1 BEFORE THE CALIFORNIA STATE BOARD OF EQUALIZATION 2 450 N STREET 3 SACRAMENTO, CALIFORNIA 4 5 6 7 8 REPORTER'S TRANSCRIPT 9 JANUARY 25, 2017 10 11 SALES AND USE TAX APPEAL HEARING 12 APPEAL OF 13 BODY WISE INTERNATIONAL, LLC 14 NO. 552589 (EA) 15 AGAINST PROPOSED ASSESSMENT OF 16 SALES AND USE TAX 17 18 19 20 21 22 23 24 25 26 Reported by: Kathleen Skidgel 27 CSR No. 9039 28 1 1 P R E S E N T 2 For the Board of Equalization: Fiona Ma, CPA 3 Chairwoman 4 Diane L. Harkey Vice Chair 5 Jerome E. Horton 6 Member 7 Sen. George Runner (Ret.) Member 8 Yvette Stowers 9 Appearing for Betty T. Yee, State Controller 10 (per Government Code Section 7.9) 11 Joann Richmond 12 Chief Board Proceedings 13 Division 14 For Board of Equalization Staff: Jeff Angeja 15 Tax Counsel IV Legal Department 16 17 For the Department: Scott Claremon Tax Counsel III 18 Legal Department 19 Kevin Hanks Chief 20 Business Tax and Fee Department 21 Lawrence Mendel 22 Tax Counsel IV Legal Department 23 For Petitioner: Jesse McClellan 24 Attorney 25 Lucian Khan Attorney 26 27 ---oOo--- 28 2 1 450 N STREET 2 SACRAMENTO, CALIFORNIA 3 JANUARY 25, 2017 4 ---oOo--- 5 MS. MA: Ms. Richmond, please introduce our 6 first item. 7 MS. RICHMOND: Good morning, Chairwoman Ma 8 and Board Members. Our first item on today's agenda 9 is item C, Sales and Use Tax Appeals Hearings; Item 10 C5, Body Wise International, LLC. 11 Please come forward. 12 Board Proceedings has received contribution 13 disclosure forms for today's hearings from the 14 parties, participants and agents. All forms were 15 properly completed and signed and there were no 16 disqualifying contributions disclosed. All parties, 17 participants and agents are on the alpha listings 18 provided to your office. 19 Each person sitting at the table will be 20 asked to introduce themselves and, if necessary, 21 their affiliation with the taxpayer for the record. 22 Ten minutes is allocated for the taxpayer's opening 23 presentation, followed by ten minutes for the 24 Department's presentation, and five minutes is 25 allocated to the taxpayer for rebuttal. 26 Ms. Ma. 27 MS. MA: Okay. Thank you. 28 To Appeals, Mr. Angeja, please introduce 3 1 the issues in this case. 2 MR. ANGEJA: Good morning, Madam Chair and 3 Members. I am Jeff Angeja on behalf of the Appeals 4 Division. 5 The appeal before you presents one 6 unresolved issue, which is whether tax reimbursement 7 the petitioner collected on its interstate commerce 8 sales must be paid to the Board. 9 MS. MA: Okay, thank you. So, to the 10 petitioners, welcome. You'll have ten minutes for 11 your presentation, initial presentation. Then, um, 12 the, um -- the state will have ten minutes, and then 13 five minutes on rebuttal. And then the Board will 14 open for questions. 15 So, thank you. Please introduce yourself 16 for the record and begin. 17 MR. McCLELLAN: Thank you, Madam Chairwoman 18 and Members of the Board. My name is Jesse 19 McClellan on behalf of petitioner Body Wise 20 International, Inc. And I also have Lucian Khan who 21 is also on behalf of the petitioner. 22 The issue that we would ask the Board to 23 address today is whether or not sales taxes of other 24 states are due to California. 25 And as some background to the case, the 26 petitioner operates a multi-level marketing business 27 selling nutritional products. During the audit 28 period, which covers approximately 2005 through 4 1 2009, they were registered and sold into 2 approximately 35 states, including -- or in addition 3 to Canada. 4 Um, the software system that they used to 5 apply the tax to their transactions and for 6 reporting purposes was incorrectly set up to apply 7 tax to some states in which they were not 8 registered. 9 Upon audit, the Sales and Use Tax 10 Department looked at the sales tax accrual account, 11 compared the total amount that was in it to what was 12 reported to California. And because of the Canadian 13 and the other state sales, there was significant 14 differences. 15 The vast majority of those differences were 16 ultimately resolved because it was recognized that 17 the sales were reported to other jurisdictions. It 18 took a long time, but eventually what they realized 19 was that there was an error in the way that the 20 system was set up in that there was tax applied by 21 the system, two invoices that would be issued to 22 other states. 23 I've provided today an exhibit, and there's 24 two pages. Page 2 of that exhibit is an example of 25 an invoice that would be issued. And you'll see 26 that the "shipped to" and the "sold to" is a 27 particular individual. Um, and a little ways down, 28 before the line item, you'll also see the 5 1 identification of the distributor. 2 So as a multi-level marketing business, um, 3 the sale typically would go to a distributor who has 4 a relationship with the petitioner who would buy 5 these products. And then they would sell them, 6 resell them at a markup to their customer. 7 Um, and -- in any event, the issue, again, 8 simply stated, is whether or not those taxes that 9 were collected from another state are due 10 California. 11 Um, and the code section that's on point -- 12 which is also on page 1 of the exhibit that I 13 provided to you -- and the relevant language we've 14 highlighted states that when an amount represented 15 by a person to a customer is constituting 16 reimbursement for taxes due under this part. 17 So, in other words, where a sale is made 18 and the seller represents to the purchaser that it's 19 charging California tax, then this code section 20 applies. 21 The code section is implemented under 22 Regulation 1700. And -- and the rules go on to 23 state that to the extent California tax is applied 24 to the transaction and it's not actually due 25 California, then there's two options: It goes back 26 to the customer; and, if not, it goes to the State 27 of California. 28 Notably, there's no third option. There's 6 1 no third option to pay it to another state. So it's 2 truly due California. You can't satisfy the 3 obligation by paying it to another state, which is a 4 question that we've asked of the Department to 5 explain. But it hasn't been because the Department 6 has, during this process, said, well, if you pay it 7 to another state, it's no longer due California. 8 Well, if it's actually due California, you can't 9 satisfy an obligation by paying it to another state. 10 So we haven't come to understand, um, how 11 that question is being answered. And in any event 12 the Department and Appeals positions to this point 13 have been that 6901.5, while it -- it says that it 14 applies to sales taxes that -- or taxes that are 15 represented as California tax, but the regulation 16 doesn't. 17 And -- and because the regulation doesn't 18 contain that limiting language, that it's permitted 19 to essentially expand to any taxes. Um, and really 20 that can't be an accurate assessment because the 21 regulation springs from the statute. A regulation, 22 of course, explains what the statute says. And the 23 Board is granted authority to adopt regulations 24 under code section 6051. And that authority, of 25 course, is -- is limited to explaining what the code 26 section says. 27 And, with the exhibit provided to you, we 28 quoted Government Code Section 11342.2. In a 7 1 relevant part that says: 2 "No regulation adopted is valid or 3 effective unless consistent and not in 4 conflict with the statute and reasonably 5 necessary to effectuate the purpose of the 6 statute." 7 We also provided a quote from the Nortel 8 Networks case which cited Woods v. Superior Court, a 9 1981 case that was issued by the California Supreme 10 Court. And it says: 11 "An administrative agency may not 12 promulgate a regulation that is 13 inconsistent with the governing statute or 14 that alters, amends, enlarges or impairs 15 the scope of the statute." 16 So the statute says that it applies to 17 scenarios where it's represented as taxes due under 18 this part, so represented as California tax. 19 The regulation cannot -- and it does not 20 say -- it doesn't say that you can't do it, which 21 goes to another case. But it certainly doesn't say 22 that it applies to all taxes in the United States. 23 Um, and -- and it couldn't under those provisions. 24 Um, and -- and another case that we looked 25 at that we felt was on point to this is the 26 DIAGEO-Guinness case. And that case involved a 27 situation where the Board of Equalization sought to 28 redefine what constituted a malt liquor and -- and 8 1 redefine it in such a way that it was considered a 2 distilled spillet (phonetic) -- distilled spirit as 3 opposed to beer or wine, um, and -- and thereby 4 subjecting it to a much higher excise tax rate. 5 Um, and ultimately that was challenged and 6 the -- the taxpayer essentially asserted that the 7 ABC had the authority to define what a distilled 8 spirit means. 9 The Board, in response, argued that there 10 was nothing that said that they couldn't pass the 11 regulation. The Court explained that the Board, 12 like most agencies, is a limited power agency and 13 they're permitted to do that which they have 14 authority to do, not to do everything but that which 15 they're prevented from doing. And ruled in favor of 16 the taxpayer and found the regulation to be invalid. 17 The other factor that I think helps to make 18 it clear that we're not really even in the confines 19 of what the regulation says, is the fact that the 20 Department has said that even though they're 21 asserting that this amount is due California, that 22 the amount can be satisfied by paying it to another 23 state. 24 So, if there's a liability that's asserted, 25 that's truly due California, there's -- there's no 26 circumstance under which you can pay it to another 27 state to satisfy it. And if the Board were to rule 28 that way, then arguably it would create a situation 9 1 where taxpayers could take tax that it applies to 2 California transactions -- let's say an out-of-state 3 retailer that ships products to California, charges 4 a California tax rate, which therefore is 5 represented as a California rate under the facts of 6 those circumstance. And its home state essentially 7 says, "Well, pay it to us." Or if they pay it to 8 the home state in error, um, under the framework 9 under which we've been dealing with, with this case, 10 arguably that would satisfy the obligation that's 11 truly due California. 12 Um, the other, um, issue is that Appeals 13 has said, at page 10, lines 5 through 9 in the 14 Decision and Recommendation, that there's 15 recognition that the taxes were due to the 16 destination jurisdiction. But that when it wasn't 17 paid the destination jurisdiction, it became 18 California tax. Again, we don't see how that occurs 19 under the law. 20 At the time of the transaction, the nature 21 of the tax is established. So we would -- we would 22 ask the Department, if they could, to explain two 23 things: 24 Number one, how do you satisfy an 25 obligation truly due California by paying it to 26 another state; 27 And number two, how does a tax which is 28 identified as a tax due another jurisdiction become 10 1 California tax if it's not remitted to that 2 jurisdiction? Because certainly that jurisdiction 3 would disagree with that point. 4 And with that, we'll turn it over to the 5 Department. Thank you. 6 MS. MA: Okay, thank you very much. 7 To the Department, you have ten minutes. 8 Please introduce yourself for the record, and then 9 you may begin. 10 MR. CLAREMON: Good morning. Good morning, 11 Chairwoman Ma, Members of the Board. I'm Scott 12 Claremon with the Legal Department. With me are 13 Lawrence Mendel and Kevin Hanks, also representing 14 staff. 15 We concur with the recommendation of the 16 Appeals Division; no further adjustment is warranted 17 to the audited measure of excess tax reimbursement 18 collected by petitioner. 19 Petitioner sells weight loss and nutrition 20 products. Its orders were shipped from a California 21 warehouse via a common carrier. And the sample 22 invoices provided by petitioner show that an amount 23 simply described as "tax" was added to the price of 24 the property sold. 25 Audit staff determined that during the 26 period at issue, um, which was April 1st, 2005 27 through 2009, petitioner collected approximately 28 $104,000 in excess tax reimbursement, in excess of 11 1 the tax it paid to California and other 2 jurisdictions. 3 At issue is the approximately $62,000 in 4 tax reimbursement, plus interest, in excess of the 5 tax reimbursement collected on sales and interstate 6 and foreign commerce. 7 Under the Revenue and Taxation Code, sales 8 tax applies to all sales that take place in 9 California that're -- that's not subject to a 10 statutory exemption or exclusion. 11 Section 6396 provides an exemption for 12 sales in interstate commerce. The meaning that's 13 relevant here, sales that are completed in 14 California and otherwise taxable but where the 15 retailer ships the property to a point outside the 16 state by a common carrier. 17 Section 6901.5 requires that when a 18 retailer collects excess tax reimbursement, it 19 either return the amount to the customer from which 20 it was collected or remit it to the Board. It 21 defines excess tax reimbursement as an amount 22 represented to a customer as constituting 23 reimbursement for taxes due under that part of sales 24 and use tax law upon an amount that is not taxable 25 or is in excess of the taxable amount. 26 Regulation 1700, which clarifies and 27 interprets Section 6901.5 defines excess tax 28 reimbursement as an amount represented to a customer 12 1 as constituting reimbursement for sales tax upon an 2 amount that is not taxable or in excess of the 3 taxable amount. 4 Here, petitioner holds a California 5 seller's permit and added amounts represented simply 6 as "tax" to sales that were completed in California 7 that would have been otherwise taxable if not for 8 the statutory exception. Therefore, these amounts 9 meet the definition of excess tax reimbursement 10 under Section 6901.5 and Regulation 1700. Since 11 petitioner has not returned them to the customers, 12 it is required to remit them to the state. 13 As pointed out in the hearing materials, 14 the Board has a duty to protect the integrity of the 15 sales and use tax law. And the excess tax 16 reimbursement statute was specifically intended to 17 prevent unjust enrichment by retailers. Yet, 18 petitioner is asserting a very narrow construction 19 that's not in the plain language of the statute by 20 which an amount simply labeled as "tax" by a 21 California retailer on sales completed in California 22 somehow is not represented as sales tax 23 reimbursement simply because it, uh -- a rate could 24 be backed out of it and that rate could be 25 determined to not be the same as the applicable 26 California rate. 27 And that's pretty much the only factual 28 distinction between this situation and any other 13 1 situation where excess tax reimbursement is charged 2 on an interstate commerce. 3 Um, such a narrow construction is not 4 contemplated by the language of the statute, nor is 5 it consistent with the Board's interest in 6 preventing unjust enrichment. 7 As to that, I note that petitioner 8 continued to collect excess tax reimbursement for 9 several years after this period, and we are now 12 10 years from the start of this audit period and 11 petitioner is still retaining these amounts. So 12 excess -- excuse me -- unjust enrichment would 13 certainly occur if the petitioner were allowed to 14 keep this. 15 For all these reasons, the petition for 16 redetermination should be denied. Thank you. 17 MS. MA: Okay. Mr. McClellan, five minutes 18 on rebuttal. 19 MR. KHAN: If I may, the rebuttal. 20 MS. MA: Okay. 21 MR. KHAN: Um, I just want to recap the 22 relevant facts, the law, and the analysis in this 23 case, because I think that the answer will be 24 obvious, uh, what the Board should do in this 25 case. 26 First of all, we have software that's 27 designed to -- 28 (Phone ringing.) 14 1 MR. KHAN: I'm sorry, my -- 2 You have software that's designed to 3 calculate the correct amount of tax. That's what 4 the software did, it calculated the tax for the 5 state of destination. And that's really undisputed. 6 Um, if you look at Section 6901.5, which is 7 at issue here, and you look at the language, it 8 says: "When an amount represented by a person to a 9 customer as constituting reimbursement for taxes due 10 under this part . . ." 11 Well, it has to mean what it says. If 12 you're talking about taxes due under this part, 13 they're talking about taxes due the State of 14 California. 15 So the -- the only real logical 16 interpretation of this statute is a retailer has to 17 represent to a customer that I'm collecting 18 California tax, that this is tax due the State of 19 California and that I will be giving the tax to the 20 State of California. 21 Therefore, to have a violation of section 22 69 -- if you don't have a violation under section 23 6901.5, Regulation 1700 just simply does not apply. 24 In other words, the rules "give it to the state, 25 give it back to the customer," it doesn't apply. 26 And the reason why there's not a third 27 option to give it to another state, because it was 28 never contemplated that 6901.5 would ever apply to a 15 1 situation where a retailer's collecting another 2 state's tax. 3 The Department and Appeals have both 4 accepted that the tax collected was not California 5 tax. And I'll read you exactly what it says in the 6 D&R. 7 On page 10 of the D&R, lines 5 through 9, 8 Appeals says: 9 "We conclude that petitioner and its 10 customers in the other states and Canada 11 agreed that the indicated tax was sales tax 12 that would be remitted to the appropriate 13 jurisdictions." 14 So what are they saying? They're saying, 15 yes, we agree that this is not California tax, but 16 that it would be -- that it would be, uh, remitted 17 to the appropriate jurisdiction; in other words, the 18 other state. 19 Then it goes on to say: 20 "When petitioner failed to remit the 21 entire amount to the appropriate 22 jurisdiction, the unremitted tax became 23 excess tax reimbursement, payable to the 24 Board if not refunded to the customers." 25 Well, this begs the question, how can you 26 say that tax was other state's tax? Now that it's 27 not remitted to those states, it's all of a sudden 28 California tax. 16 1 It is. 2 It is not California tax. 3 Oh, yes it is because you didn't pay it to 4 the other states. 5 Well, how do you do that? 6 The law doesn't provide for anything like 7 that. It doesn't change its character just simply 8 because of some action or inaction on the part of 9 the taxpayer. 10 Then in the SD&R -- um, this is on page 4, 11 lines 3 through 15 -- Appeals basically says in the 12 D&R, we found that excess sales tax reimbursement 13 was collected. And it says that they relied on -- 14 in part, on annotation 460.0242. 15 There's very little similarity on the 16 background facts on which the annotation is based. 17 In that case, the only similarity was there were 18 exempt sales in interstate commerce. In other 19 words, the other taxpayer made sales and shipped the 20 goods to customers in other states. 21 For some reason that taxpayer collected an 22 extra amount that was deemed to be tax and the 23 taxpayer paid that tax to the Board. So the two big 24 differences between the facts on the annotation and 25 the current case is, number one, in the annotation 26 there was no mention that another state's tax was 27 being collected. And number two, by the other 28 taxpayer paying the tax to the Board and filing a 17 1 claim for refund, the other taxpayer was treating it 2 as California tax. 3 So you have facts which would lead a 4 reasonable mind to conclude that the -- in the 5 background facts in that annotation it was 6 understood to be California tax, not another state's 7 tax. So we're saying that the annotation just 8 simply does not apply. The relevant facts are 9 different and Appeals relied on it, and it should 10 not have relied on it. 11 Um, since everyone agrees that the tax was 12 not represented or collected as California tax to be 13 paid to the state, it cannot by excess tax 14 reimbursement by definition, nor do the rules under 15 Regulation 1700 apply. They just simply do not 16 apply. 17 And the Department, even in its 18 presentation today, and in the D&R and the SD&R, the 19 Department and Appeals has not explained how tax, 20 which everyone agrees was not California tax, 21 becomes California excess tax reimbursement simply 22 by not -- simply because it was not paid to the 23 other state. 24 Okay, the simple answer to this question is 25 they can't come up with an answer because there is 26 no legal authority. Section 6901.5 does not -- does 27 not support the Department's or the Appeals' 28 position. There's no legal authority that supports 18 1 this position or any reasoning which the Department 2 or Appeals has taken in this case. 3 The bottom line is that the Appeals' 4 conclusion is -- it's not based on the facts, it's 5 not based on the law, and we are simply asking the 6 Board to grant this petition because 6901.5 and 7 Regulation 1700 and the rules in Regulation 1700 8 simply do not apply to this type of situation. 9 It's not California tax. The Board just 10 simply does not have jurisdiction over the matter. 11 It's a matter between the taxpayer, its customers, 12 and the other states. 13 Thank you. 14 MS. MA: Okay, thank you. 15 Mr. Runner. 16 MR. RUNNER: Yeah, let me go through a 17 couple of -- of things here. Um, in the -- the 18 illustration that -- or in the invoice that you gave 19 us as a copy -- 20 MR. McCLELLAN: Mm-hmm. 21 MR. RUNNER: -- um, which is a South 22 Carolina? Yes, South Carolina invoice. 23 MR. McCLELLAN: Yes, sir. 24 MR. RUNNER: Um, so the tax was collected 25 by the retailer. 26 MR. McCLELLAN: By petitioner, yes. 27 MR. RUNNER: By the petitioner, yeah. 28 Uh, were -- were they registered in South 19 1 Carolina? 2 MR. McCLELLAN: That particular invoice is 3 meant to serve as an example. I don't know the 4 answer to that question. 5 MR. RUNNER: You don't -- that's not 6 relevant, you don't think? 7 MR. McCLELLAN: No. The -- really what 8 we're looking and what we're asking the -- the Board 9 to do here is -- 10 MR. RUNNER: Let me -- let me broaden the 11 question. 12 MR. McCLELLAN: Okay. 13 MR. RUNNER: Were they reg- -- were 14 there -- were there states where they collected this 15 tax and they were not registered? 16 MR. McCLELLAN: Yes. 17 MR. RUNNER: Okay. What was the intent 18 then? 19 MR. McCLELLAN: Well, the -- really the -- 20 the intent, you would have to go back to the person 21 that set up the software system. Um, the person 22 that set up the software system, as we at least 23 speculate occurred, clicked the button that, as an 24 example, clicked "South Carolina." 25 MR. RUNNER: Mm-hmm. 26 MR. McCLELLAN: When, in fact, the taxpayer 27 wasn't registered in South Carolina, so it wasn't 28 preparing returns. 20 1 MR. RUNNER: Okay. So it was an error. 2 MR. McCLELLAN: It was an -- it was an 3 error with the programming of the software. 4 MR. RUNNER: So it was an error. 5 MR. McCLELLAN: Yes. 6 MR. RUNNER: Um, and this particular error 7 took place in 2006 that you gave us this for? 8 MR. McCLELLAN: That's an example. I don't 9 know that that is -- I don't know if they're 10 registered -- 11 MR. RUNNER: Okay. 12 MR. McCLELLAN: -- or were registered in 13 South Carolina. 14 MR. RUNNER: I'm not talking about 15 registration. But this -- 16 MR. McCLELLAN: Okay. 17 MR. RUNNER: -- particular error in terms 18 of the collection of the tax without remitting to 19 that state -- 20 MR. McCLELLAN: Yes. 21 MR. RUNNER: -- in 2006, was an error. 22 MR. McCLELLAN: That's correct. 23 MR. RUNNER: Okay. When was the error 24 discovered? 25 MR. McCLELLAN: During the audit. 26 MR. RUNNER: Which was -- give me a -- give 27 me a date. 28 MR. McCLELLAN: It was -- it was really -- 21 1 we weren't involved with the process. From looking 2 at the record, the best we can tell is that it was 3 discovered sometime after the audit process was 4 complete and potentially during the appeals 5 process. 6 MR. RUNNER: So give me a date. 7 MR. McCLELLAN: Um, I don't actually have a 8 date. 9 MR. RUNNER: Give me a year. 10 MR. McCLELLAN: I don't have a year. I'm 11 sorry. 12 MS. MA: They probably have it. 13 MR. RUNNER: Okay. Let me go back to -- 14 when would that have been if it was after the audit? 15 MR. CLAREMON: The original audit report 16 was September 2010. 17 MR. RUNNER: Okay. So let's say it's 18 2010. 19 MR. McCLELLAN: I don't think it would have 20 been because based on a reading of -- the initial 21 audit assessed $2 million. 22 So the audit report that was initially 23 issued made an assessment for all of the tax that 24 they had collected. So it was really through a lot 25 of work and effort by both sides, both the 26 Department and the taxpayer, of going through 27 this -- and there's still amounts, for 28 example that -- 22 1 MR. RUNNER: Okay, hold on. Hold on, just 2 a minute. I'm trying to get to a date when the item 3 was -- when the error was discovered. 4 MR. McCLELLAN: Okay. 5 MR. RUNNER: Okay. You had told me that it 6 was -- at least you just reported that it was at the 7 end of the audit. They just gave me the date of the 8 end of the audit. And now you're disagreeing with 9 that. 10 MR. McCLELLAN: Yes, well -- 11 MR. RUNNER: Okay. So give me the date 12 when you think -- when it was discovered. 13 MR. McCLELLAN: To clarify, it would have 14 occurred sometime during the appeals process. 15 Because the audit was issued, there was a very large 16 liability which represented the tax -- 17 MR. RUNNER: Was it three years ago, two 18 years ago, five years ago? 19 MR. McCLELLAN: It was -- it would have 20 been -- yes. 21 MR. RUNNER: Okay. So, the error was 22 discovered. Let's say -- let's just pick a 23 number -- four years ago. 24 MR. McCLELLAN: Okay. 25 MR. RUNNER: Okay, let's just pick a 26 number. The error was discovered four years ago. 27 What has Body Wise done to, um, return the money 28 that was -- that was, uh, collected in error? 23 1 MR. McCLELLAN: Well, to some -- for part 2 of it, because this error wasn't recognized for a 3 long period of time, some of it's paid to the -- 4 been paid to the State of California. And a claim 5 for refund has been filed for that. So they've paid 6 124,000 to the State of California. 7 And otherwise what they've been doing is -- 8 is arguing -- 9 MR. RUNNER: Has it all been paid to the 10 State of California? 11 MR. McCLELLAN: Not all of it. 12 MR. RUNNER: Okay. So the part that wasn't 13 paid to the State of California, what have they done 14 over the last three or four years back to the 15 consumers or to the -- or to a state, which I guess 16 is in one alternative. 17 MR. McCLELLAN: They've sought to resolve 18 the issue with California, is what they've done. 19 That's been the focus. 20 MR. RUNNER: So they're not -- there's no 21 intent then to return the money to the consumer. 22 MR. McCLELLAN: That's not what I said. 23 MR. RUNNER: Why wasn't there an effort 24 made to do that? 25 MR. McCLELLAN: There has been significant 26 efforts made, including us sitting here today, to 27 resolve this so they can address this with their 28 customers. 24 1 MR. RUNNER: Well, you don't need to come 2 here to return the money to the consumer. 3 MR. McCLELLAN: Well, actually we do. 4 MR. RUNNER: Why? 5 MR. McCLELLAN: Because California's made 6 an assessment -- 7 MR. RUNNER: Well let me ask you -- 8 MR. McCLELLAN: -- that's due and 9 payable. 10 MR. RUNNER: Let me go back to Appeals. If 11 indeed the money that was collected, um, in the 12 excess, um -- the excess reimbursement that was 13 collected was returned to the consumer -- 14 MR. ANGEJA: We wouldn't be sitting here. 15 MR. RUNNER: -- we wouldn't be sitting 16 here, correct? 17 MR. ANGEJA: The regulation compels that 18 they pay it to the customer or to the state. 19 MR. RUNNER: Okay. 20 MR. ANGEJA: They paid it to the 21 customer -- 22 MR. RUNNER: So again, let me ask you, 23 why -- why wasn't -- why did Body Wise choose not to 24 resolve this issue as simply as returning the 25 excess, uh, collection back to the consumer? 26 MR. McCLELLAN: Well, the way that my 27 client understood it and the way that I've looked at 28 this case and understood it is that to the extent 25 1 it's been paid to another state, then there's been a 2 credit provided. Or to the extent that it's paid to 3 Canada, there's been an offset in the audit. 4 The audit started at $2 million. They 5 eventually got to the point where they realized what 6 occurred. It was -- it was a long process through 7 both sides working through it. Um, as we sit here 8 today there has been notifications to these 9 distributors, for example, and to the area -- area 10 managers, that this is an issue that they're 11 addressing. And once it's resolved, the idea is to 12 provide a credit to their customers. But -- 13 MR. RUNNER: Why -- why -- okay, knowing 14 all that, why wouldn't you bring that -- that plan 15 to the Board now so we can see that? So then -- 16 See here's -- here's the challenge that I 17 have. We -- honestly, I feel like we -- I feel like 18 there's an enriched, uh, retailer out there. Um, 19 and I'm feeling like there was ways for them to 20 resolve this issue before it even came to us. That 21 was just returning the excess collection back to the 22 consumer. 23 So, it seems to me it could have been done 24 earlier and we wouldn't even be here. Or it could 25 be done now with your -- with a plan coming forth so 26 that we don't have to make a decision whether or not 27 the State of California should get that money or 28 whether the consumers get that money. 26 1 I think the consumers should get that 2 money. But right now I have no reason to believe 3 that the retailer would do that because there's been 4 years of collection that they've been sitting on 5 that they chose not to do that. 6 MR. McCLELLAN: And -- and I -- I totally 7 respect the -- the concern. And it's a concern that 8 we addressed with our client at the forefront of 9 this. They understand that they can't simply retain 10 this. 11 Not -- I don't view it as a California 12 issue. I -- I have more concern with the states 13 that the destination is made. 14 Really what we're here today to do is to 15 ask the Board to address the legal issue. I -- I -- 16 I completely understand -- 17 MR. RUNNER: If we address the legal issue 18 and find what it is that you are asking for us to 19 do, we have no indication other than what you're 20 telling us -- 21 MR. McCLELLAN: Mm-hmm. 22 MR. RUNNER: -- that the intent of Body 23 Wise is to return the money to the consumer. 24 MR. McCLELLAN: Well, I would -- I would -- 25 MR. RUNNER: Or -- or keep the money. 26 MR. McCLELLAN: I would suggest that there 27 would still be a statute of limitations there. 28 There's also money that they've paid -- 27 1 MR. RUNNER: There'd be a statute of 2 limitation -- 3 MR. McCLELLAN: Well, the Department could 4 always go back to the taxpayer and see what was done 5 and if -- frankly, if they didn't do what they said 6 they were going to do, then that could be something 7 that would be addressed. 8 But as it pertains to unjust enrichment 9 and -- and the examples in the law that we see, 10 those are scenarios that pertain to tax that is 11 collected from California. And in this case we're 12 essentially -- well, we as -- as the State of 13 California, or the Board if you will, is seeking to 14 administer taxes of other states. 15 MR. RUNNER: Why would you even want to 16 bother bringing this to us when it could be resolved 17 by simply returning the money and not having to 18 address that question? 19 MR. McCLELLAN: That's -- that's a good 20 question. But -- but I think that the question 21 we're asking to have answered is whether or not 22 6901.5 applies at all. And if it doesn't, then it's 23 a matter -- 24 MR. RUNNER: If the retailer would have 25 done the right thing, we would not even be here -- 26 MR. McCLELLAN: Well -- 27 MR. RUNNER: -- to answer that question. 28 That question wouldn't even be on the table. 28 1 MR. McCLELLAN: I -- I respect that you see 2 that perhaps they didn't do the right thing. 3 It's -- 4 MR. RUNNER: You think they did the right 5 thing? 6 MR. McCLELLAN: Well, I think that what 7 they're doing is within the law and that they intend 8 to give it back to their customers. 9 So, I think -- 10 MR. RUNNER: And the indication we have for 11 them and their intention to do that is what? 12 MR. McCLELLAN: Well, they're trying to get 13 out of the issue that the Department has created. 14 They've paid a large percentage of this to the Board 15 of Equalization. And we're here today to try to 16 resolve this issue so they can address it with their 17 customers, which they see it as being an issue 18 between them and their customers. 19 So what we're asked to do is to -- to -- 20 when I was talking with my client, their question to 21 me, for example, is, "Well, why does California have 22 a claim to these amounts?" 23 Well, I don't have an answer for that. 24 MR. RUNNER: Okay. 25 MR. McCLELLAN: And ultimately, why are 26 they -- you know, why would we have to act under the 27 guise of the Board of Equalization for an issue with 28 a client or for a customer in another state? Again, 29 1 I don't have an answer for that. 2 MR. RUNNER: Okay. 3 MR. McCLELLAN: That's one of the reasons 4 why in our presentation we're posing these 5 questions, so we can have answers to those. 6 I think they're reasonable. I think a 7 person -- I think it's reasonable for a person and a 8 business to -- to the extent they have the right to 9 address an issue directly with their customer, that 10 they be able to exercise that right. 11 If the amounts are truly due California, we 12 don't have a dispute. And as the Department pointed 13 out, there -- there appears to be some 14 reconciliation differences with respect to 15 California. Those are not at issue. We're not 16 saying, look, leave the taxpayer alone, let them do 17 what they want with respect to those amounts. But 18 as it pertains to other states, we believe that the 19 law doesn't apply. 20 MR. RUNNER: Okay, thank you. 21 MR. McCLELLAN: Thank you. 22 MR. KHAN: May I just add something? It's 23 just conversations that -- 24 MR. RUNNER: Very quickly. Very quickly. 25 MR. KHAN: Yes, I will. 26 Um, in the conversations with the taxpayer, 27 basically their question was, "Well, if this is not 28 California tax, then why is the Board trying to tell 30 1 me what I have to do with the money?" 2 And our answer was, "Well, that's a good 3 question." 4 And the taxpayer -- and the reason why 5 we're here at the Board hearing today is because the 6 taxpayer wanted to get, uh, the petition granted on 7 the basis that it's recognized that this is not 8 California tax. So it's basically the taxpayer just 9 wants to be able to make the final decision without 10 the Board forcing it -- 11 MR. RUNNER: And that issue is so important 12 to the taxpayer that he's willing to keep other 13 people's money. 14 MR. KHAN: Well, I -- I can't say the 15 motivation of the taxpayer. But the question just 16 simply became -- 17 MR. RUNNER: Okay, thank you. 18 MR. KHAN: -- if this isn't -- 19 Thank you. 20 MS. MA: Okay. Ms. Harkey. 21 MS. HARKEY: Okay. Um, I think that 22 Mr. Runner kind of went through all of the points 23 that we're all questioning here. And I think this 24 is a very difficult case for you to be pursuing. So 25 I think that's why Member Runner was trying to get 26 to the bottom line as to what happened with the 27 money. 28 Um, was perhaps, uh -- I mean if the -- if 31 1 Body Wise International is truly retaining the 2 excess tax amounts, that would mean to me it's part 3 of the sales price. Did they report that as part of 4 their income? I mean, did they make an income 5 adjustment for income tax purposes? 6 'Cause you're kind of going around and 7 around here and I don't understand. You got the 8 money. What'd you do with it? 9 MR. McCLELLAN: Well, to -- so, in total I 10 believe there's, let's just call it $220,000 total 11 at issue between the two periods. 12 MS. HARKEY: Now I think it's down to 61 -- 13 or 67. Yeah, almost -- 14 MR. McCLELLAN: Well, as the Department 15 pointed out, this issue wasn't fixed, if you will, 16 for a period of time. So there's another audit 17 period. 18 Now, $124,000 of it sits in the Board of 19 Equalization accounts. Um, so the other amount 20 obviously is -- is still with, um, the taxpayer. 21 As it pertains to their income tax 22 reporting practices, um, I -- I can't speak to that. 23 But we -- we completely respect the Board's concern 24 here. 25 What we're asking the Board to do, and 26 obviously the decision is up to -- to all of you to 27 make the decision, is to look at the law. And 28 there's cases oftentimes where the result sort of 32 1 pains you because the right decision under the law 2 is such that you're telling perhaps a -- a 3 mom-and-pop grocery store that they have to pay a 4 large liability. And it's -- it may not sit right, 5 but ultimately that's what the law dictates. 6 That really is our focus here. I've been 7 given unequivocal assurances by my client that they 8 intend to address this with their customers and to 9 give a refund via credit to their customers; to 10 their distributors, primarily, that essentially work 11 for them. These products are resold, generally 12 speaking, to the end customer. 13 Um, and -- and -- and that's really what 14 we're here to do, is to ask whether or not under 15 6901.5 where there's a recognition that it's not 16 California tax, if it's an assessment that can be 17 made, um, and due to California. Because if these 18 aren't paid -- 19 MS. HARKEY: Mr. McClellan -- 20 MR. McCLELLAN: Yes. 21 MS. HARKEY: -- I'm sorry. 22 MR. McCLELLAN: Okay. 23 MS. HARKEY: I've heard you. 24 MR. McCLELLAN: Okay. 25 MS. HARKEY: I've heard all of this. 26 MR. McCLELLAN: Right. 27 MS. HARKEY: With all due respect -- 28 MR. McCLELLAN: Mm-hmm. 33 1 MS. HARKEY: -- I want to allow you your 2 time. 3 MR. McCLELLAN: Okay. 4 MS. HARKEY: But I'm not completely 5 convinced that the Board has this broader authority. 6 But what I am also not convinced of is that 7 there's any intent, uh, to just -- to just retain 8 the money or not to report it as income. I don't 9 know what -- and I think I have to go back to what 10 Senator Runner said -- 11 MR. McCLELLAN: Mm-hmm. 12 MS. HARKEY: -- that it's just really, it's 13 tough to determine what it is this is. If it's not 14 taxes due to California, then it's got to be part of 15 your -- part of your sales -- part of the sales 16 price. And if it's part of the sales price, then 17 minus all the expenses, it's got to break down and 18 go into net income somehow. 19 And if it didn't go into net income and 20 you're not reporting it as a part of your sales 21 price, and you're reporting it as tax and you're not 22 remitting it, and you knew you had a glitch, um, I 23 just -- you know, as much as we can correct, I -- 24 MR. McCLELLAN: They didn't know of the 25 glitch. 26 MS. HARKEY: Excuse me. I -- 27 MR. McCLELLAN: Sorry. 28 MS. HARKEY: I'm just really, you know, 34 1 I -- if -- if the taxpayer's intent is to keep the 2 amounts represented as tax and we have no other way 3 of finding out what it is we're really going to do 4 with this -- 5 MR. McCLELLAN: Mm-hmm. 6 MS. HARKEY: -- I have to kind of rule on 7 the side of the Department, because what they've got 8 is pretty clear. And I'd like to help you, but I'm 9 just not sure I can get there on this. 10 MR. McCLELLAN: I -- 11 MS. HARKEY: Thank you. 12 MR. McCLELLAN: I respect your concerns. 13 And, um, ultimately, I -- the only thing that I can 14 say is what I've been told by my client. 15 MS. HARKEY: Right. 16 MR. McCLELLAN: Which is that they fully 17 intend to. And it makes perfect sense to me that 18 they would frankly have to. Given the circumstances 19 that we're in a public hearing now, um, it's well 20 understood what took place, that they have to 21 address this with their customers. 22 MS. HARKEY: I think you're in a tough 23 position coming into this so late. I appreciate -- 24 MR. McCLELLAN: Yes. 25 MS. HARKEY: I appreciate it. Thank you. 26 MS. MA: Any other questions? 27 No? Okay. 28 MR. RUNNER: Um -- 35 1 MS. MA: Mr. Runner. 2 MR. RUNNER: Here's the dilemma I'm in, and 3 that is I'm hesitant to find for the Department 4 because I really don't want California to be 5 enriched in this process either. I want the 6 consumer to get their money back. 7 Um, so let me just ask Appeals a couple of 8 paths here that we might try. 9 If we were to go with a 30/30/30, continue 10 the hearing, and then during that time the, uh, 11 taxpayer could demonstrate then their plan and -- 12 and assure us that money was being refunded, the 13 excess collection was being refunded, could that 14 happen during that 30/30/30 period of time? 15 MR. ANGEJA: It might take longer than the 16 30/30/30. 17 MR. RUNNER: Okay, got it. 18 MR. ANGEJA: But it could be arranged, 19 yes. 20 MR. RUNNER: And ultimately then, if we 21 continue the hearing, if things didn't then work 22 out, they'd be back in front of us to deal with 23 it. 24 MR. ANGEJA: Yes. 25 MR. RUNNER: Okay. Then I'll make a motion 26 for a 30/30/30, uh, with that as the intentions, um, 27 I think as I just shared, that they would indeed 28 come up with a plan that would indicate -- work that 36 1 out with the Department. And indeed if the 2 Department was satisfied with that, then it could be 3 settled. If it can't be satisfied, then we'd be 4 back here to talk about it some more. 5 MS. HARKEY: I would second that. 6 MR. HORTON: Madam Chair, just a question 7 of the Department. 8 MS. MA: Mr. Horton. 9 MR. HORTON: And possibly Appeals. 10 The plan itself, is that sufficient, or 11 does the law require that the refund take place? 12 MR. HANKS: Mr. Horton, typically in these 13 situations we would look to see that the refund has 14 taken place or a credit's been offered -- 15 MR. RUNNER: Mm-hmm. 16 MR. HANKS: -- to those customers. And 17 if -- if notification is -- is made of those 18 customers that -- that there's going to be a credit, 19 assuming those customers have an accounts 20 receivable, then that's sufficient for us. 21 MR. RUNNER: Yeah, I would -- I'd agree 22 with the concern that Member Horton has. I think I 23 would -- I think this means more than just, hey, 24 here's a written plan. We need to have the 25 assurances that the Department is satisfied that the 26 law is met. 27 MR. HANKS: Right. 28 MR. HORTON: Yeah. Under that, I would be 37 1 supportive as well. 2 MR. ANGEJA: If we had some flexibility 3 with a 30/30/30? It might take more time. 4 MR. RUNNER: Yes, you have flexibility with 5 a 30/30/30. 6 MS. MA: Okay. So, um, there's a motion by 7 Mr. Runner, seconded by Ms. Harkey, for a 30/30, 8 with some flexibility. Um, and if it doesn't 9 satisfy the Department, then we will be back on the 10 credits or refunds. Okay. Thank you. 11 MR. McCLELLAN: Thank you, Members. 12 MS. MA: Without -- without opposition, 13 such will be the order. 14 ---oOo--- 15 16 17 18 19 20 21 22 23 24 25 26 27 28 38 1 REPORTER'S CERTIFICATE 2 3 State of California ) 4 ) ss 5 County of Sacramento ) 6 7 I, Kathleen Skidgel, Hearing Reporter for 8 the California State Board of Equalization certify 9 that on January 25, 2017 I recorded verbatim, in 10 shorthand, to the best of my ability, the 11 proceedings in the above-entitled hearing; that I 12 transcribed the shorthand writing into typewriting; 13 and that the preceding pages 1 through 38 constitute 14 a complete and accurate transcription of the 15 shorthand writing. 16 17 Dated: February 14, 2017 18 19 20 ____________________________ 21 KATHLEEN SKIDGEL, CSR #9039 22 Hearing Reporter 23 24 25 26 27 28 39