation within the 2 contracts themselves -- but on that document it states, 3 "Image lot 96." So, it's very clear that these items 4 are being installed into a home. 5 In any event, if you flip through the exhibit 6 to page 11 of 14, general comments, "State reason for 7 the reaudit," it states here that, "Taxpayer filed a 8 petition for redetermination." 9 And to -- to jump to the relevant part, 10 "Changes were recommended per decision and 11 recommendation." 12 I think that was an error because no decision 13 and recommendation was issued and, 14 "Instruction from the District Principal 15 auditor. Reaudit was performed per 16 recommendation from District Principal 17 Auditor." 18 "Refund was due to taxpayer self-accruing sales 19 tax on sales that were determined to be resales 20 in fact." 21 Again, the very same issue here. 22 Now the District office granted the refund. It 23 was submitted to the Refund Unit, where it was agreed to 24 and because of the amount it was then sent to the Sales 25 and Use Tax Department, where it was then agreed to and 26 then the Board subsequently agreed to the refund on 27 September 21st or 22nd, 2009 at its Board hearing. 28 Exhibit 5 is general comments from the audit of 11 1 this prior taxpayer. And it states, 2 "Most of the taxpayer's sales were deemed to be 3 'resales in fact' in the reaudit." 4 The subsequent highlighted section states that, 5 "Sales for resale were allowed in the reaudit 6 since taxpayer sells mostly to contractors 7 and these sales were considered to be 'resales 8 in fact.'" 9 Again supporting the nature of my client now, 10 sales that are made, that they are fixtures and that 11 they are sold to construction contractors for 12 installation and, therefore, resold in fact. 13 Because this hasn't come up for any type of 14 hearing and because of -- the staff has already agreed 15 to this reasoning and the underlying law, I would assume 16 that they'll agree with me that the audit, at this 17 point, simply is not correct. 18 The auditor went in, as the prior auditor on 19 the case that I provided to you, and said, all of your 20 sales are taxable, with no consideration given to what 21 the item was considered, who it was sold to and whether 22 or not it may actually be exempt. 23 MS. OLSON: Time has expired. 24 MS. YEE: Mr. McClellan, let's give you time on 25 rebuttal. 26 MR. MC CLELLAN: Okay. 27 MS. YEE: Okay, thank you. 28 Department? 12 1 MR. LAMBERT: Thank you. Good morning, Madam 2 Chair and Members. My name is Scott Lambert and I will 3 be representing the Sales and Use Tax Department today. 4 To my right is Kevin Hanks, also with the Sales 5 and Use Tax Department. And to Mr. Hanks' right is 6 Robert Tucker with the Legal Department. 7 The Petitioner manufactures and sells cabinets, 8 cabinet parts and other furniture as a sole proprietor 9 doing business as Ben Funk Company. The business 10 started January 1st, 2004. The audit covered the period 11 July 2004 to June 2007. This was the Petitioner's first 12 audit. 13 The only item in question are sales 14 representing fabrication and assembly labor charges that 15 were claimed as exempt labor and disallowed in the audit 16 on an actual basis. 17 All sales were billed lump sum, without sales 18 tax being separately stated. Petitioner does not 19 perform any installation. And title passed upon 20 delivery to the customers. 21 All sales were reported on line 1 of the sales 22 and use tax return. Internal worksheets were used to 23 segregate out taxable sales of materials, which included 24 sales -- which included sales tax, and fabrication and 25 assembly labor. 26 A deduction was taken on the returns for labor. 27 The sales tax included in material was segregated and 28 claimed as exempt. The remaining -- the remaining 13 1 material sales were reported as taxable. 2 It was discovered through the audit process 3 that there were no installation and resale cards were 4 not obtained from customers. The sales in question were 5 considered retail sales of tangible personal property, 6 with the entire lump sum price charged subject to sales 7 tax. Therefore, the amounts claimed on the sales and 8 use tax returns as nontaxable labor were disallowed on 9 an actual basis. 10 The Petitioner argues that the majority of the 11 sales made were to construction contractors and that the 12 items sold were cabinets that were over 90 percent 13 complete. Construction contractors are the retailers 14 installed cabinets that are over 90 percent complete, 15 therefore, the Petitioner argues the sales of 16 prefabricated cabinets to construction contractors were 17 sales for resale in fact. 18 The Department agrees that construction 19 contractors, which are not US construction contractors, 20 are retailers of fixtures they furnish and install in 21 the performance of construction contracts and 22 prefabricated cabinets are considered fixtures. 23 The Department acknowledges that there could be 24 some sales of fixtures to retailers included in the 25 audited disallowed labor deduction, although the 26 Petitioner has not provided any supporting evidence. 27 The Petitioner has not provided any evidence regarding 28 which sales were made to construction contractors or 14 1 retailers, whether the items were considered cabinets 2 that were, in fact, 90 percent complete when purchased, 3 or whether customers had seller's permits of their own. 4 The Petitioner indicated on their application 5 for a seller's permit that they sold, in quotes, "wood 6 cabinet parts without installation." The Petitioner was 7 given Pamphlet 42, which is titled, "Resale Certificate 8 Tips," in addition to other pamphlets and regulations. 9 Regulation 1521 allows construction contractors 10 the option to pay sales tax on the purchases from their 11 vendors or issue a resale certificate. There is no 12 evidence that Petitioner's customers provided a resale 13 certificate for their purchases. 14 Based on a search of the Department's records 15 using the Petitioner's largest customers and all 16 customers from sales made during September 2006 and 17 March 2007, the Department was unable to locate seller's 18 permits for any of these customers. All gross receipts 19 are presumed subject to tax until the contrary is 20 established. And a sale -- and a seller who fails to 21 take a resale certificate from the customer bears the 22 burden of proving that the sale was, in fact, for 23 resale. 24 Regulation 1658 provides that a seller who 25 failed to take a timely resale certificate in good faith 26 will be relieved of liability only by presenting 27 satisfactory evidence that the purchaser, 1, has already 28 resold the property prior to use, 2, is still holding 15 1 the product for resale prior to use, or 3, has paid tax 2 directly to the Board of Equalization. 3 In this case Petitioner has not shown any proof 4 to support any of the three items. It should be noted 5 that the Petitioner was given a copy of Regulation 1668 6 when the seller's permit was issued. 7 Petitioner has failed to provide support that 8 its sales are exempt as sales for resale, therefore, the 9 gross receipts are subject to tax. 10 Regarding the claim for refund, the Petitioner 11 argues that since the sales were resales in fact, all 12 self-accrued sales tax paid by the Petitioner should be 13 refunded along with credit interest. 14 First, there are sales tax transactions and the 15 Petitioner is responsible for reporting the sales as 16 taxable or providing support, such as resale cards, in 17 order to claim the sale as exempt. 18 Second, there is no evidence that the 19 Petitioner's customers reported sales tax on their 20 returns. 21 Third, construction contractors have the option 22 of purchasing fixtures tax paid if the contractor 23 installs the fixtures and they bill on a lump sum basis. 24 Accordingly, the Department concurs with the 25 Appeals Division's decision and recommendation. 26 I will add a note in regards to the packet that 27 I received from the taxpayer, which I haven't been able 28 to go through in detail, but we do note on the letter 16 1 that was received that what the letter refers to is 2 fixtures that are installed in that particular 3 condition. And we don't argue with that fact. If 4 that's 90 percent complete and that was installed, 5 that's a fixture. 6 You have a different situation here. You have 7 somebody selling a cabinet that may or may not be 90 8 percent complete. So, you could run into the situation 9 -- you could have the construction contractor purchase 10 that particular cabinet and install it and they did more 11 than 10 percent work before they installed it -- they 12 would consider that to be a material when they installed 13 it. So, therefore, they're going to say, I didn't issue 14 a resale certificate. And you have to go back to the 15 seller to collect the tax for him. 16 So, what the Petitioner's arguing in this case 17 is they're saying, "This is a fixture. So, it's a 18 resale in fact." 19 The construction contractor is going to argue, 20 "No, I did more than 10 percent to it, it's material." 21 And if the Petitioner's correct, you can have a 22 situation where there is no tax collected on these 23 particular situations. 24 And I will note one thing, from the contracts 25 that we took a look at, it appears, at least from the 26 two that we saw, that the contracts are consistent with 27 selling parts instead of the cabinets complete. They 28 appear to be parts instead of complete cabinets. 17 1 And we're not arguing that all of them were 2 parts, we're saying that you're going to have to take a 3 look at any ones that are completed cabinets and the 4 Petitioner is responsible for showing that, in fact, 5 that's 90 percent complete when it was installed by the 6 construction contractor. 7 So -- 8 MS. YEE: Thank you very much, Mr. Lambert. 9 Mr. McClellan, you have five minutes on 10 rebuttal. 11 MR. MC CLELLAN: Thank you. 12 MS. YEE: Hold on one second. 13 Ms. Mandel? 14 MS. MANDEL: Can I just ask you, because this 15 is going to be his rebuttal, he made a -- Mr. McClellan 16 made a comment that the regulation -- the portion of the 17 regulation that talks about prefabricated cabinets and 18 sets up the 90/10 test for that, he said that that only 19 applies to traditional cabinets and not other types of 20 items. 21 And can you just address that quickly before he 22 has to do his rebuttal? 23 Because I was going to ask you anyway and then 24 maybe he can rebut. 25 MR. LAMBERT: Like installed? 26 MS. MANDEL: Well, he's -- 27 MR. LAMBERT: Other than cabinets? 28 MS. MANDEL: Yeah, it's -- 18 1 MR. MC CLELLAN: Shelving -- 2 MS. MANDEL: Shelving -- 3 MR. MC CLELLAN: -- media centers -- 4 MS. MANDEL: -- yeah, see, this -- 5 MR. MC CLELLAN: -- desks. 6 MS. MANDEL: -- yeah, so that I think he's -- 7 or Mr. Levine is jumping at the bit because he probably 8 was reading, like I was, while you were talking. 9 MR. LEVINE: They're all cabinets. 10 I mean, if you want to say the cabinet's only 11 the thing in your kitchen, but that's not what the reg 12 means. 13 MS. MANDEL: Okay. 14 MR. LEVINE: That's not how it's been 15 interpreted. 16 And just one point about the audit that 17 Mr. McClellan pointed to, entirely correct, because it 18 was light fixtures. 19 And unlike cabinets, that the Board, in its 20 wisdom, has decided to apply a 90/10 rule -- and don't 21 want me to go into the history of why. 22 MS. MANDEL: No. 23 MR. LEVINE: But that's what the regulation 24 applies based on value of labor compared to value 25 before. 26 MS. MANDEL: Okay, I just -- 27 MR. LEVINE: Light fixtures don't have that. 28 MS. MANDEL: Okay, I just wanted that out 19 1 because he was claiming that people have -- it's been 2 different. 3 MR. LEVINE: We've applied the cabinet rule 4 probably broader than cabinets, but certainly everything 5 on this list, I would regard that as just inarguably a 6 cabinet. 7 You put things in it. Bookcase -- that's why 8 the conclusion here was that the bookcase was a fixture 9 if it was fully fabricated before installation because 10 the author was regarding it as basically a cabinet 11 without covers. 12 MS. MANDEL: Right, I just wanted -- 13 MR. MC CLELLAN: May I ask what the Legal 14 Department would consider a desk to be? 15 Would that also be considered a cabinet? 16 MR. LEVINE: If it's solely a desk, it's a 17 desk. 18 But if it's not installed, it's tangible 19 personal property. If you install it now we have 20 something different. 21 MR. MC CLELLAN: Well, of course. 22 MR. LEVINE: It's probably a cabinet. 23 MR. MC CLELLAN: Okay. Well, the contractor, 24 of course, is the retailer of TPP, just as they are a 25 fixture. 26 Now I don't really disagree with anything 27 that's being said here. The bottom line is that none of 28 this was considered in this audit. It simply was not. 20 1 Now, the documentation that I have is the same 2 documentation that the auditor reviewed. 3 In the other audit that was accepted by this 4 Board and the staff as being treated as resale in fact, 5 the auditor, the BTS auditor, at that, considered all of 6 those sales to be taxable because he simply failed to 7 consider this. 8 I admittedly was the one that primarily managed 9 that audit and I didn't even think of it. 10 When I did think of it and I brought it to 11 David Hofer's attention, he admitted that he had made an 12 error and that generally he would have treated that as a 13 resale in fact. 14 And, ultimately, we got it right. 15 What I'm asking here is to get this right. I 16 am not asking you to grant a refund. If there are 17 issues that, you know, come up that result in this not 18 resulting in a refund, that's fine by me. 19 But there's no doubt, in my opinion, that at 20 this point the audit is simply incorrect. 21 What I'm asking is that the Board recommend 22 that this audit be sent back for reaudit so that -- so 23 the contracts and all of the relating documentation can 24 be reviewed. 25 If necessary, we'll go to the purchasers and 26 we'll look to get documentation to establish whether or 27 not the 90/10 rule would result in these being 28 considered materials. 21 1 As another note, with respect to audits of 2 cabinet manufacturers and installers, the staff never 3 looks to their purchases and automatically treats them 4 as subject to sales tax. They place the onus on the 5 cabinet contractor to prove that they're materials. 6 If they don't prove that they're materials, 7 then they treat them as fixtures. They give them no 8 credit for purchases that are made inside of California. 9 And they say that their labor is completely subject to 10 tax. 11 Here they're essentially saying, "Look these 12 are likely materials and, therefore, the contractor may 13 have assert their materials, we would be bound by that 14 assertion. 15 That's simply not -- that's not how it's 16 applied by the audit staff. What I'm asking that is 17 this be sent back for reaudit so these errors can be 18 corrected and that the documentation be properly 19 reviewed. 20 MS. YEE: Okay, thank you, Mr. McClellan. 21 MR. MC CLELLAN: Thank you. 22 MS. YEE: Department, on the issue of the 23 reaudit, we've seen everything? Yes? 24 MR. LAMBERT: Well, what I would argue is 25 that -- 26 MR. LEONARD: Go down the list. 27 MS. YEE: Okay. 28 MR. LAMBERT: What I would argue is that when 22 1 they filed the petition from July of 2008, when they 2 made the argument, they have had the opportunity to 3 provide that information to us and they have not. 4 And, so, without that, you know, obviously, we 5 can't make a change. And then if you're taking a look 6 at -- do you think they're going to be able to get it 7 within thirty days from the date right now, I would 8 argue that probably most -- well, I would argue that the 9 ones with their maybe fixtures, which were to 10 construction contractors, are probably out of business 11 and they would have a hard time getting a hold of them. 12 But given that, we believe that were sales that 13 were made to actually customers that kept the items in 14 their own homes and didn't resell them, which in that 15 particular case, is just a sale of tangible personal 16 property. 17 So, it -- so, no, we -- at this particular 18 point, the Department's position would be that -- is 19 that the taxpayer can pay the liability and file a claim 20 for refund and present any evidence that they have at a 21 later time. 22 MS. YEE: Mr. McClellan, specifically what do 23 you think you can produce? 24 MR. MC CLELLAN: I know that I can produce 25 because it's sitting a office as we speak. 26 MS. YEE: Specifically what? 27 MR. MC CLELLAN: Every contract that exists and 28 all of the relating documentation that pertains to that. 23 1 And what that includes is drawings, similar what you 2 have in front of you as Exhibit 2, which will clearly 3 describe the items. There is correspondence between the 4 contractor and the taxpayer that will show you who it is 5 sold to and that it is being installed and that it's not 6 being sold to an end user. 7 I don't disagree with the Department that if it 8 is sold to an end user, it's not subject to a resale in 9 fact, pursuant to 1668. 10 My point is that this has not been addressed. 11 As far as providing documentation, we didn't get the 12 documentation from our client. If we had, I would have 13 been more than happy to address this with District. I 14 would preferred that to be the case. 15 Unfortunately, we didn't have it at that time. 16 We do have it at this time. 17 MS. YEE: Okay. Mr. Leonard? 18 MR. LEONARD: Sorry for the interruption, Madam 19 Chair. 20 I think Mr. Lambert stated it very clearly 21 earlier, the problem is -- and I don't want to revisit 22 the 90/10 rule -- but I will acknowledge it's not a 23 peace treaty, it's kind of a demilitarized zone, with 24 hostilities breaking out every now and then -- that we 25 don't know -- in this case it's always unclear who the 26 real consumer is and who the retailer is. And it 27 depends on actions by the construction contractor after 28 the property is moved and which the fabricator may have 24 1 zero knowledge about. 2 It would seem to me if you're going to audit 3 one of these fabricators you ought to pick out one of 4 their construction clients and simultaneously audit 5 them, in order that you can close the circle. 6 I -- I'm not against a reaudit, but I -- if the 7 construction contractor for the sample contracts is not 8 available, I am not sure we'd learn a lot. 9 You can show them a piece of paper, but that 10 still isn't evidence of what the contractor might have 11 done with the product afterwards that would have brought 12 in the 90/10 thing. 13 So, I'm -- I'm in a dilemma here because I 14 think -- both sides could be right in this one. I don't 15 know how we square it out with -- unless there is -- 16 unless, I guess, your client has information that one of 17 his customers is still around and could be part of 18 providing information. 19 And I agree, Mr. Lambert, I don't think that 20 the taxpayer could do that on their own because, 21 obviously, it's not in the contractors's best interests 22 to say, "Oh, yeah, I was wrong, I owe the tax." 23 It's really the Board of Equalization to go to 24 that contractor and make their subtle request for 25 records in order to really find out what they did do to 26 the -- to the cabinet after it left the fabricator's 27 property. 28 So, I guess my question would be, is there 25 1 `[a|an] -- is there one of his customers that is still 2 available that -- that you contend simply installed or 3 installed the product at that point and thus made them 4 the retailer? 5 MR. MC CLELLAN: I haven't sought that 6 information. 7 But I can say this, this taxpayer builds 8 completed cabinets. There's nothing else for the 9 installing contractor to do but to attach it to the 10 wall. 11 Now, there may be exceptions to that. But to 12 force this taxpayer to pay the full amount of tax and 13 file a claim for refund in an effort to get it right 14 simply doesn't seem equitable. This issue hasn't been 15 addressed. 16 MR. LEONARD: I don't argue with you there, 17 Mr. McClellan. 18 You said you didn't have the right documents 19 available at the time of the audit? 20 MR. MC CLELLAN: No, not at the time of the 21 audit, it was there at the time of the audit. 22 My point there was that all of this 23 documentation was there at the audit and that's the 24 correlation that I drew to the other audit that I 25 provided to you. 26 And the reason why I did that is because in 27 that other audit all of the same documentation was 28 there. It was all the same documentation, it was just a 26 1 failure to recognize this factor. 2 MR. LEONARD: I thought I heard you say you 3 have information available today that you didn't have 4 then? 5 MR. MC CLELLAN: I have information available 6 today that the taxpayer had. 7 At the time of the audit, I was not involved 8 with the audit. But all of these contracts, all of this 9 documentation, was turned over to the auditor. It just 10 wasn't properly considered. 11 MR. LEONARD: Without that -- without an 12 Appeals conference, the burden is really shifted to you. 13 And I'd like to help your client, but I -- 14 MR. MC CLELLAN: I will be happy to provide 15 that documentation to the Board if you would like to 16 review it. 17 My intention here today was to point out the 18 fact that this information has not been properly 19 considered. 20 The exhibits I provided, in my opinion -- 21 MR. LEONARD: I don't want to waste the 22 taxpayer's money with interest accruing if -- if the 23 documentation doesn't relate to what the contractor did 24 with the product. 25 I mean, that's really the factual element 26 that's missing here -- 27 MR. MC CLELLAN: Well, I will -- 28 MR. LEONARD: -- as I understand it. 27 1 MR. MC CLELLAN: -- I'll pay the taxpayer's 2 interest that accrues during that time. 3 I volunteer to do that. I'm confident that 4 this audit -- 5 MS. MANDEL: You feel very strongly about -- 6 MR. LEONARD: That's very noble of you. 7 MR. MC CLELLAN: Well, I'd like to get this 8 audit right. 9 That's all I'm asking is to send it back for 10 reaudit. Allow an auditor to come out one day and look 11 at the documentation. 12 If they don't feel that any adjustments are 13 warranted, then so be it. 14 But I'm confident that adjustments are and we 15 can provide documentation which will prove that, get the 16 audit right. 17 MS. MANDEL: And I take it it's because your 18 knowledge, based on the drawings and the contracts of 19 the nature of the product as it leaves your client's 20 facility and goes to the contractors, that it's -- 21 MR. MC CLELLAN: Well, that and -- 22 MS. MANDEL: -- just a screw-in and there's no 23 way that that could be -- 24 MR. MC CLELLAN: Sure. A lot of what they 25 sell, for example, would be a desk that is extended. 26 MS. MANDEL: A desk? 27 MR. MC CLELLAN: You know an extended -- a desk 28 with an extended table with perhaps a shelf that rises 28 1 up from that. 2 That, as Mr. Levine concedes, is, in fact, a 3 fixture, regardless of what is done to it. 4 MS. MANDEL: Well, I'm not sure if that's what 5 he said. 6 I think he was thinking of a desk like I might 7 have sitting in my office and maybe he wasn't thinking 8 about a desk attached to a wall. 9 But I guess that's part of the -- part of the 10 dispute is -- 11 MR. MC CLELLAN: Well, if you look at 12 Exhibit 2, you'll see a picture of that desk. That's -- 13 you know, that's one of the items that are manufactured 14 and sold. There is no question that that's a fixture. 15 And I'm willing to do the leg work to get 16 documentation that's available from the purchasers to 17 determine what the fab -- or the installation amount 18 was. 19 MS. MANDEL: And -- 20 MR. LEVINE: I was going to say there's a 21 further complication that I don't think we were aware of 22 at the Appeals level is that -- or perhaps we were and 23 just didn't address it because we didn't get -- 24 MS. MANDEL: Whatever. 25 MR. LEVINE: -- full chance to, but -- 26 Petitioner took a tax paid -- a tax included deduction, 27 which means that the Petitioner believed that as between 28 Petitioner and its customers that tax was included, 29 1 which as Mr. Lambert said, as you know, it's common when 2 a contractor purchases a fixture -- because we -- the 3 retail selling price, in most cases is the price they 4 paid, the cost, cost price equals sales price, and then 5 they're even. 6 And if the contractor understood the tax was 7 included, it does not matter if it was for resale 8 because tax was properly -- tax reimbursement was 9 properly included. And, if anything, if it was truly 10 fore resale and Petitioner was claiming that they're 11 entitled to treat it as such, it would be excess tax 12 reimbursement because they collected it. 13 So, I think we have a problem. They claim -- 14 he claimed a tax included deduction, that either the 15 Department was wrong in allowing it, which they did 16 because it -- what happened is they treated these as 17 retail sales, but deducted off the fabrication during 18 the audit. I guess they decided that they shouldn't 19 have paid any tax at all, but they treated these as 20 retail sales and they took a tax included deduction. 21 MR. MC CLELLAN: May I respond to that briefly? 22 MS. YEE: Yes. 23 MR. MC CLELLAN: This taxpayer inherited the 24 reporting procedures from his predecessor. 25 And with respect to the contractor believing 26 that his sales were tax included and, therefore, should 27 be treated as such, is new to me. 28 The law is fairly clear that unless the 30 1 contract states that it's tax included or adds sales 2 tax, and it's not considered to be tax included, it's 3 not what the contractor thought, he didn't know what he 4 was doing with respect to reporting. 5 He inherited this business from his predecessor 6 and inherited the reporting procedure. 7 The auditor in the audit states that the 8 contracts were lump sum, there was no sales tax 9 included. 10 The deduction was wrong, I concede that it was 11 wrong. And the evidence shows that it was wrong, the 12 contract doesn't state that it was tax included. That's 13 not an issue. 14 MS. YEE: Department? 15 MR. LAMBERT: Actually, if he's making that 16 argument, we allowed him a $50,000 deduction for that. 17 And, so -- 18 MR. MC CLELLAN: And you Did. 19 MR. LAMBERT: So, if that's the case and they 20 didn't have sales tax included, then, you know, they 21 shouldn't have that $50,000 deduction. 22 And they actually -- the liability should go 23 up. 24 What that -- how they reported is they -- let's 25 say a contract was $1,000 for a particular cabinet. 26 They would have broken out on their particular 27 worksheet. So, they had $300 for materials and $700 28 for labor. 31 1 What they considered the $300 is to be tax 2 included. So, on their return they claimed the $1,000, 3 they reported the $1,000. They claimed a $700 deduction 4 for labor and then let's say they took a $30 deduction 5 for sales tax included and they reported $270. 6 So, if the Petitioner is saying they shouldn't 7 have gotten that deduction, the Department has only 8 taxed $970 and I wouldn't argue that the $1,000 9 shouldn't be the right figure. 10 MS. MANDEL: Okay, I -- kind of what I'm 11 hearing is that Mr. McClellan is asking for an 12 opportunity to present all the material that he says he 13 has in his office that he is -- and that he is confident 14 will substantiate what -- what he is arguing, not having 15 been the representative at the audit, that wants the 16 audit to be the right answer, whether it goes up or 17 down -- 18 MR. MC CLELLAN Sure. 19 MS. MANDEL: -- is what you said in your first 20 comment. And that if he needs to get information from 21 the customers that he will undertake to do that and you 22 think you can do all that in 30 days? 23 MR. MC CLELLAN: If -- I'll do everything I can 24 within 30 days. 25 MS. MANDEL: He's. 26 MR. MC CLELLAN: I do have the documentation 27 sitting on my desk in my office. I can have an auditor 28 out tomorrow. 32 1 MS. MANDEL: There wasn't -- there was -- you 2 know, the sort of Appeals conference thing. 3 And he's -- he's made an offer on the record 4 that we never hear from anybody about interest. 5 So, Mr. Levine, what -- what's giving you 6 heartburn? 7 MR. LEVINE: I do think it's probably advisable 8 to take another look. 9 I can -- and if the Department were to decide 10 to accept something, I think Appeals would acquiesce, 11 but I have to -- and we will look at what he has. 12 But if we don't have information from the 13 contractor, I don't think we're going to be -- our 14 recommendation for final decision, I doubt that we're 15 going to consider the documentation as sufficient. 16 And I point out also information from the 17 contractor -- and I think Mr. Leonard hit it on the head 18 and I think that information from the contractor would 19 be worthwhile. 20 But we also need to confirm that the 21 contractor, after we get it, preferably, understands 22 what it means. Because if the contractor says, "Oh, 23 well, I was just trying to help," then we have a problem 24 because many of these contractors probably didn't file 25 returns, which would mean that there's still time to go 26 after them. 27 And I think Department would if the Board were 28 to grant or if they were to concede any of these. Then, 33 1 as Mr. Lambert was saying, we've had the situation 2 where, for example, the finger pointing and it's not 3 brought up together and the Board grants one case -- we 4 had one where the Board granted one and said, "Go after 5 the other person, we're going to deny." And when it 6 came up, the Board granted that one too. So, it was no 7 tax on a transaction that someone was liable. 8 And that's the problem here. We really 9 don't -- one of these persons is liable and I hope that 10 the taxpayer now, and if not, I strongly advise -- takes 11 resale certificates to shift the burden of proof to the 12 contractor and then the taxpayer will be off the hook as 13 long as it's taken in good faith. Here I don't think 14 there is any problem. And the Department will look to 15 the contractor. And that will require the contractors 16 to be registered, as they should. 17 And then the Department can audit the 18 contractors and our taxpayer can be off the hook in the 19 future. 20 MS. YEE: Thank you, Mr. Levine. 21 Other questions, Members? 22 Okay, pleasure of the Members? 23 MR. LEONARD: Is Mr. Levine's last comment in 24 the form of a recommendation? 25 MR. LEVINE: I think it would be worthwhile to 26 take another look at this and to -- a 30-30. If there 27 is -- needs to be -- if there are contractors available 28 to contact, it's worthwhile. 34 1 It might take more time. The Department might 2 want more time if it thinks investigation is worthwhile. 3 So, I think a 30-30 and just give us permission to grant 4 the Department a little more time if further 5 investigation is worthwhile. 6 MS. YEE: Okay. 7 MR. LEONARD: I so move. 8 MS. YEE: All right. 9 Motion by Mr. Leonard to grant the 30-30-30 10 with some flexibility if more time is required to 11 examine the contractors in this matter. 12 Is there a second? 13 MR. HORTON: Second. 14 MS. YEE: Second by Mr. Horton. 15 Without objection, that motion carries. 16 Thank you, Mr. McClellan. 17 MR. MC CLELLAN: Thank you, Chairwoman. 18 MS. YEE: You have your direction, thank you. 19 ---O0O--- 20 21 22 23 24 25 26 27 28 35 1 REPORTER'S CERTIFICATE 2 3 State of California ) 4 ) ss 5 County of Sacramento ) 6 7 I, JULI PRICE JACKSON, Hearing Reporter for the 8 California State Board of Equalization certify that on 9 JANUARY 27, 2010 I recorded verbatim, in shorthand, to 10 the best of my ability, the proceedings in the 11 above-entitled hearing; that I transcribed the shorthand 12 writing into typewriting; and that the preceding pages 1 13 through 35 constitute a complete and accurate 14 transcription of the shorthand writing. 15 16 Dated: April 3, 2010 17 18 19 ____________________________ 20 JULI PRICE JACKSON 21 Hearing Reporter 22 23 24 25 26 27 28 36